Stablecoins in a nutshell. Why they are so popular?
Stablecoins are the rave of the moment in the crypto industry. For a cryptocurrency to attract mainstream adoption, its features should include price stability, privacy, scalability and decentralization.
A stablecoin is a cryptocurrency that is backed by a real-world asset like gold or dollar. A stablecoin is often pegged to U.S dollar. It has low volatility and is not tied to a central bank. There has been a massive increase in the number of stable coins that have been developed in the past one year. These projects are being developed by new start-ups as well as existing businesses in the crypto industry. Some of them include Paxos standard, the US dollar coin by Goldman Sachs-backed Circle and Gemini Dollar from the Winklevoss twins. Blockchain reports have it that there are over 57 stablecoins in development, with 23 already live.
A central authority or a Decentralized Autonomous Organization (DAO) can issue stablecoins. If done in a decentralized way, DAO issued stablecoins offer additional transparency.
Why are stable coins popular?
It is very common for cryptocurrencies like Bitcoin or Ethereum to swing up or down by 10-20% at any time. This extreme volatility has hindered mainstream adoption and made usage of such cryptocurrencies for daily transactions difficult. You do not want to pay for an item today only to find out the next day that it should have cost $1 less.
Due to this price instability, cryptocurrencies are perceived by a lot of speculative investments instead of assets or currencies. The adoption of stablecoins will seemingly incentivise mainstream adoption. While value can be transferred digitally using stablecoins, they offer trust in traditional currencies as well as stability which other cryptocurrencies cannot boast of just yet.
Banks thread with caution when it comes to crypto-related matters for compliance reasons. For this reason, cryptocurrency exchanges prefer to use stable coins as a liquidity tool. During high volatility periods, traders and investors would need to buy out of crypto into fiat. Stablecoins provide a solution to this problem.
In addition, stablecoins could permit for more complex financial products like loans, smart contract dividend payments and insurance to be built on cryptocurrency.
Tether - the most popular stablecoin
With a 60% BTC daily trading volume, Tether (USDT) is the second most actively traded cryptocurrency as well as the most popular stablecoin. Many exchanges use USDT to offer liquidity in place of US dollar. Tether is reportedly backed by US dollar in a reserve account and is pegged at $1.
Unlike other cryptocurrencies, stablecoins do not have a fixed supply and are backed by collateral in other to protect investors from the negative effects of market volatility. Price stability also means they would be suitable for daily transactions. However, the lack of volatility reduces the chances of stablecoin investors making any profits.
Stablecoins, however, face challenges of scaling, as well as scrutiny from regulations as they look more like fiat.