Further Stablecoin Collapses Fuel Credibility Problem

Say one thing for algorithmic stablecoins like the one that collapsed in a $48 billion bank-run-style blaze of glory in May: They’re tenacious.

Or rather, their believers and investors are tenacious. Way too tenacious for the good of the fiat-pegged cryptocurrencies’ own future.

Despite the enormous losses the Terra/LUNA stablecoin ecosystem’s collapse, more algorithmic stablecoin projects are being launched and several have already “broken the buck” by losing their peg.

That’s exacerbated by the loss of peg suffered by the No. 1 stablecoin, Tether’s reserve-backed USDT, for several months in the wake of the Terra/LUNA collapse.

On Friday (Aug. 26), the Neutrino USD algorithmic stablecoin, USDN, suffered its second major loss of peg this week, dropping briefly to $0.91 and a dip to $0.96. It has been at least a little below peg since Aug. 6, thanks to liquidity problems, according to CoinDesk.

“We have to work on the algorithm,” Sasha Ivanov, founder of USDN, told the crypto news outlet. Which is kind of a problem for a digital asset claiming to have a stable value.

Define “Stable”

Another higher-profile stablecoin — USDD, launched on the Tron blockchain — dropped below $0.93 during a three-week dip in June and July. It was launched at the beginning of May, just one week before Terra/LUNA began its week-long collapse on May 9. It was launched by Tron Founder Justin Sun, a well-known self-marketer best remembered for having paid $4.5 million for a very high-profile lunch with Berkshire Hathaway CEO Warren Buffet — which he had to delay because of illness.

When USDD hit $0.97 on June 17, two days before bottoming out, the decentralized organization’s foundation tweeted that a “certain % of volatility is unavoidable. Currently, the market volatility rate is within +- 3%, an acceptable range.”

Which leads to an inevitable question: How do algorithmic stablecoin issuers even define the concept of “stable?”

There are two problems. First, they’re doing enormous damage to stablecoins’ credibility as a payments currency at the worst possible moment — when the regulations are being written in the U.S., EU and around the world.

Second, they’re doing that damage at another incredibly important moment for stablecoins: When they are starting to be used for payments outside the cryptocurrency industry.

The Terra/LUNA algorithmic stablecoin’s $48 billion collapse in May has been a prime topic of stablecoin regulators’ and legislators’ focus, and it’s looking like they will be banned with mandates that stablecoins be backed 100% by reserves of fiat or highly liquid investments like short-term U.S. Treasuries.

See also: A Primer on US Stablecoin Regulations

Speaking more broadly of reserve-backed stablecoins like USDC and USDT, Steven Kelly, a senior research associate at the Yale School of Management’s Program on Financial Stability, told the Financial Times on Aug. 11 that “the problem that underlies the stablecoin story[is] they can only import stability, not manufacture it, making them a net drain of stability from the financial system.”

He added that “bank deposits do not currently need to be backed by safe assets on a one-for-one basis, but that would change if those deposits moved on-chain via a nonbank stablecoin.”

Usage Growing

Stablecoins have two main uses inside the crypto industry. These are lubricating cryptocurrency trading and as the store of value distributed in decentralized finance’s (DeFi) crypto lending platforms. (The latter are having their own separate Terra/LUNA-created credibility problem, as the resulting bankruptcies highlighted how risky they are.)

See also: How a Stablecoin’s $48B Collapse Rippled Across Crypto

But stablecoins — dollar reserve-backed stablecoins — are having a breakout moment as they move into a real-world payments role, according to Stephen Pair, CEO of crypto payments technology firm BitPay, which helps merchants accept cryptocurrencies.

While people are spending less as the value of bitcoin and most other digital assets plummeted this year, “a lot of the volume has shifted over to stablecoins as opposed to using bitcoin or ether or the more volatile cryptos to make purchases,” he told PYMNTS Karen Webster recently.

Read more: BitPay CEO Says Stablecoin Payment Volumes Doubled in 2022

It has jumped from an already fast-growing 12% to 13% in January to 20% to 25% in August, he said.

Whether that percentage will continue to grow remains to be seen. Especially if crypto investors keep backing a limping horse in the stablecoin race.

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