A dollar3.5 billion bet on bitcoin becoming a ‘reserve currency’ for crypto is being put to the test
Categories: Bitcoin US
A multibillion-dollar bet that bitcoin can act as a “reserve currency” for the crypto economy is already being tested as UST, a controversial stablecoin, struggles to maintain its $1 peg.UST dropped close to 99 cents over the weekend, fueling fears of a potential “bank run” that could force Terra, the project behind it, to dip into a $3.5 billion pile of bitcoin to support the token.Now, the Luna Foundation Guard, an organization created by Terra’s inventor Do Kwon, says it will lend out $750 million in bitcoin to trading firms to hold UST’s price peg. But that’s done little to assuage investors’ concerns about the implications for bitcoin. Developed by Singapore-based Terraform Labs, UST is what’s known as an algorithmic stablecoin. It aims to carry out the function of stablecoins like tether, which track the price of the U.S. dollar, but without any actual cash held in a reserve to back it.Instead, UST — or “terraUSD” — is created by destroying a sister token, known as luna, using smart contracts, lines of code written into the blockchain.“If you’ve got, say, $405, and you burn one luna, you should be able to mint 405 of the UST stablecoin,” Carol Alexander, professor of finance at the University of Sussex, explains. The same applies vice versa — new luna is minted by burning UST and other algorithmic stablecoins that Terra supports.The model is designed to even out supply and demand for UST. When the price of UST is too high, users are incentivized to burn luna and create new UST, increasing the stablecoin’s supply while also decreasing the amount of luna in circulation.“This assumes normal market conditions,” said David Moreno Darocas, a research analyst at CryptoCompare.“During periods of high volatility and one-sided buy/sell activity for UST, the above stabilizer may not be sufficient to maintain the peg in the short-term.” There have been multiple instances where UST has decoupled from its $1 peg, raising concerns about the viability of its economic model — particularly in a situation when several people try to redeem their tokens at once.“In the case of most of these algo stablecoins, we have seen that the teams behind the project usually need to step in — so these are not fully decentralized or managed independently yet,” said Vijay Ayyar, head of corporate development and international at crypto exchange Luno. The plan is to eventually allow UST holders to redeem their tokens in exchange for bitcoin. Bitcoin would play the role normally taken by luna in a crisis scenario, with arbitrageurs buying UST and then swapping it for discounted bitcoin. But this is still weeks away from being implemented, and it’s unclear how it would work in practice.The biggest risk moving forward would be another depegging of UST forcing LFG to liquidate its bitcoin holdings, said Hendo Verbeek, head of quantitative trading operations at Faculty Group. That could, in turn, result in further liquidations of “over-leveraged” buyers, according to Verbeek.