De-Pegging And De-Pegging Concerns: Will The Terra And Tether Debacle Impact Stablecoin Assets In The Future?

 

Last months saw another cryptocurrency spiral in the form of Terra’s billion-dollar collapse. It is not uncommon for crypto markets to rise and fall; the fluctuation of valuation is implicit in the nature of the sector, but Terra’s sister coin LUNA’s 99% drop is something that has shocked investors worldwide. 

Tether has also undergone a dramatic decrease in valuation, with $7.4 billion being knocked off its previous $83 billion value. So what exactly has happened, and how might it impact stablecoin assets in the future? To understand that, we must first grasp the nature of Terra and Tether as stablecoins and the concept of de-pegging that has put them into the world’s spotlight. 

What Are Terra And Tether?

Terra and Tether are stablecoins that run at a 1-1 peg with the US dollar. This essentially means that, unlike other coins, both of them use a stable asset to determine their value. For instance, while the valuation of Ethereum coins will be determined by supply and demand, Terra and Tether are tied to the US dollar, which acts as a reserve for the owner and lessens the volatile nature of the crypto market. 

In essence, the prices of Terra and Tether are supposed to be locked into place through pegging. Their stability can then allow stablecoins to be used as a functional currency while also having the usual advantages of any cryptocurrency, such as the security of the blockchain, the lack of a middle man, efficient and fast transfers, and transaction pseudonymity. 

What Is The Process Of Pegging?

Traditionally, pegging is a method to control a country’s currency by tethering it to another country’s currency. This then averts the problem of fluctuation valuations, as the countries can keep their finance relatively stable alongside the finance that they are pegged to.

This concept is much the same when it comes to cryptocurrency. If a coin like Tether and Terra are pegged to the US dollar, they can remain stable in the cryptocurrency market, while other crypto coins rise and fall with little way to predict which way they will go. This is undoubtedly an advantage for those looking to invest in crypto but who are concerned about losing out to a volatile market.

For these investors, stablecoins are designed to alleviate the concerns and, quite aptly, provide some stability. This was the hope, anyway. As it turns out, keeping a cryptocurrency pegged to a stable asset is more complicated when put into practice. As of early June 2022, Terra dropped to lows of $0.29, with Tether feeling the fallout with a comparative drop of $0.95. Tether and Terra have become untethered. 

So How Did This Happen?

To provide a timeline, on May 7th, over $500 million crypto coins were withdrawn from Anchor, which left just $300 million to support the $14 billion Terra coins which had previously been deposited. Because of this, the users of Terra withdrew a further $3.8 billion, causing its sister cryptocurrency LUNA to drop by over 10%. 

As more and more users withdrew their coins, the value of Terra began to tumble, dropping down to $0.65 just two days later, thus causing its de-pegging from the $1 US dollar. Due to its size and status as a stablecoin, when its value plummeted, it also caused every cryptocurrency to be affected, with the third-largest, Tether, similarly falling behind the peg.

What Does This Mean For The Future Of Stablecoin?

Before May, it was believed that the fluctuations of other cryptocurrencies would not actually impact the price of stablecoins like Tether and Terra. Clearly, that has not yet become the case. Despite this, however, Tether has still reassured its users by stating that it would honour all redemptions during times of volatility, with $10 billion worth of tokens so far being redeemed. 

Similarly, Terra are working on a deal for investment from institutional investors in the hope that fundraising cash will help to restabilise the peg in good time. Do Kwon, the founder of Terraform Labs, calmed their users that the Terra ecosystem was ‘one of the most vibrant in the crypto industry’ and that its ‘return to form will be a sight to behold.’ 

Of course, both Tether and Terra investors are not wrong to be worried about the price drop. With the crypto media storm raging this month, many people who aren’t even invested in stablecoins will undoubtedly glance at their coins and wonder when might be the best time to cash out. But it is worth remembering that Tether has had similar declines in the past. With each decline, the coin has a more substantial chance of moving back to its peg and staying there in the long term.

It is important to note that the concept of stablecoin is still in its infancy stage, meaning that it may take a bit of time and a few fluctuations, both small and drastic, before it can become genuinely stable with its assets. With this in mind, it would be imprudent to suggest that this drop means the future of stablecoin has been destroyed.

What Does It Mean For Cryptocurrency As A Whole?

For cryptocurrency, it is fair to say that the whole debacle will have shaken investor confidence. However, a lot of people invest in cryptocurrency in the hope that they will be rewarded with more money in the long run. They understand that while the price will rise, the price will also fall. Therefore, the way out for crypto depends mainly on the reaction of investors themselves. 

Due to the very nature of the market, it is likely that people will continue to invest and hold their coins in the hope of a spin in the opposite direction. There is, of course, a lot of work to do for both Terra and Tether. But if we have indeed seen the worst of this crash, there is every chance that the only way from here is up.