Cryptocurrencies were formed to be a served as a new way of exchange and not to just store values. But because of the small market cap even the most popular crypto like dogecoin, bitcoins also have to suffer the wide inflation in price.
Smaller market caps, like small ponds, are easy to would equally so in terms of individual buy and sell orders–this leads to sharp fluctuations in value. Conversely, the huge expanse of a larger market cap (like oceans) will withstand these changes more resiliently. The volatility makes it tough for cryptocurrencies hoping to be widely used as payment systems.
If the incentive system is not strong enough, then incentives for various challenges faced by businesses building and maintaining their customer base are removed. For example, there will be no need to attack leaders in order to stop them building new services; if these services were built entirely using cryptocurrency transactions or contracts which kept fees low because they were denominated in digital money (as much of Google was done already), then all one does when attacking leaders directly is merely increase their resistance.
Imagine how hard it is to use Bitcoin or any other cryptocurrency for day to day transactions and trading purposes when one day it’s worth X and the next day it’s worth half of that.
What Are Stablecoins?
A stablecoin is also know as fiat currency as its value is pegged to real world. For example, the Stablecoin known as Tether, or USDT, is worth 1 US dollar and is expected to maintain this peg no matter what.
Stablecoins were formed to get used for fast and quick settlements allowing the ease of cryptocurrency having very few regulations along with stablities like flat currency. Like any other coin the most common usage of this coin could be using stablecoin in everyday purchases. But since these coins aren’t very popular at the moment, no one really accepts them as a payment method.
What Are The Uses Of Stablecoins
There are several uses of stablecoins out of which some of them are discussed below:
- The main usage of stablecoins today is actually on cryptocurrency exchanges.
- Using stablecoins, traders can trade volatile cryptocurrencies for stable cryptocurrencies when they want to lower their risk. For example, if you have invested in Bitcoin and don’t want to risk the price of Bitcoin falling against the US dollar, you can just exchange my Bitcoins for USDT and retain your dollar value. Once I want to “get back into the game” and hold Bitcoins, you can just exchange your USDT back to BTC. The usage of this method is very popular among crypto only exchanges who do not supply their users with options like the exchange of bitcoins for fiat currencies as they are abided by the regulations.
- Another great advantage of stablecoins is that you can move funds between exchanges relatively quickly since Crypto transactions are faster and cheaper than fiat transactions. The option for such a fast settlement between exchanges makes arbitraging more convenient and closes the price gaps that you usually see between Bitcoin exchanges.
Stablecoins are more of a utility coin for traders than an actual medium of exchange, but how stablecoins are created?
Types Of Stablecoins
Well, there are several ways a company can try and maintain its stablecoin’s peg to a fiat currency some of them are discussed below:
- The first way to maintain a peg is by creating the trust that the coin is actually worth what it is pegged to. For example, if the market doesn’t believe that one USDT is really worth one dollar, people will immediately dump all of their USDT and the price will crash.
For creating a trust the company uses their coins backed up with assets. This collateral is basically proof that the company is good for its word and that its coins should actually be worth the pegged amount.
A different example of collateral is the DGX token which is said to be backed by gold. Another version of a collateralized stablecoin is one that is backed by one or more cryptocurrencies. This collateral form is is simpler because the company’s balance can be viewed on the blockchain and is also much easier for auditing. - The second way to maintain a peg is by manipulating the coin supply on the market, also known as an algorithmic peg. An algorithmic peg means the company writes a set of rules, also known as a smart contract, that increases or decreases the amount of a stablecoin in circulation depending on the coin’s price.
Let me explain. Imagine we have a stable coin that is pegged to the US dollar through an algorithmic peg. There is a way for peg can be broken? the peg could be broken in a case where a lot of people starts buying the coin. To prevent this from happening new coins are issued.
This increased supply will lead to price elevation that is created by the demand to maintain the coins value. If, on the other hand, many people start selling the coin, coins are removed from the overall supply in order to hold the price peg to one US dollar.
To be clear, algorithmically pegged stablecoins don’t hold any assets as collateral. The coin’s managing smart contract functions like a central bank.. It tries to manipulate the price back to the peg by changing the money supply.