Terra (UST) Peg Crisis Deepens

The crisis in algorithmic stablecoin Terra’s peg with the US dollar deepened on Monday evening before staging an overnight recovery. TerraUSD (UST), the world’s third biggest stablecoin, was trading at $0.62 to the dollar yesterday evening based on prices available at Coinbase. As of this writing, the stablecoin’s price has risen to $0.89. The Luna Foundation Guard (LFG) announced yesterday that it was lending out $1.5 billion worth of crypto to support the peg.   

Demand for Terra Luna (LUNA), the governance token that is minted in order to boost TerraUSD’s price and maintain parity with the US dollar, continued to careen downwards. In a single day, the token’s price shed almost 44% of its total value. In the last week alone, the token has lost approximately 60.5% of its value to trade. As of this writing, it is trading at $31.65, down 47.16% from its price a day ago. Its overall market capitalization has fallen from $34.07 billion a month ago to $11.52 billion, as of this writing.

Binance, the world’s biggest cryptocurrency exchange by trading volume, has stopped withdrawals of UST and LUNA tokens due to a “high volume of pending withdrawal transactions.” It is unclear if selling pressure on the tokens was responsible for the exchange’s decision.

‘A Pretend Stablecoin’

This is not the first time that Terra has lost its peg to the US dollar. On Dec. 30 last year, the stablecoin’s price fell to $0.85. A month later, it briefly climbed to $1.04. Loss of stablecoin pegs are money-making opportunities for traders because it means they can arbitrage the price difference for profits. For example, UST holders can exchange their tokens, which have diminished in price, for $1 worth of LUNA.  

The latest instance of volatility in Terra’s price has raised fundamental questions about the stablecoin’s viability. Terra’s critics call UST a “confidence game” that benefits insiders like market makers and founders. Appearing on Coindesk TV yesterday, Swan Bitcoin CEO Cory Klippsten called UST a “pretend stablecoin” and forecasted a ‘death spiral’ for it.

UST’s peg is bolstered by LUNA, which is minted or destroyed when UST price decreases or increases relative to the dollar.  For Terra’s economics to work, however, there must be demand for LUNA tokens in the market and it should have market capitalization greater than that of Terra.

But there is no real demand for LUNA tokens in the market, Klippsten told Coindesk. He said market makers and venture capitalists, part of a group he calls insiders, involved in the venture have pre-minted LUNA tokens and are releasing them to the market at regular intervals to induce demand and liquidity in its ecosystem, he said. They profit in various ways, including from coupon spreads and trading fees. A rising LUNA price is beneficial for their profits; but that script has gone awry in recent times as LUNA’s market capitalization has collapsed in spectacular fashion this year. The governance token ranks below Terra in total market capitalization.

“At some point, it (the peg) will break,” he said. It may break this week. It may break later today or this month. Or it may break next year.” He said the bigger that Terra became in the crypto ecosystem, the worse it would be for everyone involved when it eventually collapses.