In The Aftermath of stablecoin UST’s Collapse

It’s yesterday once more in cryptoland.

The dizzying rise and rapid fall of algorithmic stablecoin TerraUSD’s (UST) demise brings to mind the initial coin offering (ICO) frenzy of 2017. Back then, all you needed to raise funds from investors was a whitepaper and a generous marketing budget to hype the offering. With the media and crypto enthusiasts cheering on, investors poured money into the empty promises made by scamsters. The ICO mania lasted slightly more than a year before investors realized they’d been had and regulators stepped in.

UST, which came into prominence a year ago, similarly rode the coattails of hype about stablecoins – a cryptocurrency that trades at parity with a fiat currency and is considered a bridge between traditional finance and cryptocurrencies. While other stablecoins are backed by real world assets or are over-collateralized to maintain their pegs, UST’s founders created another token, Luna, to enforce algorithmic economics in their system. Investors could redeem their Terra for $1 worth of Luna, when the former lost its peg, and vice versa.  

In their eagerness to latch onto the latest shiny thing, crypto investors poured money into the tokens. No matter that Luna was an unproven asset without demonstrable use cases. No matter that staking interest rates for the tokens were unsustainable. It also didn’t matter that their valuations were a function of enthusiastic endorsements from their founders and investors, who never missed an opportunity to pump prices.

When the end came, it was swift. In less than a week, UST’s market capitalization, which reached a peak of $18 billion, has crashed to $1.3 billion. At a price of 11 cents to the dollar, its peg remains askew. Luna is, for all practical purposes, worthless and is changing hands at $0.00017, as of this writing. It’s whitepaper, which explains why Bitcoin is not a stable reserve asset and the workings of its peg mechanism, is useless.

A Rehash of Past Scripts

Who could’ve have foreseen such a calamitous end?

As it happens, given crypto’s history and past failures, UST’s denouement was inevitable. In the last couple of years, there have been many cases of failed algorithmic stablecoins. The latest crash is a rehash of past scripts in cryptocurrencies. What’s more, the chances that it could force crypto founders to be more accountable to their community remain minimal.

UST’s crash has left many questions in its wake. Given Luna’s insolvency, where did the founders get money to make $3 billion worth of Bitcoin purchases? Who profited from the rise in UST’s price in such a short time? And, who profited from the fall?

Crypto’s much-vaunted ‘transparency’ is not of much help to lay investors in the Terra crash. All they have at our disposal are empty discussions about the future of algorithmic stablecoins and a series of blockchain addresses that provide no clues about the entities behind the holdings. 

Meanwhile, Terra co-founder Do Kwon has come out with a “revival plan” for the Terra blockchain. The plan will kill off UST and fork Terra’s blockchain. But reports claim that the plan is unpopular with Terra’s community, which is in favor of reducing the supply of Luna tokens to increase demand.

If the new proposal is passed and a new blockchain is created, then it could mean more profits for big investors. This is because it distributes free tokens of a new cryptocurrency, Luna (not to be confused with the worthless LUNA token), to wallets containing UST. Investors can swoop in and load up on UST and LUNA tokens at current throwaway prices and stake them on platforms from now until 27th May, when the new blockchain is supposed to launch. The airdrop will ensure that the number of staked Luna tokens will multiply.

Whether the Terra community votes for a new chain or Luna’s changed economics, it is hardly likely to make much difference to investor confidence in cryptocurrency products. Instead, legislation that enforces transparency and accountability on stablecoin experiments might be the only way to prevent a cycle of recurring crashes and restore confidence in the ecosystem.

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