What is a stablecoin?
A stablecoin is a cryptocurrency which is meant to hold a stable fiat value. An example of a stablecoin is Tether (USDT) – a blockchain asset that roughly trades for $1 dollar (‘pegged’) and can be exchanged on a 1:1 ratio for ‘real’ U.S dollars. Different stablecoins have various mechanisms in order to achieve a stable price, but they all should hold asset collateral in reserve to underwrite the digital asset. This reserve currency is therefore redeemable at the fixed ratio. Others, like Dai, hold crypto assets, instead of fiat, as their form of monetary reserve.
What is the difference between stablecoins and other types of cryptocurrency?
The price of other cryptocurrencies, such as Bitcoin and Ethereum, is decided by unregulated market economic factors, whereas the price of a stablecoin should be predetermined by proprietary trading algorithms in order to achieve a price point equilibrium. Moreover stablecoins allow for ‘digital fiat’ trading pairs on many exchanges – providing a safe harbor for traders from the stormy volatility associated with cryptocurrencies.
Aside from the difference in mechanics, many stablecoins are merely crypto-tokens, based on an underlying issuance blockchain like Ethereum and Stellar. As a result, their network security can be supported by the underlying network consensus.
Where I can use stablecoins?
Currently – almost entirely on centralized and decentralized exchanges. Whenever you deposit fiat directly onto an exchange, it will be automatically converted into some form of fiat stablecoin. Otherwise, you can deposit and trade your cryptocurrencies with a stablecoin trading pair; such as BTC/USDT, XRP/USDT and more.
It’s also possible to use blockchain networks such as Stellar and Ripple, and fiat on-ramps such as Gemini to convert real-world fiat into digital token fiat, and transferring that amount to another wallet before withdrawal back into a bank account. Whilst these services are in their infancy, they will become more commonplace.
What advantages and disadvantages do stablecoins have?
General benefits include accessing the advantages of blockchain and distributed ledger technology for payments and value transference, whilst not being exposed to the negative side of high-volatility. The fickle and unpredictable nature of pure cryptocurrency valuations is one of the factors potentially slowing down enterprise-level adoption. That said, many crypto spokespeople predict that all major fiat currencies will eventually be digitized – meaning that stablecoins will soon just become everyday currency.
The disadvantages currently concern the lack of legislative oversight with regards to deposit percentage allocation of reserve funds, as well as the algorithmic programs dictating the ‘stability’ of these digital coins. Questions have been repeatedly raised over the truthfulness of Tether’s balance sheet – leading many to speculate that they do not have sufficient funds to cover a ‘stablecoin run’ (like a bank run).
On balance, the advantages and potential as a result of further stablecoin adoption do seem to outweigh the drawbacks. The increased reliance on this form of technology will only help to bring about greater adoption and stability within the cryptocurrency and dlt ecosystem.