Currently, cryptocurrencies are volatile and can experience dramatic price fluctuations in a short period of time. Bitcoin, for example, can rise or drop by double-digit percentages in just a few hours. A stablecoin is a cryptocurrency whose value is “pegged” (meaning tied) to another asset—often a traditional fiat currency like the US dollar. For example, one unit of a stablecoin that’s pegged to the US dollar should always be worth $1. Many exchanges—including Binance, the world’s largest—don’t let traders buy fiat currency, and only let them buy and sell cryptocurrencies.

The team introduced an easy concept for creating a cryptocurrency that maintained a stable price during market price falls. Launched in 2014, BitUSD was the first stablecoin issued as a token on the BitShare blockchain. The pioneering stablecoin was the brainchild of two prominent figures in the blockchain industry, Charles Hoskinson and Dan Larimer. The token was backed by the core token of BitShares, BTS, and was collateralized by a range of other cryptos — all locked in a smart contract to act as collateral. The mainstream public sees a fiat-backed stablecoin as a more acceptable class of digital currency.

How do stablecoins work?

Check the issuing entity, its history, and past projects in detail before purchasing its stablecoins. Second, if in doubt, users can move their funds https://www.xcritical.com/blog/what-is-a-stablecoin-and-how-it-works/ into other stablecoins or even other cryptocurrencies. Stablecoins also have the potential to act as payment alternatives to fiat currencies.

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Wrapped Bitcoin

Hong Kong is meanwhile undergoing a public consultation on stablecoins and seeks to introduce regulation next year. PayPal shares rose more than 2% in premarket trading on Tuesday following the news of the stablecoin’s launch. Stablecoins can also be purchased directly from the issuer, such as USDT’s Tether Limited. However, this option is usually limited to bigger investors like financial institutions. TrueUSD tokens are issued on the Bitcoin network via the Omni Protocol so that no one oversees the issuance of tokens. However, the tokens are based on the Ethereum network advanced issuance framework.

Fiat-backed stablecoins are described as an IOU — you use your dollars (or other fiat currency) to buy stablecoins that you can redeem later for your original currency. Unlike other cryptos, with value that can fluctuate wildly, fiat-backed stablecoins aim to have very small price fluctuations. But that’s not to say stablecoins are a totally safe bet — they are still relatively new with a limited track record and unknown risks, and should be invested in with caution. The cryptocurrency https://www.xcritical.com/ exchange Coinbase offers a fiat-backed stablecoin called USD coin, which can be exchanged on a 1-to-1 ratio for one U.S. dollar. Fiat-collateralized stablecoins maintain a reserve of a fiat currency (or currencies) such as the U.S. dollar, as collateral assuring the stablecoin’s value. Other forms of collateral can include precious metals like gold or silver as well as commodities like crude oil, but most fiat-collateralized stablecoins have reserves of U.S. dollars.

What Is a Stablecoin?

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Although all stablecoins aim to maintain a pegged ratio to a given fiat currency, the assets they hold as collateral may determine the stability of their respective pegs. Cryptocurrency-backed stablecoins are issued with cryptocurrencies as collateral, conceptually similar to fiat-backed stablecoins. In many cases, these allow users to take out a loan against a smart contract via locking up collateral, making it more worthwhile to pay off their debt should the stablecoin ever decrease in value. In addition, to prevent sudden crashes, a user who takes out a loan may be liquidated by the smart contract should their collateral decrease too close to the value of their withdrawal.

United States: Stablecoin Trust Act

Crypto-collateralized stablecoins are backed by other cryptocurrencies. Because the reserve cryptocurrency may also be prone to high volatility, such stablecoins are overcollateralized—that is, the value of cryptocurrency held in reserves exceeds the value of the stablecoins issued. Some would argue that stablecoins are a solution in search of a problem given the wide availability and acceptance of the U.S. dollar. Many cryptocurrency adherents, on the other hand, believe the future belongs to digital tender not controlled by central banks. There are three types of stablecoins, based on the mechanism used to stabilize their value. Stablecoins are cryptocurrencies whose value is pegged, or tied, to that of another currency, commodity, or financial instrument.

• As the name implies, crypto-collateralized stablecoins are backed by another cryptocurrency as collateral.
• For example, MakerDAO’s Dai (DAI) stablecoin is pegged to the U.S. dollar but backed by Ethereum (ETH) and other cryptocurrencies worth 150% of the DAI stablecoin in circulation.
• It’s important to note the risk of depegging may be higher for algorithmic stablecoins than for other types that have sufficient and transparent reserves.
• Unless a stablecoin commits to holding 100 percent (or more) of its reserves in cash, there’s no guarantee that the cash will be there to redeem coins.
• It is a product of the Maker Protocol, a decentralised application that runs on the Ethereum blockchain.

The price of Bitcoin has swung by tens of thousands of dollars over a matter of months, and that short-term volatility makes it an unstable form of currency right now. Though the kinks are still being ironed out, Stablecoins have a huge potential to change the global payment landscape. As stablecoins continue to “stabilize” and gain public trust, the way the financial sector uses digital assets will keep evolving. Instead of fiat currencies, however, they’re pegged to commodities—typically gold. For example, if Company B has $10 billion of their stablecoin in circulation, they will need to hold $10 billion or more in gold in their reserves for the stablecoin to be usable.