Summary
A stablecoin is a cryptocurrency whose value is tied to that of a stable asset, such as the US dollar. Stablecoins are designed to create a digital currency that is less volatile than typical cryptocurrencies such as Bitcoin or Ethereum. As a result, they are more useful in ordinary transactions and as a store of value.
- fiat-collateralized
The “fiat-collateralized” stablecoin, which is backed by a reserve of fiat currency (e.g., US dollars) maintained in a bank account, is one of the most frequent types of stablecoins. For example, if a stablecoin is tied to the US dollar, then $1 should be held in reserve for every 1 stablecoin in circulation. This contributes to the stablecoin’s value remaining stable and not fluctuating considerably.
The best way to visualize them is as a wrapped token. It is, however, a wrapped dollar rather than a wrapped token.
- crypto-collateralized
This is backed by another cryptocurrency reserve, such as Ethereum. These stablecoins are formed by a method known as “over-collateralization,” which involves holding more than one unit of the collateral cryptocurrency in reserve for each unit of the stablecoin in circulation. This helps to ensure that the stablecoin’s value remains stable even if the collateral cryptocurrency’s value fluctuates.
- algorithmic stablecoin
Which uses a complicated algorithm to keep the stablecoin’s value stable, and “seigniorage shares,” a sort of stablecoin supported by a combination of reserves and an algorithm.
Stablecoins can be used for a variety of applications, including online purchases, bill payment, and even earning interest. They can also be used as a store of value and as a hedge against the volatility of other cryptocurrencies.
It is crucial to highlight that not all stablecoins are created equal, and not all of them are backed by assets capable of supporting the stablecoin’s value. Before utilizing or investing in a stablecoin, it is critical to conduct research and understand how it is backed and maintained.
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Why use a stable coin vs fiat?
Stablecoins have the potential to provide greater privacy and security than typical financial transactions. You have more control over your own financial information with stablecoins, and transactions are recorded on a public ledger, making them more transparent and less vulnerable to fraud.
Stablecoins can be used to make transactions throughout the clock. Stablecoins can be used to make transactions at any time, unlike traditional banks, which may have limited hours and are closed on weekends.
Stablecoins allow you to do transactions with people in distant countries without having to transfer currencies or pay excessive fees. This can make international transactions easier and less costly. Please keep in mind that this is also true for other cryptocurrencies, and that Nano is free to transfer over the blockchain.
To be candid, the decentralized aspect is the primary reason why I believe a stable coin should be used by the average user. Many DEX trades accept stable coin. This allows you to “pay out” without actually doing so. Even more so if it is pegged to the US dollar.
Why use fiat over stable coins?
Stable coins are often not subject to regulatory oversight. There have been a number of situations in recent years where they have been put at risk.
Stable coins are tied to the US dollar. They are nearly never exactly one dollar. Where $1 is always the same as $1.
Because many stores still do not accept direct cryptocurrency payments. This means that stable coins cannot be used. But take note of individuals who use crypto debit cards, which exchange bitcoin for fiat to pay for purchases made with the card. Many people like stable coins because they retain their worth.
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Risk
Depending on the stable coin is depending on the risk.
- One of the bigger risk is some of them might make the stable coin out of thin air. This being some or all of them, and therefore they aren’t really backed by a reserve of fiat currency in some bank. If the issuer goes bankrupt or the platform fails, the value of the stablecoin may be affected.
- Stablecoins are typically issued by private entities meaning this isn’t a trustless process normally.
- Stablecoins rely on smart contracts to facilitate transactions, which can contain bugs or other vulnerabilities that can be exploited by attackers.
- Stablecoins can be less liquid than traditional fiat currency, which can make it harder to buy and sell them on short notice.
- Stablecoins operates outside of traditional financial systems and can be used in ways that governments may find objectionable. This can lead to government intervention and regulations which could limit the usage of stablecoins. In fact, the USA gov keeps looking at going after stable coins because it directly threatens the dollar in some ways. Or at least it could one day.
