This week in crypto. Jan'31-Feb'6: The State of Stablecoins, rising interest for the metaverse and more...
The State of Stablecoins
This week Meta abandoned Diem, the stablecoin project it has been nurturing for 2 years. Even without it though, the stablecoin sector is a flourishing one: top 10 USD-pegged stablecoin now have a combined market cap of over $172 Bn, representing almost 7% of the total crypto market cap.
Stablecoins are tokens created on a blockchain and assigned the value of a fiat currency. Their issuer engages in maintaining a constant peg and ensures that one stablecoin is always worth one dollar (or euro, or another fiat), so that a stablecoin can enjoy the seamless transfer proper to the blockchain, while protecting against cryptocurrencies’ volatility.
One of the pillars of the DeFi, stablecoins introduce fiat currencies to the decentralized world, however their own centralization can sometimes pose a threat. So the space is morphing and decentralized stablecoins are gaining ground.
Centralized stablecoins
The easiest way to create a stablecoin is centralized: a company issues tokens backed by fiat reserves, and then puts these tokens on a market.
Naturally, the first generation of stablecoins was centralized, and stablecoins like Tether, USDC or Binance USD are still responsible for the biggest share of stablecoin transactions.
However, as it is always the case with centralized entities, they must be trusted, and in some cases the trust may be shaky.
👉Hong Kong-based Tether, operating USDT, the biggest stablecoin by market cap, is a good example of centralized stablecoins’ flaws. Last year, after a long investigation, the US Commodity Futures Trading Commission (CFTC) stated that between June’16 and February’19, Tether misrepresented to customers and the cryptocurrencies markets that it had “sufficient US dollar reserves” to back every token when, in fact, Tether’s reserves were not sufficient the majority of the time. Tether paid $41M to settle these allegations.
Tether was also investigated by the New York attorney general for claims about its backing, which resulted in Tether being prohibited from doing business in New York state.
👉Centralized stablecoins are not completely censorship-resistant : a function in Tether’s smart contracts allows the company to blacklist the addresses tokens were sent to (only on Ethereum and Tron blockchains though), while USDC, second-biggest stablecoin, automatically verifies the sender/receiver addresses against its blacklist.
This helps the companies implement AML procedure and collaborate with the law enforcement (in January Tether froze 3 Ethereum addresses containing $150M in USDT). Tether can also help recover USDTs sent to a wrong address : the mistaken USDTs are frozen, and new ones reissued.
Some argue however that these options only drain gas (fee paid on Ethereum) from stablecoins’ users: the more complex a smart contract (all blockchain tokens are smart contracts at their core), the more fees you pay. As to the malicious actor, they always have the possibility of deriving a new address from their wallet’s seed.
Decentralized stablecoins
Crypto was created as an alternative to central authorities, and the industry is constantly pushing the limits of decentralization. Stablecoins did not escape it, and a new generation of decentralized ones appeared, each trying to find the best way of keeping the fiat peg.
💰 MakerDAO was a pioneer in decentralized stablecoins, releasing its over-collateralized stablecoin DAI in the end of 2017. Maker DAO acts as a lending platform, allowing anyone to lock a quantity of ETH (or another Ethereum-based asset) and issue a corresponding amount of DAI, a collateralized token soft-pegged to the US dollar (although 1 DAI is not redeemable against $1, but against $1 worth of ETH). The peg is maintained by smart contracts managing the necessary over-collateralization ($1 in DAI is backed by >$1 in collateral) and real-time information about prices, provided by a group of oracles. As of now, the necessary ETH collateralization is of 150%.
Crypto market is notoriously volatile, though, and sometimes big price swings and/or changes in demand lead to DAI fluctuations: it has already exceeded $1.10 and gone below $0.90 in the past.
⚖️ TerraUSD is an algorithmic stablecoin that aims at providing more stability via an elastic money supply (contracting and expanding when price deviates from the peg), enabled by stable mining incentives (miners absorb supply contraction costs in the short term and are compensated with increased rewards in the mid to long term). It is built into Terra blockchain, purposely created to support an algorithmic stablecoin (although more DApps are being built on it now).
Terra uses a PoS consensus, which means that miners must stake its currency LUNA to add transactions to the blockchain. The algorithm also uses LUNA to balance the USD peg in miner incentives, and users burn it to pay for minting stablecoins (thus reducing the overall supply, which is always a good thing for the price).
Launched in September 2020, TerraUSD quickly gained popularity and flipped DAI last December.
💰 ⚖️Frax is most recent decentralized stablecoin aiming at taking the best of two approaches: it is partially backed by collateral and partially stabilized algorithmically. It is for the moment deployed on Ethereum, with possibly more blockchains compatibilities coming later.
Stablecoins regulation
Since Facebook announced its stablecoin project in 2019 (called Libra at the time), regulators all over the world had their eyes on it, and not in a good way. The fear of having 3 Bn Facebook users adopting a currency that regulators have no control of, as well as the fear of Facebook becoming even more powerful than it is now, led many countries to strongly oppose the project.
Many Facebook-inspired stablecoin regulations are still in the works, like the EU’s upcoming MiCA regulation that aims at controlling centralized stablecoin issuers (the draft concentrates so far on facilitating centralized stablecoins issuance by the banks, but largely misses the point on decentralized ones).
In the US the regulators expressly authorise banks to hold stablecoins reserves or receive them as deposits. Meta, however, is no bank, so after many months of negotiations, lobbying and even redesigning its stablecoin (from Libra to Diem), Meta has renounced and sold the project to Silvergate, a crypto-focused bank.
Another well-known player, probably more suitable for stablecoins than Meta, may soon enter the game. Last month PayPal announced its intent to launch its own stablecoin - a PayPal Coin.
NFTs and Metaverse
Whether related to its stablecoin capitulation or not, Meta’s shares have plunged -27% this week after its earnings call, erasing $232 billion off the company’s market value. This was taken rather optimistically by the decentralized metaverses’ proponents, and the tokens of main metaverse projects are on the rise.
Another Silicon Valley giant, Apple, might be also preparing its metaverse strategy. Its CEO Tim Cook recently said the metaverse is “very interesting” to the company and “We see a lot of potential in this space and are investing accordingly.”
In the meantime, retailers continue investing decentralized metaverses. French supermarket chain Carrefour (8th largest retailer in the world operating 12’225 stores in over 30 countries) announced the acquisition of a plot of land in The Sandbox.
Whether Carrefour will use this land to sell online goods or offer its clients special experiences is still to be seen, but such a move from an “old-world” company speaks a lot about the metaverse potential.
On the NFT side, the story of the original V1 cryptopunks uncovered and restored by crypto archaeologists, has been much discussed this week.
Markets
Bitcoin
It looks like Bitcoin price has finally bottomed out, gaining 16% this week and crossing the psychological barrier of $40k.
To the despair of bears and the joy of bulls, over $100M of short positions were liquidated in the process, while the BTC supply on major exchanges sink to a multi-year low of around 13%. The less reserves exchanges have, the less their users are likely to sell their coins, which means lesser selling pressure on the market. It is a bullish sign.
Ethereum
Ethereum price gained 18% this week, also crossing a psychological barrier of $3k.
Quote of the week
“No international organisation is going to make us do anything, anything at all… Countries are sovereign nations and they take sovereign decisions about public policy”
Alejandro Zelaya, El Salvador’s Treasury Minister, on IMF’s request to remove Bitcoin’s legal tender status