UST, a stablecoin, is not stable anymore after it has lost its peg these days. Despite the assurance of the project CEO Do Kwon that he had a recovery plan and that UST will recover its position soon, there is no improvement for now. Terra LUNA has fallen by almost 100% for now,
And TerraUSD continues plummeting
What is happening with the stablecoin and why is it not stable anymore? More information about algorithmic stablecoins and the Terra LUNA ecosystem will be required to understand what is happening in the market now.
Algorithmic Stablecoins
There are two types of stablecoins - asset-pegged and algorithmic ones. While everything is clear with the first type - they are backed with fiat money, such as USD, EUR, or any other currency that is a legal tender or a physical asset such as gold, real estate, etc., algorithmic coins are different. They are not backed by any real-world asset. Their stability or we call it a peg, is supported algorithmically. That’s why they are called algorithmic stablecoins. If something goes wrong with the algorithm or in case of a successful attack, the peg might be lost, and the stablecoin might become volatile.
UST Is an Algorithmic Stablecoin
UST is a stablecoin created with the aim to deliver value to the community and to solve the scalability issue - the main issue that other stablecoins started facing. UST was launched in 2020, and until recently, it was one of the most scalable and prominent stablecoins in the market.
UST is used in conjunction with Terra LUNA, another coin that powers the Terra ecosystem. LUNA was supposed to absorb volatility and enable the UST peg.
The following features make UST unique:
- Increased scalability level: UST is an algorithmic stablecoin. To mint 1 UST, a user needs to burn 1 LUNA. The monetary policy of Terra enables practically endless scalability and thus allows DeFi ecosystems to reach their full potential.
- Easy exchange: the Terra stablecoins share liquidity. You can swap UST to TerraKRW (another stablecoin of the system, it is pegged to the Korean Won). The fees are almost absent.
- Additional income source: TerraUST coins can generate passive income by using a lending protocol and staking opportunities.
- Interoperability: the Dropship bridge protocol enables the UST connection with multiple DEX and DeFi platforms. This protocol is used to maintain the coin scalability and thus contributes to its stability.
Why Did the TerraUST Depeg?
If the coin was supposed to be so highly secure. The security audit of the network, the blockchain verification and penetration testing, and the examination of the economic system of the project were performed by CertiK and were found “sound”. Why then did the coin lose its peg to USD?
Let’s check how it all started.
On May 9, 2022, UST lost its peg and started being traded at 0.68 USD per coin. Users got worried and started emptying Curve - a liquidity protocol containing UST. Users were exchanging UST for other stablecoins, those that are asset-backed.
At the same time, LUNA short selling started pulling the UST price even more down. LUNA is a UST collateral that is aimed to absorb the volatility and maintain UST stable. When the UST value grows above 1 USD, LUNA tokens are burnt to enable the minting of more UST tokens and stabilize the UST token price. And on the contrary, when the UST value plunges below 1 USD, tokens are used to purchase LUNA and are removed from circulation. But this time, the sophisticated algorithm used to keep the UST value stable failed.
All these events forced Terra to mint more LUNA coins in an attempt to stop the death spiraling of the system stablecoin. The increase in LUNA coin supply caused the coin price dilution but didn’t help to recover the UST peg.
At some point, the market capitalization of UST was higher than the one of LUNA which made the situation even weirder: initially, the system was designed so that users could claim 1UST for one LUNA. It looked like Do Kwon, the Terra CEO, found the solution. And indeed, the company’s Bitcoin reserves worth billions in USD were liquidated to save the network, and billions of LUNA coins were injected, but at the moment of writing, there are no signs of improvement. It looks like the plan didn’t bring the expected results.
The Current Situation
For now, the majority of the biggest cryptocurrency exchanges suspended withdrawals in both LUNA and UST claiming that the limitations would be removed as soon as the Terra network stabilizes. Terra paused their blockchain twice during the last 24 hours in an effort to reconstitute it.
The frantic efforts to restore the peg continue by issuing huge volumes of LUNA and minting reaching unprecedented levels to ease the UST selling pressure. However, for now, these measures don’t seem to work.
Even though we believe that LUNA will recover eventually, for now, it is better to hold off investing in this cryptocurrency.
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