Understanding Stablecoin

The world is progressively accepting the fact that cryptocurrency is here to be. Starting from the first splash it made with Bitcoin in 2009, the industry is continually developing and seeking new, better solutions.

Despite the huge buzz and possibility of becoming a millionaire over one night such crypto assets as Bitcoin have its disadvantages and one of the most scalable is the high level of volatility. That kind of fluctuation has been preventing cryptocurrencies integration with traditional financial markets for a long time, till the beginning of stablecoins. So, if before we should have talked about fiat-currency and crypto worlds as two separate ecosystems, the tendency says it is not the same anymore.

What are Stablecoins?

Stablecoin is a blockchain-based currency attempting to make a stable value of digital assets. Such solution allows holders to transfer a certain value anywhere on the globe rapidly and benefit from its security and resilience. In other words, stablecoin has a variety of cryptocurrency advantages such as programmability, open data access, high speed, extremely low transaction price, or its absence while eliminating the major issue with volatility.

This stability can be ensured because stablecoin value, unlike bitcoin or Ethereum, is tethered to certain assets such as gold or US dollars. Therefore, even in case any drastic decline of equity happens, the controlling authorities can step in and maintain the value stability by managing supply and demand rates.

Mechanism of Stablecoin

Stablecoin has a few working mechanisms, depending on the value it is pegged to.

Fiat-collateralized stablecoin

One of the first and most known is fiat-collateralized stablecoin. This type of stablecoin is backed directly by one of the existing fiat currencies, such as the US dollar, GBP or EUR. In this case, fiat-currencies are used as collateral and guarantee the stability of value. Tokens are issued with an exchange rate of 1:1, meaning 1 fiat-baked stablecoin is equal to 1 US dollar.

If someone wants to withdraw a certain amount of assets from the reserve, the same amount of stablecoins will be destroyed then and taken out of circulation. Due to its simplicity, this type of stablecoins is the most common on the market. The best example of fiat-collateralized coins is Tether, which has a trading volume of around 95% of the whole market.

Crypto-collateralized stablecoin

The next type is crypto-collateralized coins which are backed by one of the existing cryptocurrencies. To reduce price volatility, in this case, crypto-backed stablecoins are usually double collateralized by the reserve currency. For example, if you want to get $500 worth of stablecoins, you need to collateralize it with the amount of $1000 of Ether or other valuable crypto assets. Such kind of solution appears due to cryptocurrencies’ instability and high level of fluctuation.

It seems that crypto-collateralized stablecoins are more trustworthy because of the lack of any authority behind them. Moreover, all transactions remain in blockchain ecosystems, which makes them even more transparent and secure.

Commodity-collateralized stablecoin

Commodity-collateralized coins are backed by physical assets, such as gold in most cases. Another example of a commodity used as collateral can be diamonds, oil, other types of precious metals and, even, real estate (in Switzerland). Before the stablecoin revolution, those types of goods were held just for the purpose of being, yet recently it faced a new way of usage and investing. The mechanism of commodity-backed stablecoins is similar to fiat-collateralized ones, yet here stablecoin value is pegged by a certain amount of chosen commodity.

For instance, in the case of DGX (Digix Gold Token) which is backed by gold stored in Singapore, 1 stablecoin is tethered to 1 gram of gold. One of the main advantages of using this particular mechanism of stablecoins, is that the collateral, in this case, has the real value, and furthermore, the value of such may increase over the years.

Algorithmic stablecoin

Another type is one of the most promising, yet controversial at the same time. Algorithmic stablecoins are usually called non-collateral or implicit collateral due to a lack of actual assets pegged to it. The same as today’s dollar, which is not backed by equal amounts of gold, its value maintains because of people’s beliefs and expectations. All operations, regarding algorithmic stablecoin, are fully decentralized and do not need any custodian to authorize it. The mechanism of smart contract manages the token supply automatically, it reduces or increases token emission in order to ensure the stable value of the tracked fiat currency. The strength of such solution does not lie only in its full autonomy and decentralization; the system ensures that even in case of total market destruction, algorithmic stablecoins survive and will not lose their value.

Conclusion

Which type of stablecoin to use is your choice, our mission in Blaize is to ensure the usage of the best technologies and experts in order to fulfill your project. In terms of development, Blaize can offer the creation of a coin on any available blockchain and management services for them: integration or creation of a gateway, KYC management service development, designing of a midware for coin API.

Want to design your own stablecoin? Contact us to get a free idea validation!

Well, if you need a solution that gives the opportunity to create a platform, where its users can simply and at the same time safely exchange or make transactions with coins tethered to any existing fiat currency or you search for stability in crypto-assets and want to create your own stablecoin, in both ways Blaize team is ready to help.

Article source: Blaize blog https://blaize.tech/article-type/understanding-stablecoin/