Does Basis’ Fate Mean That All Stablecoins Are Doomed?

By now you’ve likely heard that Basis, the most funded stablecoin project to date, has shut down and will be returning part of the capital it raised to its investors. And the question on many people’s minds is whether the demise of Basis spells doom for the rest of the stablecoin industry.

Let’s start with the simple answer first. No, the fate of Basis is not the fate of stablecoins in general. The designs of several protocols, including Reserve’s, do not share the flaws of Basis’ design. The reality is that some types of stablecoins — like Basis — are really hard to implement in the current regulatory environment, while many other designs will be fine.

Why? Let’s dig into the details — beginning with the key issues that brought down Basis.

The Basis Situation

The issue here comes down to securities laws and liquidity.

Some stablecoin designs have more than one token — there’s the stablecoin, and then there is a “share“ token or a “bond” token. Why do they exist? In some designs, these tokens are minted by a smart contract and used to buy up stablecoins any time the price of the stablecoin needs to be increased back to the peg. This means that any time the price of the stablecoin is below the peg, somebody out there has to be willing to buy these newly minted tokens in order for the smart contract to buy up stablecoins. If nobody wants to buy them, then the peg is, by definition, broken.

What’s the problem with that?

In many cases, these secondary “share” or “bond” tokens are securities. This means that they are only purchasable by accredited investors in the US, and similar restrictions apply elsewhere. They could be traded by retail investors in the future, but that may take a very long time for the SEC to approve.

Since there is only a small set of people who can buy these “share” or “bond” security tokens, protocols based on this mechanism may be at risk — if nobody wants to buy these tokens when the stablecoin is trading below the pegged price, the peg will just stay broken.

Which leads us back to the original question — will all algorithmic stablecoins suffer the same fate?

No.

Some designs, like MakerDAO and Reserve, don’t need to use security tokens directly to buy up stablecoins. Designs can even include “share” tokens which may be classified as securities, so long as they aren’t the direct source of capital for purchasing stablecoins out of circulation. For instance, “share” tokens can be sold periodically for other other cryptoassets that are not securities, which are then used to repurchase stablecoins as needed, and stablecoin circulation can be limited to not exceed the value of these other tokens on hand. This is how we designed Reserve, in part to avoid exactly this problem.

Many existing algorithmic stablecoin projects will be fine in the current regulatory environment, and in the future, we expect new stablecoin entrants to understand this situation and design around it.

Moving Forward

As for where the industry goes from here, there is a very important to be learned from Basis’ story: fundamentally redesigning money is no trivial task. And to venture to do so means that you must accept the very serious responsibility that comes with a project of this magnitude.

Unlike Bitcoin or other cryptocurrencies, the people who will rely most on stablecoins will be the people who are trying to protect their money in hyperinflationary economies, and if your protocol doesn’t work, they’re not losing an investment — they lose their life savings.

At Reserve, our mission is to help scale prosperity worldwide by giving people a digital currency with stable, real-world value. And that is a responsibility we do not take lightly.

Check out our newly-released white paper to learn more about how we are solving these important problems, and join our conversation on Telegram to ask us questions, provide feedback, and discuss with others who are committed to bringing stable, digital currency to life.