Terra’s UST crash will make life harder for crypto as regulation looms

Trust in stablecoins teeters amid meltdown

Conversations in the crypto world have centered around stablecoins this week as their touted stability comes into question.

What was one of the largest stablecoins, TerraUSD (UST), fell from grace after it depegged from its $1 value on Monday and since dropped as much as 70% to $0.2998, when it was never supposed to deviate from the dollar-equivalent value. Its founder, Do Kwon, unveiled a plan to save its stablecoin, but concern from community members persists.

Meanwhile, U.S. Treasury Secretary Janet Yellen pushed for more stablecoin regulation during an annual testimony in front of the Senate Banking Committee on Tuesday, right in the midst of UST struggling to retain its peg.

“This UST situation could give governments, like the U.S., an excuse to crack down on stablecoins even harder,” George Harrap, co-founder of Solana-focused portfolio dashboard Step Finance, told TechCrunch. “We’ve seen this before; however, stablecoins have been getting a lot of regulatory attention, and this will likely see that increase.”

Amid a crypto market battered by bearish sentiment, a major question stands: What does this all mean for the future of stablecoins?

Some industry participants are not fully concerned. “I would say this UST situation won’t affect stablecoins as a fundamental proposition,” Jon Wood, a contributor to decentralized finance (DeFi) yield protocol Harvest Finance, said to TechCrunch. “Stablecoins are such a core part of the crypto ecosystem, and it is impossible to do DeFi without them. The big ones have been around long enough to be widely used and trusted.”

“The recent UST breakdown was a huge collapse, but it certainly wasn’t the first or the only.” Evan Kuo

Stablecoins, by their literal definition, are meant to be stable in a 1:1 ratio holding to external currencies, like the U.S. dollar. But not all stablecoins are built on the same foundations and can be backed by different reserves. For example, the two largest stablecoins by market capitalization, Tether (USDT) and USD Coin (USDC), are backed by fiat-equivalent reserves issued by centralized firms.

Meanwhile, UST is an algorithmic stablecoin mainly backed by its sister cryptocurrency, LUNA, but was also backed by bitcoin. Founder Do Kwon previously told TechCrunch that plans were in place to back it with other cryptocurrencies over time. It’s unclear if that road map is still in place for UST as it tries to recover from its downfall.

A spokesperson for Kwon declined to comment Wednesday, saying that Terraform Labs “is currently on pause with media opps as they are a bit heads down at the moment.”

“I think what has happened is not surprising,” Jeremy Allaire, co-founder, chairman and CEO of Circle, said to TechCrunch. “Our own internal analysis, which we’ve had over the past six to nine months, is that [UST] was a building risk. It was a very high-risk framework for a stablecoin.”

Allaire’s company, Circle, and Coinbase founded the USD Coin (USDC) stablecoin in September 2018. It is pegged to the U.S. dollar on a 1:1 basis with reserves consisting of cash and short-term U.S. Treasury bonds.

“We have gone out of our way for four years to operate a reserved regulated model for dollar stablecoins and that’s stood the test of time,” Allaire said. “Frankly, the shocking thing to me is how many apparently intelligent people in the crypto universe bought the hype on UST. The biggest remark I have is how disappointing [it was that] so many thoughtful people believe that you could meme this into existence and stability. That was the surprising thing.”

USDC’s market capitalization has grown 237% from $14.38 billion on the year-ago date to $48.46 billion today, according to CoinMarketCap data. While some may be hesitant about stablecoins after the UST situation, the dramatic growth in USDC speaks to the fact that the crypto market does understand what a trusted stablecoin could provide, Allaire said.

Similarly, Paolo Ardoino, CTO of Tether (USDT), which is the largest stablecoin by market capitalization, said, “We do not believe that the UST situation means anything for the centralized stablecoin market, being that they are entirely different types of assets.”

Unlike algorithmic stablecoins, Ardoino said it holds a strong, conservative, and liquid portfolio that consists of cash and cash equivalents, such as short-term treasury bills and money market funds, among other things.

“I do not believe that trust was ever lost for centralized stablecoin users,” Ardoino said. “There will always be a market for stablecoins as they present an opportunity for traders to interact with the larger crypto ecosystem.”

Even though Tether and USDC are the biggest stablecoins, they aren’t immune to criticism.

“Sure, there have been teething problems; Tether has had its problems with doubts over collateralization ratios, but is still very widely used,” Wood said. “USDC is criticized for being centralized. Maker’s DAI over-collateralized algo-stable has been regarded as too ‘niche,’ but has been functioning at its peg for years. All of these are not going anywhere.”