Stablecoins 101: The Heart of Crypto

• What exactly are they?

• Why do they exist?

• How do they work?

What Are Stablecoins?

How Do Stablecoins Work?

• Fiat-backed (e.g., USDC, USDT) → Every stablecoin issued should be backed by an equivalent amount of real dollars or safe assets (like U.S. Treasury bonds).

• Crypto-backed (e.g., DAI) → These stablecoins are backed by other cryptocurrencies locked in smart contracts. They use over-collateralization (holding more value in assets than issued stablecoins) to maintain stability.

• Algorithmic (e.g., UST, now failed) → These stablecoins rely on supply and demand mechanics without real backing, making them vulnerable to collapse.

• Users can deposit USD to receive stablecoins and redeem them back for real dollars (if the system works properly).

• If the stablecoin drops below $1 → Traders buy it cheaply and redeem it for $1 worth of assets, pushing the price back up.

• If the stablecoin rises above $1 → Traders sell it for a profit, increasing supply and bringing the price back down.

• Issuers (like Circle or Tether) can also adjust supply by minting or burning stablecoins.

Why do Stablecoins Exist?

• Instant, low-cost transactions globally.

• Stable value compared to volatile crypto assets.

• Seamless use in trading & DeFi, earning yield while staying on-chain.

Use Cases of Stablecoins

• Traders use stablecoins instead of withdrawing to a bank.

• In DeFi, stablecoins are used to lend, borrow, and earn interest.

• E.g. a worker in the U.S. can send USDT to family in the Philippines instantly, avoiding high international transaction fees.

• In high-inflation countries (e.g., Argentina, Turkey), people store value in stablecoins instead of their local currency.

• Businesses can automate payments using stablecoins, removing intermediaries.
• Example: A freelancer in India gets paid in USDC directly - no PayPal, no banks.

• Millions worldwide lack access to traditional banks but can store stablecoins in a smartphone wallet.

Stablecoin Trends & Developments

• Regulation & Oversight → Governments see stablecoins as a financial disruptor.

Stablecoins will bring our payment system into the 21st century - Senator Cynthia Lummis

• Geopolitical Shifts → Non-USD stablecoins ($EURT, $BRZ, $IDRT) are gaining traction across Latin America, Asia, and Europe.

• Growing Adoption → More businesses are embracing stablecoins, with supply hitting all-time highs (e.g. Paypal, Revolut).

• Decentralized Alternatives → While fiat-backed giants dominate, decentralized stablecoins are emerging - with the ability to create stablecoins without reliance on the US treasury.

• Hybrid Models → New stablecoins (e.g., Frax, Ethena) blend fiat, crypto, and algorithmic mechanisms.

• Massive Transaction Volume → In 2024, stablecoins processed more value than Visa & Mastercard combined.

Risks

• Systemic Risk → Issuer failures or mismanagement could have ripple effects across financial markets. In 2023, USDC depegged after exposure to a failing bank, highlighting how centralized stablecoins can be vulnerable to financial instability.

• Centralized Stablecoins → Depend on banks and custodians, exposing users to counterparty risk and potential regulatory freezes.

• DeFi/Decentralized Stablecoins → Prone to oracle manipulation, smart contract exploits, and liquidity constraints during market stress.

• Market Risks → Flash crashes, mass redemptions, and bank-run scenarios can destabilize even well-backed stablecoins.

Conclusion

• Stablecoins act as digital dollars, maintaining a stable value.

• They enable seamless crypto trading, DeFi applications, and global payments.

• Different types include fiat-backed, crypto-backed, and algorithmic stablecoins.

• Arbitrage and reserves help maintain their peg to $1.

• They serve as a liquidity sink, aligning with U.S. economic interests.

• Even stablecoins carry a level of risk.

• Regulation could shape their future, but they are likely to remain a dominant force.