Stablecoins
Tokens engineered to be worth a dollar. The most genuinely useful thing in the field, and the design where the differences between issuers matter most.
A stablecoin is a token intended to hold a fixed value against a currency, almost always the US dollar. They are the settlement asset for most trading, the unit most DeFi is denominated in, and the part of this field with the clearest present-day use — moving dollars internationally, quickly, at low cost, at any hour.
Three designs, three failure modes
1. Fiat-backed
The issuer holds dollars and short-term government securities, and issues one token per dollar held. Redemption at par by approved parties is what keeps the price anchored: if the token trades below a dollar, redeeming is profitable.
- Depends on: the reserves genuinely existing, being liquid, and being redeemable.
- Fails when: reserves are overstated, illiquid, or frozen. A brief depeg has occurred when a portion of reserves sat at a bank that failed.
- Check: what the reserves consist of, who attests to them, how often, and whether it is an attestation or a full audit. These are different things.
2. Crypto-collateralised
Users lock volatile assets worth more than the tokens they mint — often substantially more — with automatic liquidation if collateral falls too far.
- Depends on: over-collateralisation holding and liquidations executing.
- Fails when: collateral falls faster than liquidators can act, or when the price feed is wrong. See oracles.
- Trade-off: transparent and verifiable on-chain, and capital-inefficient by construction.
3. Algorithmic
No meaningful collateral. The peg is maintained by a mechanism — typically allowing the stablecoin to be exchanged for a variable quantity of a companion token, so arbitrage should restore the price.
Terra's UST relied on convertibility into its companion token LUNA to hold the peg. When confidence broke, restoring the peg required minting LUNA in enormous quantity, which collapsed LUNA's price, which required minting more. The mechanism accelerated the failure rather than arresting it. Both assets went to approximately nothing within days, and the failure propagated through the lenders and funds exposed to it. See the 2022 collapses.
The reflexive risk — that the mechanism depends on the companion token holding value, which depends on confidence in the mechanism — was described publicly by multiple analysts while the system was growing. This is worth remembering whenever a novel stability design is presented as proven by the fact that it has not yet failed.
What regulation now requires
The GENIUS Act requires payment stablecoin issuers to be licensed, to hold reserves backing tokens one-to-one in approved assets, and it prohibits paying interest on holdings. The European Union's MiCA regime, fully applicable from 30 December 2024, imposes comparable reserve and authorisation requirements. The direction in both is the same: treat issuance as a regulated payments activity rather than a technology product.
The interest question
An issuer holding reserves in short-term government debt earns the yield on them. Under the US framework that yield cannot be passed to holders, which means the issuer keeps it. Holding a stablecoin is therefore holding a non-interest-bearing dollar claim while someone else earns the interest — an arrangement worth understanding before treating a stablecoin balance as equivalent to a deposit.
What to check before holding any
- What backs it, specifically, and who verifies that.
- Who can freeze your balance. Most major fiat-backed issuers can and do, at law-enforcement request. This is a real property of the asset.
- What redemption requires — many permit direct redemption only for large approved counterparties, so ordinary holders depend on market liquidity.
- Which jurisdiction the issuer sits in and under which regime.