“Stablecoins have been an integral part of the DeFi space and helps as a weapon against the volatility of the crypto market. The stablecoins are pegged to other assets such as gold or US Dollar to ensure their price stability. On the basis of the assets they are pegged against, there are different types of stable coins available in the crypto markets.”
What are Stable Coins?
The Stable coins are the type of cryptocurrencies that have the same transparency, security and privacy as other cryptocurrencies but are not volatile as other cryptocurrencies. The stability of these coins are due to the underlying assets against which they are pegged. As assets such as gold, US Dollar or Euro are not that volatile, the investors and traders of cryptocurrency can ensure their investments are protected against the volatility of the crypto market.
Stable coins are available on multiple blockchains and this helps in using the stable coins on blockchains which have lower transaction fees. The Ethereum blockchain is the largest, but also the most expensive in terms of transaction fees. Thus, stable coins help in providing an option of using them on blockchains with lower fees. Though, it is to be noted that stablecoins cannot be transferred from one chain to another. USDT (Tether) is the largest stablecoin by market cap.
Types of Stable Coins
There are primarily four types of stablecoins on the basis of underlying collateral:
These are the stablecoins that are backed by the fiat currencies as a collateral in the ratio of 1:1. The fiat currencies include US Dollar, Euro, and Canadian Dollar etc. Examples of Fiat-Backed stable coins include USDT, PAX, GUSD, and TUSD.
There are the stablecoins that are backed by on chain crypto collateral. But as cryptocurrencies are highly volatile, to mint these stablecoins over-collateralization is to be done. For example WBTC is a stablecoin on the ethereum blockchain and to mint $500 worth of WBTC, $1,000 worth of Ethereum has to be collateralized.
These stablecoins maintain a value of $1 but are not backed by fiat collateral. They are backed by algorithms and smart contracts that increase or decrease the supply of these coins according to the price fluctuations in the market. DAI is an example of such stablecoin.
Commodity Backed Stablecoins
These are the stablecoins that are backed by commodities such as gold, oil or real estate. The values of these stablecoins are pegged to the equivalent dollar value of the underlying collateral. PAXG is one of the examples of such stablecoin.
- Stablecoins forms an integral part of the DeFi system as it protects the investors from the highly volatile crypto market.
- There are four types of stablecoins based on the underlying collateral and they include Fiat-Backed, Crypto-Backed, Algorithm-Backed and Commodity Backed stablecoins.
Disclaimer: The article is meant for the educational purpose only and in no way it should be considered as financial advice. Own research on the topic is advisable.
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