Tanya Sharma
Tanya Sharma

Updated on January 26, 2023 07:56 AM

Published on October 17, 2022 06:41 PM

Stablecoins are digital currencies whose value is linked to another coin, good, or financial instrument. Compared to other cryptocurrencies like Bitcoin, Ether, etc., they are intended to have a reasonably stable pricing.


Stablecoins are cryptocurrencies with values linked to real-world assets such as the US dollar. Stablecoins were created in part as a response to the price volatility experienced by traditional cryptocurrencies like Bitcoin, whose usefulness as a method of payment is constrained by swift fluctuations in market value. Although Bitcoin remains the most widely used cryptocurrency, it tends to suffer from considerable volatility in its price, or exchange rate. Stablecoins, as its name suggests, promise to fix this issue by maintaining the value of the cryptocurrency steadily in a number of different ways.

By keeping reserve assets on hand as collateral or by using supply-controlling computational algorithms, stablecoins aim to ensure stable prices. Stablecoins are currently a crucial part of the emerging category of goods known as DeFi, or decentralized finance, which allows for the execution of transactions without the need for an intermediary like a bank or broker. Additionally, certain stablecoins have some of the biggest market capitalizations in the cryptocurrency market, including Tether and USD Coin.


How Does Stablecoin Function?

The significant volatility of well-known cryptocurrencies, such as Bitcoin (BTC), which might make cryptocurrencies less appropriate for routine transactions, is the main goal of stablecoins. Stablecoins make an effort to link their market value to an outside standard, often a fiat currency. They function better as a means of exchange than more volatile cryptocurrencies. Stablecoins can be linked to the price of gold or another commodity, such as the U.S. dollar, or they can utilize an algorithm to regulate production. Additionally, they keep reserve assets on hand through the use of algorithmic supply-controlling methods or as collateral.


What Sorts of Stablecoins Exist?

Based on the method used to maintain its value, there are three different kinds of stablecoins. Let's discuss each of them separately.

  1. Fiat-Collateralized Stablecoins
    Stablecoins that are "fiat-collateralized" keep a reserve of a fiat currencies, such as the dollar, as security for the stablecoin's value.  These reserves are frequently audited and are kept up by independent caretakers. Popular stablecoins Tether (USDT) and TrueUSD (TUSD) are pegged to the dollar and backed by U.S. dollar reserves.
  2. Crypto-Collateralized Stablecoins
    Stablecoins with cryptocurrency collateral are supported by other cryptocurrencies. Such stablecoins are overcollateralized, meaning that the value of cryptocurrency kept in reserves exceeds the value of the stablecoins issued, because the reserve cryptocurrency may be subject to severe volatility as well.
  3. Algorithmic Stablecoins
    Stablecoins that use algorithms could or might not have reserves. Their main difference is how a stablecoin maintains its value by using an algorithm to restrict its supply, which is effectively a computer software that follows a predetermined formula. In a crisis, algorithmic stablecoin issuers are unable to rely on these benefits.


Regulation of Stablecoin

A stablecoin's value is linked to the value of another asset, such as the US dollar. The coin should continue to have the same worth as its peg. A law mandating additional licences for bitcoin businesses doing business in California was approved by the California Senate in August of 2022. The law forbids trading in stablecoins that aren't regulated by a bank and completely backed by secure reserves or by the California Department of Financial Protection and Innovation because of these licencing requirements. The California law also prohibits the trading of any stablecoin that is not issued by a bank, does not have sufficient reserves, or has not yet been granted a licence by the state of California.

Due in part to the size and level of financial growth of the American economy, New York City continues to be the greatest worldwide trading hub for public stock and debt capital markets. In addition, New York tops the list for managing hedge funds, private equity, and the amount of money involved in mergers, cryptocurrencies, and acquisitions. In place of the absence of federal laws, New York approved a BitLicense bill in 2015 that established a precedent for state-level regulation of cryptocurrencies. Popular cryptocurrency exchanges like Binance.US and do not provide their services to residents of New York.


Which Stablecoin Is the Best?

Tether is the most widely used and valuable stablecoin in terms of market capitalization (USDT). It is backed by gold reserves and tied at a 1:1 ratio to the US dollar. It frequently ranks among the top five cryptocurrencies in terms of market cap. Tether is available on the majority of the main cryptocurrency exchanges, including as Kraken, Binance, and Coinbase.


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