Today’s Cache | Bitcoin as a reserve currency

Today’s Cache is a column on the happenings in the world of tech and corporations.

Published - April 13, 2022 04:28 pm IST

File photo

File photo

Stablecoins are rapidly gaining ground. They are becoming a common medium of exchange and often used by traders seeking to move funds around and speculate on other cryptocurrencies.

For example, it is much easier to swap tether - the biggest and most mature stablecoin - for bitcoin or other crypto, than it is to swap U.S. dollars for bitcoin. A year ago, tether's market cap was $44.5 billion. It has since risen about 85% to $82.3 billion, according to CoinMarketCap.

This balooning class of cryptocurrencies is mostly backed by the U.S. dollar reserves, and a group in South Korea is looking to change that. Seoul-based Terraform Labs is working to crown bitcoin as the reserve currency to back its own stablecoin TerraUSD. Currently, TerraUSD maintains its 1:1 dollar peg through an algorithm that moderates supply and demand in a complex process that involves the use of another balancing token called Luna.

Terra Labs has set out to amass $10 billion worth of bitcoin to make its bitcoin reserve plan work. Vetle Lunde, analyst at Norway-based crypto research firm Arcane Research who tracks the Terra project purchases, estimates that, to reach $10 billion in reserves, the platform could eventually hold between 60,000 to 70,000 bitcoin. It currently has 40,000 bitcoin, which is 3,200 fewer than Tesla’s stake.

A stablecoin backed by bitcoin reserves, according to Terraform co-founder Do Kwon “will open a new monetary era of the Bitcoin standard”, referencing the gold standard that formed the backbone of global finance about a century ago.

However, other market participants caution that an ever-closer embrace between bitcoin and stablecoins like TerraUSD could introduce a new risk for crypto markets that raised the prospect of a “death spiral” for investors down the line.

The death spiral effect could arise if TerraUSD contracts, leading to the balancing token Luna being minted, which in turn could decline its value. This may lead to fear, and investors redeeming more of Terra stablecoins.

So, it will be interesting to watch whether other algorithmic stablecoins follow Terra’s lead and back up their coins with reserves of bitcoin, if the experiment succeeds.

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