Fancy crypto (stablecoin) crash wipes over $ 40 billion value, used same principles that crashed Zimbabwe currencies

It’s human nature to broadcast anything that supports our convictions and gloss over everything that undermines them. We shout our victories and whisper our defeats.

We sometimes attach our identities to our opinions, making it hard to change course later on, or at the very least seriously consider new information.

Basketball fans will remember Lebron James, frustrated by people calling his team old, telling the world to keep the same energy by the end of the season. That came from him thinking he’d prove the naysayers wrong.

Well, the season went terribly for his team and he couldn’t keep his own advice, he couldn’t keep the same energy. There’s no snark in defeat.

Same goes for cryptocurrency enthusiasts. They (we) are quick to proclaim the death of fiat currency whenever bitcoin makes a run but it’s crickets when there’s a slide.

Six months ago bitcoin made a stunning run, reaching an all time peak of US $ 68,000 and that’s all anyone could talk about. That was a little too close to the sun and Icarus has fallen back down to US $ 32,000. Less than half of what it was worth in November 2021.

So it went for most other cryptocurrencies too. Ethereum fell from close to $ 5,000 to around $ 2,000 in the same time frame.

Those are Zimdollar levels of collapse right there. Our dollar was valued at around 1: 180-190 six months ago and has fallen to 1: 360-450 against the USD.

This demonstrates that crypto will not be the store of value we crave. It’s just too volatile, even though it has been a stellar store of value and more in the long term.

A solution to crypto volatility

What if a cryptocurrency was as stable as the USD or some other stable (ish) currency?

Yes, I know that the USD has steadily been losing value over the decades and with US inflation at its highest in over 40 years, the rate of depreciation is only increasing.

That may be but the key word is ‘steadily’. The USD is losing value but it is not losing half its value in six months. The difference between it and cryptocurrencies is even more pronounced in short periods of time.

So, again I ask, what if cryptocurrencies were as stable as the USD? We could transact online and through blockchains across the globe without governmental restrictions and without worrying about cryptocurrencies losing value the minute we want to transact.

Clever minds saw a simple solution to this problem, peg the cryptocurrencies to the USD and be done with it. So they did and the resulting Frankenstein-like currency became a stablecoin.

You didn’t think the Zim government had a monopoly on pegging currencies to the USD, did you? Stablecoins are pegged at 1: 1 with the USD.

Stablecoin

There are two main types of stablecoins. The first is pretty much like a digital version of the USD (or any other underlying currency). Every single coin is backed by real USD in a bank account somewhere. Users are issued with tokens which are USD for all intents and purposes.

That’s easy to understand and makes for a relatively stable stablecoin. However, if you’re Zimbabwean, there’s nothing about that situation that you haven’t heard before.

When the bond notes were introduced we were told that they were backed by a US $ 200 million Afreximbank loan. That turned out to be a stretch lie. As a result the equal pegging to the USD could not be maintained.

Turns out we are not unique in that either. The most transacted stablecoin is USDT which was created by Tether. Last year Tether paid a US $ 41 million fine for lying that all their tokens were fully backed by USD.

That didn’t break the level pegging but the Zimbo in me took notice.

The second type of stablecoin is a bit more out there. There is no talk of USD backing, the tokens are just like cryptocurrencies like bitcoin with no backing whatsoever. So how can they be stablecoins then?

The creators use math to try to maintain a 1: 1 pegging. If you remember the Zim govt pulling all sorts of tricks to try to maintain bond note-USD parity then you have an idea what that looks like.

Fancy algorithms decide when to hold, buy or sell other cryptocurrencies so as to keep the stablecoin at 1: 1 with the USD. It’s crazy but it kind of works, until it doesn’t.

How one stablecoin collapse wiped billions

The UST stablecoin which was once pegged at 1: 1 with the USD recently crashed and it was not pretty. It was one of the algorithmic stablecoins we discussed.

It was on the terra blockchain which produces luna tokens. UST could be created by burning luna tokens and 1 UST could always be traded for one dollar worth of luna tokens.

It gets a bit confusing but the moon token had its own price and was worth close to $ 120 in April. Trade of the moon was used to keep the UST at 1: 1 with the USD.

Management of demand-supply factors and a huge bitcoin reserve were the tools to achieve that.

What would happen was that when the price of 1 UST fell below US $ 1, people would buy the UST and then trade that for lunas. See, if the price of UST fell to say 98 cents, people would flock to buy the UST and immediately convert to luna, making 2 cents for every UST bought.

That demand would raise the price of UST and the opposite would happen if the price of UST exceeded US $ 1. People would sell their UST, make a profit and bring UST’s price down in the process.

Then the creators of the whole thing had bitcoin reserves that they used to help maintain the peg if market forces were not sufficient to maintain the peg themselves. They bought UST with their bitcoin reserves if the price fell below $ 1 and sold UST when it was above $ 1.

The stablecoin tumbles down

Some people sold off hundreds of millions of dollars worth of UST all at once and the price of UST fell below $ 1. People of course bought UST up to try and convert it to luna and make a profit.

However, there was a limit on the number of moons that could be traded for UST a day and so the careful balancing act could not be maintained – the peg was broken. When that happened, everyone scrambled to sell their own UST, further driving down the price of UST.

As I write this, 1 UST is worth 2 cents. Less than a month ago it pretty much maintained the 1: 1 peg. This wiped close to $ 18 billion dollars of people’s wealth.

Then there is the moon token. Remember it was trading at $ 120 last month, well, it’s dead now. It’s trading at $ 0.000102, that’s a hundredth of a cent. Over $ 40 billion was lost. The creators revived luna and it reached a peak of close to $ 20 but it has since fallen to $ 9.

Currency pegs vs price controls

A currency peg is about the most arrogant thing any organization can attempt. To think you can respond in real time to counteract market forces is delusional. It’s in the same WhatsApp group with price controls, the too-good-to-work gang aka fantasy.

We have seen this in Zimbabwe and that doesn’t change just because the one attempting it is using fancy tech like blockchains. The markets will not be defeated.

In the stablecoin collapse above, some believe it was the work of hitmen. The sudden offloading of hundreds of millions of dollars worth of UST at one time looks the part.

That may be but all I can see in my head is the Zim government blaming economic saboteurs for the collapse of the ZW $. I can’t unsee the parallels.

The USD backed stablecoin is a better product than the algorithmic one. However, we still have to trust that all the tokens are backed by USD and that could be the case today but who knows about tomorrow. We saw how the biggest stablecoin has already been caught not meeting that standard.

In any case, the way most of these companies are set up, if they fail, they take the stablecoin with them. The funds that are deposited with banks to back the stablecoins can be used in the case of these companies going bankrupt.

So, like with all things crypto, there is no sure thing, even with stablecoins evidently. You just have to do your research and exercise caution. There are good products out there but you will have to work to find the diamonds in the rough.

However, remember Zimbabwe crashed its currencies using the same principles stablecoins are using.

You can also check out:

Zim has much in common with country which made bitcoin legal tender, so

Bitcoin price fluctuations and how Zim is being lapped in the crypto adoption race

The govt has a crypto adoption framework, but it isn’t using it

Beware of crypto-exchanges as large scale hacks are on the rise


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