Stablecoins are digital assets designed to mimic the value of fiat currencies like the dollar or the euro. They allow users to cheaply and rapidly transfer value around the globe while maintaining price stability. Cryptocurrencies like Bitcoin and Ethereum are notorious for their volatility when priced against fiat. This is to be expected, as blockchain technology is still very new, and the cryptocurrency markets are relatively small. The fact that the value of a cryptocurrency isn’t tethered to any asset is interesting from a free-market perspective, but it can be cumbersome when it comes to usability.
As mediums of exchange, cryptocurrencies are excellent from a technological standpoint. However, the fluctuations in their value have ultimately rendered them highly risky investments, and not ideal for making payments. By the time a transaction settles, coins can be worth significantly more or less than they were at the time they were sent.
But stablecoins have no such problem. These assets see negligible price movement and closely track the value of the underlying asset or fiat currency that they emulate. As such, they serve as reliable safe haven assets amid volatile markets.
There are a number of ways in which a stablecoin can maintain its stability. In this article, we’ll discuss some of the mechanisms used, their advantages, and their limitations.
How do stablecoins work?
There are a few categories of stablecoins, each of which go about pegging their units in different ways. Below are some of the most common types of stablecoin.