Understanding Stablecoins: The Bridge Between Fiat and Crypto
Bitcoin is still the most popular cryptocurrency. However, high volatility makes investors consider other options, as they don't want to turn their purchases and other transactions into risky speculation.
This is where stablecoins come in. These currencies are backed by cash or other reserve assets, so they're supposed to be less volatile than other cryptocurrencies. That's why they are popular among people with lower risk tolerance.
According to a 2017-2022 report by Statista, the market cap of the top 10 stablecoins surpassed $190 billion in April 2022 before falling to $154 billion in June.
However, as their popularity grows, authorities and regulators become more interested in stablecoins. Recently, a readout of the Federal Reserve revealed that officials were concerned about the new threats posed by these currencies due to a lack of regulation and transparency.
What should investors know about stablecoins? Are these assets worth considering? Here's what experts say:
Are Stablecoins the Bridge Between Cryptocurrencies and Fiat Currencies?
The term "fiat currencies" defines traditional currencies that are "legal tender" such as the dollar, which means they're issued or backed by governments. Additionally, this type of currency isn't pegged to the value of any commodity.
However, stablecoins offer the best of both worlds, as they're cryptocurrencies but hold their value over time and are backed by other central bank currencies.
Since they're supposed to be pegged to a fixed exchange rate relative to the dollar, stablecoins are great for everyday transactions.
Unlike free-floating currencies, stablecoins' value doesn't fluctuate wildly. Therefore, they're also used as a store of value.
An Easier Way to Spend Your Funds
Stablecoins are also considered the bridge between fiat currencies and crypto assets because they make converting and spending funds easier.
Many crypto holders convert their Bitcoin or Ethereum into stablecoins. After that, they convert these stablecoins into dollars or other fiat currencies and spend their money as needed.
As mentioned, stablecoins are supposed to have a stable value, so they're more popular for everyday commerce than crypto assets. However, many are still unsure how this currency maintains its price.
Are All Stablecoins Pegged to the US Dollar?
Essentially, they aren't. There are around 200 stablecoins on the market. Most of them are pegged to the US dollar.
However, a few stablecoins are pegged to gold, silver, oil, and other commodities. Some also peg their market value to a basket of fiat currency or other crypto assets.
Also, stablecoin issuers have another strategy to keep these currencies' stability: adjust their supply based on demand through an algorithm. In simple words, they issue more coins if prices go up and burn more when the value falls.
However, authorities and experts have raised concerns about whether stablecoins are actually stable, saying they're backed by only a portion of the US dollar. In addition, many believe that the collapse of stablecoin Terra in mid-2022 showed that these currencies might also falter in the face of crypto market volatility.
Do Authorities Regulate Stablecoins?
Currently, stablecoins aren't under clear regulation. Actually, these currencies are difficult to regulate. However, many say they should be overseen by governments or major financial entities.
These currencies are known as "so-called stablecoins" because their value depends on their backing and governance model. In addition, experts claim that issuers must commit to buying each stablecoin at the current value it's pegged to.
Besides issuing and buying these currencies, issuers should hold the assets that back stablecoins as collateral.
Regulators are concerned about the risks they may pose to customers if there isn't adequate collateral for stablecoins.
Why Do Stablecoins Need to Be Properly Collateralized?
Collateralization ensures stablecoins can be redeemed at any time, as the issuer has enough reserves to allow customers to convert these currencies into fiat.
However, since the crypto industry doesn't have strict regulations and requirements like banks, this process is much more complex than having enough cash to face a bank run by customers.
Final Thoughts – Are Stablecoins Like Digital Money?
Stablecoins are very similar to the electronic money most people use today and are considered the bridge between fiat currencies and crypto assets for many reasons.
However, there are many differences between both types of currency. Most are related to their transparency and regulation. Some stablecoins are supported by trading tools like BitQT that simplifies the access to investments and trading to users from highly-regulated or restricted countries.
As a result, regulators and legislators are still discussing and evaluating market conditions to define whether stablecoins should be treated as other money-like assets or as a new type of currency that should be scrutinized.