DECENTRALIZED STABLECOINS

The prices of cryptocurrencies are extremely volatile. To mitigate this volatility, stablecoins that are pegged to other stable assets such as the USD were created. Stablecoins help users to hedge against this price volatility and was created to be a reliable medium of exchange. Stablecoins have since quickly evolved to be a strong component of DeFi that is pivotal to this modular ecosystem.

There are 19 stablecoins currently listed on CoinGecko. The top 5 stablecoins has a market capitalization totaling over $70 billion.

We will be looking into USD-pegged stablecoins in this chapter. Not all stablecoins are the same as they employ different mechanisms to keep their peg against USD. There are two types of pegs, namely fiatcollateralized and crypto-collateralized. Most stablecoins employ the fiatcollateralized system to maintain their USD peg.

For simplicity, we will look at two USD stablecoins, Tether (USDT) and Dai (DAI) to showcase the differences in their pegging management.

Tether (USDT) pegs itself to $1 by maintaining reserves of $1 per Tether token minted. While Tether is the largest and most widely used USD stablecoin with daily trading volumes averaging approximately $30 billion in the month of January 2020, Tether reserves are kept in financial institutions and users will have to trust Tether as an entity to actually have the reserve amounts that they claim. Tether is therefore a centralized, fiat-collateralized stablecoin.

Dai (DAI) on the other hand, is collateralized using cryptocurrencies such as Ethereum (ETH). Its value is pegged to $1 through protocols voted on by a decentralized autonomous organization and smart contracts. At any given time, the collateral to generate DAI can be easily validated by users. DAI is a decentralized, crypto-collateralized stablecoin.

Based on the top 5 stablecoins’ market capitalization, Tether dominates the stablecoin market with approximately 80% of market share. Although DAI’s market share only stands at about 3%, its trading volume has been increasing at a much faster rate. DAI’s trading volume increased by over 4,000% relative to Tether’s growth of 126% since the start of January 2020.

DAI is the native stablecoin used most widely in the DeFi ecosystem. It is the preferred USD stablecoin used in DeFi trading, lending and more. To understand DAI further, we will introduce you to its platform, Maker. 

Original article is taken from Coingecko's book "How to DeFi"

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