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April 25, 2022

How safe are stable coins actually?

Welcome to the cryptohunt jam where we spend one minute a day to explain crypto. In plain english.

Today, we’ll talk about how stable those Stable Coins actually are.

Remember from previous episodes: Stable coins are cryptocurrencies that track a real world currency in value, for example the US Dollar. That means 1 stable coin is always traded for 1 US Dollar. That protects the holder against the wild market swings in crypto like Bitcoin. 

But how safe is your money in stablecoins like Tether or USDC actually? To get to the bottom of that question, first we need to understand how stablecoins work.

Imagine you collect shells on the beach. They are worthless by themselves. But let’s say you offer your friends a deal: Buy a shell from me for 1 dollar and I guarantee that I will always exchange that shell back for a dollar. In theory your friends could now buy bread with those shells, if the baker is willing to exchange them back for real dollars with you.

That’s how stable coins work too. You buy them from the issuer, and in theory the issuer creates a reserve of real currency, guaranteeing the value.

Ok! Back to your shells. Now, what happens if you had spent the money your friends gave you and suddenly they all come back, trying to exchange their shells? You wouldn’t be able to pay them. Good luck to them, finding someone on the open market to buy some useless shells.

And that’s the risk with stable coins too. Some don’t have enough reserve to cover a major exchange back to dollars. Tether for example was sued by the US government because it allegedly made misleading claims about the amount of reserve they hold. USDC went the other way and created a fully audited and regulated reserve to create trust.

So be careful and do your research. Some tokens may be less stable than you think.

And next time we will talk about the Blockchain Trilemma (christian “try-lemma”), the three big problems all blockchains struggle to solve.

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