Stablecoins will never be the same again. Until recently, it was common practice as a stablecoin issuer to hold onto as many dollars as possible, so that the value of a dollar stablecoin was always one dollar. Terra has completely turned this on its head by using bitcoin as collateral for its own UST.
Suppose UST becomes a successful stablecoin and is used as a means of payment, what does this say about a potential bitcoin standard? By this we are not referring to the famous book, but to bitcoin as a replacement for the gold standard.
Bitcoin provides more transparency
Terra’s UST digital dollar is the first major stablecoin of its kind to make such a move, but it won’t be the last. One of the reasons Terra chose bitcoin over dollars has to do with legislation. Other stablecoins have a lot to do with legislators and auditors because they claim to have as much cash dollars as they spend.
On Terra, all you need to do is inspect the bitcoin receiving address through a block explorer to see for yourself if the number matches what it says.
Additionally, Terra integrates bitcoin into the broader ecosystem as the collateral layer to support decentralized finance and metaverse economies. And then we’re just talking about current developments, and not what the new hype will be next year.
Replace internal money with external money
In addition to Terra, there is more support for crypto (read: bitcoin) as a guarantee of value. Zoltan Pozsar of Credit Suisse recently published a study. He wrote that as a result of the sanctions on Russia, so-called “internal money” will be replaced by “external money” to support the value of fiat currency.
Domestic money is a monetary instrument that appears as debt on another entity’s balance sheet, such as government bonds. Foreign money is not a debt on another entity’s balance sheet. These are assets like gold and bitcoin.
Arthur Hayes, one of the founders of BitMEX, goes one step further by stating that the current PetroDollar/EuroDollar monetary system is officially over. This is because the EU and US froze the Russian central bank’s fiat currency reserves and removed certain Russian banks from the SWIFT network. He says that aside from moral considerations, the rules of the game have changed forever. It is no longer safe for central banks to keep a large amount of foreign currency on their balance sheets.
Both analysts agree that central banks will look for something else to hold value and hold less foreign currency. Think of what we simply call foreign money.
This does not necessarily mean that major central banks will hold bitcoin as reserve assets, but it does renew interest in bitcoin in this particular use case. Central banks now only need to see how stablecoins put bitcoin on their balance sheets to ensure stable value.
Systemic risk of stablecoins
For a stablecoin to succeed, two things are needed: demand and sufficient reserves. First-generation stablecoins (USDT and USDC, for example) used a basket of assets for their reserves, including cash, government debt, or commercial paper (Inside Money).
But this model is under pressure from uncertain regulations. Financial watchdogs are increasingly seeing systemic risks with stablecoins, similar to risks in the foreign exchange market.
Suppose users lose confidence in USDT, for example, then everyone wants to exchange their USDT for dollars as quickly as possible, and that can form a cascading effect. The underlying asset may also be under the same downward pressure.
That is one of the reasons why stablecoins are based on algorithms and smart contracts. These usually have cryptocurrencies as collateral. At the moment, there is still no single algorithmic stablecoin that is behind the entire crypto market. No, Terra isn’t that far away either, but she’s already being played with.
Terra and Luna Foundation Guard, a non-profit organization created to support the Terra network, recently announced that it will sell $1 billion Terra tokens to create a $10 billion bitcoin reserve.
Bitcoin as a reserve asset for stablecoins fits the idea that bitcoin is digital gold in several ways. This could potentially become the modern, digital Bretton Woods system. Economists are already talking about the third iteration of Bretton Woods.