Tether leads as pack chases, but is DAI as dead as Terra? – The stablecoin war, a Deep Dive

Cryptocurrency can be a polarising subject. Some believe it will change the world. They say we will live in a society with Bitcoin as the reserve currency; we will purchase our chai tea lattés in Starbucks with digital tokens, and then we will post them on social media domiciled in Web3, with everything running seamlessly through decentralised pipelines.

Then there are those who say it’s a complete waste of space, a voraciously capitalist money-grab awash with Ponzi schemes and shameless promotions (Kim Kardashian, if you’re reading this, I am looking at you).

But even among those who are sceptical about crypto, the majority appreciate the power of blockchain technology and the impact that it could have on society.

One of the more intriguing elements of blockchain technology is stablecoins. Simply fiat currency domiciled on the blockchain, it allows users to circumvent the volatility of crypto while still utilising the blockchain. This means the downside of a portfolio yo-yo-ing all over the shop is avoided, yet the benefits of blockchain – accessibility, speed, cheap transactions – can be utilised.

And given so much of crypto is funnelled through USD, all the biggest stablecoins are dollar iterations. In a year where the greenback has crushed every major currency, while nations around the world fight against rampant inflation, this gives citizens the opportunity to park their wealth in USD rather than hold their own (often unstable) currency.

So, which stablecoin is the most popular? And how are they growing? I took a dive into what is the most boring crypto in the world – in terms of price volatility – yet for a variety of other reasons, is incredibly exciting.

This is the stablecoin report.

Timeline – growth of stables

I look back now at the start of 2020 as the “new paradigm” of crypto. COVID broke onto the scene in the first quarter, and following a meltdown in March as the world sat down to try and figure out what exactly this coronavirus meant, crypto surged.

It took its place on the centre stage and prices, volume and liquidity rocketed upwards. Then this year, in 2022, we transitioned to a new age of high interest rates, as the money printing bonanza of recent years caught up with us and inflation flexed its muscles.

This sent tokens crashing. Bitcoin fell from $69,000 to below $20,000, and funds flowed out of stablecoins. Some stables have fared better than others, however. Hit “play Timeline” on the below graph to get a picture of the movements over the last two years.

Indeed. A run from $20 billion to $160 billion in two years – that’s an 8X, people.

Of course, there is the elephant in the room when looking at that above graph. And that elephant has a name – Terra.

 Decentralised vs Centralised

Perhaps blinded by the allure of a decentralised stablecoin, many crypto enthusiasts bought into TerraUSD (UST). Working off some seriously broken circular logic, the stablecoin was backed by Luna, which itself was backed by nothing. A fancy way to say it was uncollaterised, and the whole house of cards came tumbling down, dragging a lot of the crypto ecosystem with it.

I was involved in this, too, to be fair. I knew the model was flawed but I thought it would last longer than it did. I have written about my involvement in the circus plenty, with this piece detailing me finally cutting my losses and selling my UST, swallowing a nasty loss and a rather unpleasant blow to my already-bruised ego.

But anyhow. Terra is past tense. The other remaining decentralised stable is DAI, sitting at a market cap of $6 billion. The only issue here is that, to me, DAI is just as broken as Terra. Sure, the implications won’t be as severe and this won’t be an insane death spiral, but if you ask me, DAI has the same probability as Terra of ever becoming a reputable and impactful stablecoin – zero.

That’s because the model makes no economic sense. Overcollateralisation means in order to receive $100 DAI, one must pledge $150 in collateral. That is grossly inefficient and is all you need to know. Then there is also the fact that it’s not even decentralised, with so much exposure to USDC and other centralised assets.

In order to pursue this seductive quality of decentralisation, DAI compromised by sacrificing capital efficiency. In a world of rising interest rates, this will never work. And ya…it’s not even decentralised.

A decentralised stable would be fantastic, but there is no way to make it happen right now. Hopefully one day it could happen, but I’m not smart enough to think of how. As for DAI, I can’t ever see it becoming relevant. It will either die (pun intended, I promise) a slow death, or take some drastic governance action as it flails for relevance (appartently it is considering not being a stablecoin any longer and instead “removing” the peg, whatever that means).

Centralised stables – Circle taking Tether’s throne?

So this takes us to centralised stables. Not as romantic, but at least the things work, right?

Tether (USDT) is the OG and central to everything in the space, and is the single biggest liquidity pair. Yet it continues to face questions regarding its reserves, and in the aftermath of the Terra contagion its peg wavered down to 95 cents.

It should be said that Tether never failed to redeem, and sold out massive chunks of their holdings without a hitch – a larger portion of their reserves than most fractional reserve banks would be able to handle. But still, people holding stables want to be able to buy and sell at that $1 mark – no matter where and when they want to.

Circle (USDC) is thus becoming a bigger competitor, but remains adrift in second place. I modelled up the below chart to show how Tether has been eroded downward, with the rise of alternatives. A lot of this is due to the continued narrative that sufficient reserves are not held.

2022 contagion

The year has been a   rough one for crypto markets, obviously. Stables are a pretty good way to show this, as capital packed its bags and flowed out of the system.

I plotted up how different stables have fared from January until now. It’s a good way to show how Circle has made inroads into Tether’s lead. With Tether shedding $10 billion since the start of the year, Circle has actually increased $2 billion.

Binance USD and FTX?

BinanceUSD (BUSD) is another which has made ground. Up to $22 billion, it is the seventh biggest cryptocurrency and third biggest stablecoin.

It is being pushed hard by Binance, the world’s biggest cryptocurrency exchange. Recently, the exchange delisted USDC and auto-converted all holdings into BUSD, which has helped pump the market cap up a bit.

FTX honcho Sam Bankman-Fried referred to it as the “Second Great Stablecoin War”. FTX itself is even planning to launch a stablecoin of its own.

FTX is the second biggest crypto exchange, and it brings up some interesting questions regarding the benefit of having so many stablecoins in the market. In reality, I am not sure it matters as long as they are all managed responsibly with solid reserves and transparent reporting – something which certain stables are certainly better than others at.

Conclusion and future

To wrap this up, it has been an immense couple of years for crypto and, by extension, stablecoins. The latter helps onboard people into crypto. Jumping on-chain but avoiding volatility, stables have a real use case in an industry where that is not always guaranteed.

I put this together now because the stablecoin market has transformed over the last couple of years, yet it now feels like we are embarking upon a new phase. Binance, FTX and Circle are coming for Tether. Corners insist we need a decentralised stable, but until a plan is drawn up which makes that even theoretically possible, it’s just fantasy talk.

Sure, I’d love a decentralised stable. I’d also love to wake up with the voice of Beyoncé tomorrow morning. Both those things are equally unlikely right now, so for the time being we need to chat centralised stables.

It will be interesting to re-assess these ranks this time next year, when God knows what will have happened in the crypto markets. Until then, Tether rules the roost – but the pack are chasing hard.