A Comprehensive Guide to Gain a Full Understanding of Stablecoins
A stablecoin is a type of cryptocurrency that has a fixed or stable price at all times. Unlike other cryptocurrencies, its value is not subjected to the market changes on account of supply and demand.
Introduction
A stablecoin is a type of cryptocurrency that has a fixed or stable price at all times. Unlike other cryptocurrencies, its value is not subjected to the market changes on account of supply and demand.
Stablecoins incorporate financial mechanism to ensure that its value remains the same and does not get affected by the increase or decrease of its total circulatory supply.
How do Stablecoins Work?
A blockchain also issues stablecoins. However, they are mined or pre-mined like regular cryptocurrencies. The total supply of stablecoin continues to change to ensure that the unit price of each stablecoin remains at a fixed value.
To ensure this, stablecoins are backed by a reserve asset such as fiat currencies, cryptocurrencies, commodities, stocks, or other options. Stablecoins are burned if the total value of its backed assets reserves decreases and is created when it rises.
Origin of Stablecoins
The first ever stablecoin was co-founded by Charles Hoskinson and Dan Larimer. It was a project launched in 2014 and named BitUSD. BitUSD was issued as a token native to the BitShare blockchain.
However, BitUSD is no longer operational since the project faced issues on account of reserves that experienced high volatility.
Advantages of Stablecoins
- Price Stability
- Risk Management
- International Payments
- Preserve Purchasing Power
Price Stability
The most visible and important advantage of stablecoins is that they always maintain a stable price. It means that investors do not have to worry about market changes when they hold stablecoins. It is one of the reasons that many cryptocurrency investors convert their cryptocurrencies into stablecoins when they have earned a sizeable profit from the market.
Risk Management:
Stablecoins are ideal for risk management when investing in cryptocurrencies. Unlike traditional cryptocurrencies, they are not highly volatile in terms of price changes. Therefore, investors can use them to reduce their overall risk exposure when creating cryptocurrency positions.
International Payments:
Stablecoins are often used as a mode of international payment. Traders and merchants can conduct trades online using stablecoins without worrying about the constantly changing unit price of the cryptocurrency while benefiting from all the advantages of blockchain transactions.
There are some e-commerce platforms that allow their small-scale merchants to accept payments in the form of stablecoins as well.
Preserve Purchasing Power:
Stablecoins are often used as a store of value. Therefore, they can work to preserve the purchasing power of their holders. At the same time, cryptocurrency investors are saved from the hassle of converting their reserves into fiat currencies due to the presence of stablecoins.
Many traditional payment networks have also started to accommodate stablecoin transactions.
Disadvantages of Stablecoins
Transparency
Stablecoins lack the level of transparency that public and open-sourced blockchains offer. Stablecoins may be under the control of a centralized party, and therefore they are not as immutable or transparent as regular cryptocurrencies.
Centralization
Fiat-backed stablecoins fall into the category of centralized projects. Some cryptocurrency investors are worried about diverting to centralized options while working with DeFi products.
Regulatory Troubles
Stablecoins also face regulatory issues. There is a generalized lack of regulatory clarity around stablecoins in general that can hinder their wider adoption.
Conclusion
By understanding the advantages and disadvantages associated with stablecoins, cryptocurrency investors can incorporate them into their trading strategies more effectively.
