What is an algorithmic stablecoin and how does it work

algorithmic stablecoin

During the year 2022, the prices of Terra Luna (LUNA) and Terra USD (UST) fell by almost 90% resulting in a complete shake-up of the crypto landscape.

The main cause for this drop was the sudden increase in the supply of UST and both tokens.

Because UST is available as an algorithmic stablecoin, that affected both assets.

In this blog, we’ll cover algorithmic stablecoins, crypto assets classified as such, as well as the top tokens.

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What is an algorithmic stablecoin?

Here if we talk about a crypto asset, its value is backed by another crypto asset, whose main purpose of design is to maintain a stable value.

Talking about an algorithmic stablecoin, turns out to be a kind of crypto asset that is completely dependent on two types of tokens: a crypto asset and stablecoin that usually supports stablecoins.

Therefore, algorithmic currency plays an important role in maintaining control over the relationship between them.

Stablecoins: On the other hand, stablecoins are a cryptocurrency whose price is completely tied to a different class of asset, gold or fiat currencies for lending, to keep the price stable.

The main purpose of designing these assets has been to gain access to price stability. 

However, whenever any other crypto assets are traded by crypto asset exchanges, the prices of these algorithmic assets are likely to fluctuate continuously depending on the demand and supply of the market.

How does it work?

Algorithmic stablecoin prices can closely follow every situation in the market, to avoid a drop in stablecoin prices.

Debugging: This is a situation where the value of a specific stable currency falls below a certain exchange rate.

Pegging: On the other hand, pegging is a situation that continuously attempts to set a fixed exchange rate between two currencies.

In the event of depreciation, the effectiveness of the coin and its ability to maintain the desired value peg would be questioned.

In other words, when it comes to the position of depreciation, it can usually spell disaster for a stablecoin.

Key takeaway: The principal objective of algorithmic stablecoins is to accomplish a steady cost.

Types of Algorithmic Stablecoins

There are three main types of algorithmic stablecoins here.

A different algorithm is used by the given three types to retain their respective values.

  1. Fox

First of all, if we talk about Fox, the base supply is usually manipulated by rebasing algorithmic stablecoins to maintain its peg.

Coins are added or removed from circulation based on the stablecoin’s price deviation from US$1 by the protocol.

In addition, if the price is above 1 US dollar, chances of casting are formed; However, when the price is less than US$1 there will be burning.

  1. Seigniorage

On the other hand, if we talk about Seigniorage Algorithm stable coins, then a multi-coin system is used by it.

These are places where a specific stablecoin can be stable, which turns out to be a coin that at least facilitates stability.

Other than this, the combination of a protocol-based mint-and-burn mechanism with a free market mechanism is presented by the Seigniorage model.

It is a process in which an attempt is made to drive market behaviour for trading non-stable coins. 

Free Market Mechanism: It is a system where the government allows economic exchanges to take place with minimal or no interference.

  1. Fractional-algorithmic

Speaking of the fractional algorithmic stablecoin, it is assumed to be a combination of the previous two.

Stablecoins of this type are typically presented as collateral to maintain value by having and partially backed by an algorithm that can modify the stablecoin supply as needed.


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