The collapse was shocking—a bank run that occurred with code lines rather than crowded sidewalks outside a branch. The crash was the kind of danger that regulators have been warning about in the rapidly expanding cryptocurrency market. Additionally, it brought stablecoins’ role in a space that is becoming increasingly unpredictable back to the forefront. The purpose of stablecoins is to provide investors and crypto users with a secure means of trading in and out of volatile cryptocurrencies. However, the collapses of UST and Luna reinforce the notion that the design of some stablecoins poses significant dangers. Even though Terra investors suffered the most immediately, the company’s demise could have short- and long-term repercussions for crypto and beyond, particularly as skeptical legislators and regulators assess the damage. And you can invest in cryptocurrencies through BitAlpha AI. It is the best trading bot.
According to the report, retail investors bought Bitcoin, and whales with Coinbase, FTX, and Binance “probably cashed out at the expense of smaller holders.” Trading activity on major exchanges increased in the days following the collapse of crypto firms FTX and Terraform Labs, according to a Bank for International Settlements (BIS) report.
The BIS reports in a bulletin dated February 20 on “crypto shocks and retail losses” that while the price of Bitcoin, Ether, and other currencies fell in 2022, the number of daily active users at some exchanges, such as Coinbase and Binance, “increased markedly” following news of Terra and FTX’s collapse. The financial institution suggested that “users tried to weather the storm” by shifting their investments into stablecoins and other tokens that probably did not appear bearish at the time.
On the other hand, according to the BIS, whales at the aforementioned exchanges “probably cashed out at the expense of smaller holders” by reducing their BTC holdings as retail investors purchased crypto. According to the bank, analysts looked at how many crypto investment apps were downloaded. They found that roughly 75% of users had downloaded an app when BTC was worth more than $20,000 and that each user had bought $100 in BTC the first month and every month after that.
What is Terra (LUNA)?
Terra is a blockchain protocol that powers price-stable global payment systems by pegged stablecoins tied to fiat. Terra, according to its white paper, offers quick and affordable settlements by combining the censorship-resistant nature of Bitcoin (BTC) with the price stability and widespread adoption of fiat currencies.
Terra’s development started in January 2018. Its mainnet was live in April 2019. It plans to launch additional options starting in September 2021, including stablecoins that are pegged to the United States dollar, the South Korean won, the Mongolian tugrik.
LUNA, is used for settling the cost of the stablecoins conventions. LUNA has the functionality of a governance token because holders can also submit and vote on governance proposals.
The Reason Behind The Crash
Some stablecoins have the value they do because they are completely backed by reserves. If investors ever decide to leave, the stablecoin’s foundation should theoretically have enough cash on hand to pay them all at once. In contrast, UST is an algorithmic stablecoin that maintains its dollar peg by relying on code, constant market activity, and pure faith. Theoretically, UST’s peg was also supported by its algorithmic connection to Luna, Terra’s base currency.
Investors have been purchasing UST for the past six months primarily for one reason: to make money from Anchor, a platform for borrowing and lending, which offered a yield of 20% to anyone who borrowed UST from the protocol. Numerous critics immediately compared this opportunity to a Ponzi scheme upon its announcement, asserting that Terra could not mathematically guarantee such a high return to all of its investors. Terra team members even acknowledged this was the case, comparing the rate to marketing expenditures to raise awareness in the same way that Uber and Lyft initially offered heavily discounted rides.
So UST lost its dollar peg. Investors who had earned interest through Anchor scrambled to leave before it was too late as a result of a bank run.
Conclusion
The lack of oversight at a major exchange like FTX and the potential growth of the cryptocurrency market to have an impact on traditional financial markets are just a few of the issues that regulators and industry leaders have raised since the 2022 market crash. In the United States, FTX, Celsius Network, and Voyager Digital are all undergoing bankruptcy proceedings, and Sam Bankman-Fried, the former CEO of FTX, is the subject of criminal charges.
