Blockchain 101- The stablecoin option

The crypto market continues with its fast paced growth with stablecoin tokens now seemingly taking centre stage. Driven by the desire to create a solution that will finally fulfill the quest to achieve mass adoption, entrepreneurs are increasingly designing tokens that aim to satisfy this.

Original cryptos like Bitcoin or Ethereum seem to suffer from volatility, which for now make them unsuitable to function as medium of exchange or a store of value. Trade happens smoothly if the medium used is stable but when it fluctuates widely each day some people will reject that medium. Of course there is more to this crypto volatility than what may be known.

In spite of this, crypto-currencies are still appealing because of their centralized nature as well as their immutability—meaning holders can be confident that no one will temper or counterfeit them.

 Face with this conundrum, innovative entrepreneurs are attempting to create hybrids that at least meet the minimum requirements for anything to function as a medium of exchange or store of value on one hand while remaining decentralized on the other. Stablecoins appear poised to be that exact solution.

Solving volatility problem

Stablecoins are tokens designed to minimize the effects of price volatility. To minimize volatility, the value of a stablecoin can be pegged to a currency, or to exchange traded commodities such gold or silver. Stablecoins backed by currencies or commodities directly are said to be centralized, whereas those leveraging other crypto-currencies like Bitcoin are referred to as decentralized.

Nominally, stablecoins appear to be an alluring addition to the cryptos, particularly if backed by a stable currency or metal. Backing a stablecoin with gold means holders will not worried in times of inflation and devaluation of currency.

Argentina, Turkey, Venezuela and Zimbabwe are all facing currency troubles and they are all planning or have already launched new currencies. For these countries, stablecoins appear to be a logical and perhaps less complex option.

Zimbabwe has so far indicated its disdain for crypto-currencies and is promising another fiat currency by the end of the year while Argentina is poised for re-dollarisation. Turkey’s lira suffered heavy knocks during 2018 and it has started the year with the slide showing no signs of a let up. Turkey has so far not announced anything drastic but reports of the government buying Venezuela gold highlights the extra ordinary steps Ankara is taking to shore up its currency.

Weakness of stablecoin

Venezuela, which is facing a far worse currency crisis, took the unusual step of embracing cryptos when it launched its own crypto—the petro. Whether more countries, which face currency troubles, will follow the same route, only time will tell.

Yet, in spite of their allure, stablecoins have problems of their own with many of them failing the decentralization test. Some stable coins are said to be backed by currencies but there is often no way of verifying this as tokens are not underpinned by Blockchain as is the case with crypto-currencies.

Any stablecoin issuer will be tempted to over-issue coins especially if there is an urgent need for the funds. This is a common practice with fiat currencies issued by some central banks and the very reason why crypto-currencies came into existence. To issue a successful stablecoin, the issuer must have an impeccable trust. This standard is only met by quite a few issuers as it currently stands hence it is quite odd that Venezuela government became the first to issue such a token.

Venezuela’s track record means it largely fails satisfy the conditions necessary to issue a stablecoin. Venezuela’s gold-backed stablecoin went into circulation even though it was not clear whether precious metals actually backed the tokens.

To make matters worse, reports of 20 tonnes of the country’s gold being sold to foreigners, not only destroys trust in that particular token, but once again underlines the problem of centralization.

Venezuela’s case might have driven home the point governments are the worse candidates when it comes to issuing successful tokens. This is because situations or emergencies will always exist and will push governments to choose expediency.

Sadly the easiest option destroys value in the end as petro token holders have realized. According to the Venezuelan government, billions were raised when petro tokens were sold for the first time but there is no doubt that reports of gold being shipped out will add pressure on petro tokens.

Perhaps the private sector is better placed to issue these tokens even then challenges remain, the temptation of over issuing is not only confined to government bureaucrats but extends to private players.

Issuers of stablecoins must adequately address this concern among others if more tokens are to be successfully issued.