Thoughts on StableCoin

Sometime in the fall of last year, my friend and I were sitting in a coffee shop discussing crypto as any modern young adults might be found doing.

What if we created a coin that is immune to inflation?” he said.

I thought for a minute.

If it’s going to be immune to inflation, it should just be immune to everything. It should hold a perfectly consistent value regardless of external factors.

Do you think anyone would actually have a use for that?”

Another moment passed.

Not sure… it seems like it would be the ultimate safe haven investment, which could definitely be useful to some people. It could also be used to underwrite long-term debt to avoid having to consider inflation.

Hmm… let’s do some more research and see if this could work.

As many of you likely know, the coin we were discussing that day is be no means an original idea. The concept has been widely discussed, given the name StableCoin, has often been called the “holy grail” of the crypto industry… except that it doesn’t exist.

It would be the holy grail of crypto if someone could figure out how to do it well. As we sat in that coffee shop, it didn’t occur to us that engineering such a complex asset would be overly complicated. Our plan was to just accept USD fiat as payment for the coin, invest that money in a risk-averse portfolio designed to keep up with inflation (and hopefully make a little extra on top of that), and then just personally guarantee the value for anyone wanting to sell it back to us.

There are two problems with that strategy:

First: it presents a risk of insolvency; if we (the issuing company) suddenly saw a collapse in the value of our assets, the entire currency system would collapse.

Second: without the involved oversight of the original issuer, and a centralized approach to creating markets and distributing the currency, there would be no way to guarantee the value of the coin. It doesn’t fit with the whole decentralized, smart contract approach that modern applications of blockchain technology are hoping to achieve. In fact, it doesn’t even require the blockchain to operate. Anyone can sell digital tokens to anyone else as a centralized authority and guarantee their value… but good luck with getting people to buy in.

Other, more well thought out approaches, construct entire financial systems around their currency through the use of smart contracts that can manipulate the value of the currency by issuing “crypto bonds.” Such a system essentially mimics the goal of monetary policy used by central banks, but eliminates the risk of human error and poor judgement.

Attempts to create a StableCoin have been mildly successful to date; MakerDAO’s DAI, one of the best contenders in the StableCoin space, recently saw a short term 30% price fall, which brought it’s USD pegged asset down to $0.70 per coin.

Even though the incident was short lived, it represents a serious problem in the fundamental construction of the asset. The attraction of the StableCoin concept is that it has a perfectly stable value. It can be used as the foundation of the crypto market and to hedge against the enormous price swings of the other major players. If the value of a so called “StableCoin” drops by 30% even for 2 minutes, it undermines the credibility of the entire project.

Thus, the search for an effective StableCoin continues. The existence of such an asset is the considered by many to be the biggest hurdle that blockchain technology must overcome in order to continue to expand into the modern economy — Bitcoin and Ethereum are simply too volatile to be used as transfers of value in smart contracts and DApps.

I’ll continue to work on my own ideas; if you have any thoughts or questions to contribute, leave them below!