A stablecoin token that may completely destroy the cryptocurrency ecosystem

5 min read

The cost of cryptocurrencies is falling. In a couple of days, a so-called stablecoin lost all of its value. Withdrawals were stopped by an innovative crypto bank. Additionally, investors have been financially ruinous.

The worst may still be to come, a reality that the cryptocurrency sector is now battling with.

Another possible weakness in the cryptocurrency sector, Tether, whose eponymous currency forms the foundation of crypto trading globally, is raising concerns. Long one of the most closely watched businesses in the sector, Tether is now under increased scrutiny from authorities, investors, economists, and legions of naysayers who claim it might be just another domino in a larger disaster.

Hilary Allen, a finance specialist at American University, stated that “Tether is essentially the heartbeat of the cryptocurrency ecosystem.” The entire facade collapses if it implodes.

Stablecoins, a class of cryptocurrency tied to a reliable asset like the US dollar, are most commonly issued by Tether. Stablecoins are cryptocurrencies that are typically designed to maintain a constant price of $1 and are backed by substantial cash reserves or other financial engineering. This contrasts with standard cryptocurrencies like Bitcoin and Ether, whose monetary value can fluctuate greatly. Without relying on banks or other financial gatekeepers, cryptocurrency dealers may carry out safe, predictable transactions because to this regularity.

However, many of these coins are only nominally stable. The breakdown of TerraUSD, a stablecoin with a $1 peg that was algorithmically linked to a sister cryptocurrency named Luna, was one of the factors that contributed to the cryptocurrency meltdown that occurred last month. TerraUSD was a stablecoin. A “death spiral” that rattled the larger market occurred as the price of TerraUSD plunged along with the price of Luna.

Read | 21st-century tech is losing to age-old financial system

Tether, on the other hand, asserts that because its stablecoins are backed by cash and other conventional assets, they are vital to the stability of the cryptocurrency market. Theoretically, anyone who wishes to can swiftly and easily trade Tethers for US dollars.

But according to the company’s financial documents, a sizable percentage of its reserves is invested in commercial paper, an unsecured form of corporate debt. Particularly during times of financial instability, such financial instruments are riskier and more difficult to immediately convert into cash. Tether was labeled “a stablecoin without stability” by the attorney general of New York in 2021 and fined $18.5 million, alleging that the corporation had misled about its reserves.

According to critics, Tether basically functions as a lightly regulated bank. Millions of dollars are given by traders in exchange for millions of stablecoins, which they may then use to wager on more erratic cryptocurrencies like Bitcoin or Dogecoin. With 70 billion coins in circulation at the moment, Tether is more than three times bigger than TerraUSD was prior to the crisis.

Critics assert that in the worst-case scenario, a slump might lead to the cryptocurrency equivalent of a bank run. It’s possible that traders will rush to convert their Tethers for dollars only to find that Tether is unable to fill their orders. A potentially fatal panic that could spread to non-crypto markets would result from investors losing billions of dollars and being forced to sell their other crypto holdings.

Tether experienced that situation last month. The corporation was forced to pay out nearly an eighth of its reserves, or $10 billion, over the course of a week and a half as a torrent of investors demanded to convert their Tethers for dollars as cryptocurrency prices collapsed. Tether briefly strayed from its $1 peg on cryptocurrency exchanges.

In the end, the corporation claimed it satisfied the demand. Tether celebrated its success, saying it had handled the crisis “flawlessly.”

According to Paolo Ardoino, the company’s chief technology officer, the accident was “the best narrative that could have occurred to Tether.” “We don’t play around, and risk management is something we take very seriously.”

Then, on Sunday, the cryptocurrency bank Celsius Network announced it was stopping withdrawals, which brought about a further decline in the value of digital currencies. According to Bloomberg News, Tether invested in Celsius in 2020 and lent it around $1 billion in Tethers. This week, the company declared that it had “zero exposure” to Celsius other from a minor investment. Nevertheless, investors withdrew around $1.6 billion from Tether as the market collapsed.

More people are voicing their doubts. A senior US banking official demanded additional regulations last month for Tether and its rivals, claiming the TerraUSD disaster illustrated the dangers of unstable currency with lax regulations. Due to concerns that the next downturn may test whether Tether has enough reserves, several traders are now investing their money in other stablecoins.

According to Bruce Mizrach, an economist at Rutgers University who specializes in cryptocurrencies, “They had enough collateral to weather this run, but that doesn’t indicate they have enough to weather the next run.”

Tether has an odd past, even by the frequently bizarre standards of cryptocurrency. Brock Pierce, a proponent of cryptocurrencies and former child actor who appeared in the “Mighty Ducks” films, launched the business in 2014. He and his business partner, Reeve Collins, eventually transferred ownership of the company to Giancarlo Devasini, a former plastic surgeon who kept some of Tether’s assets in a bank in the Bahamas that was controlled by one of the “Inspector Gadget” cartoon’s producers.

Tether has expanded quickly. It issued over 50 billion stablecoins last year, more than tripling the global supply. In the interview, Ardoino added, “If we have to redeem down to the last cent, we can do it.

In Europe, Asia, and Latin America, the company is run by roughly 50 employees. The company failed to identify the whereabouts of its CEO, JL van der Velde, a Dutch businessman whose LinkedIn profile indicates he is headquartered in Hong Kong. He hardly ever communicates publicly with the chief operational officer Devasini. The face of Tether is Ardoino, who describes his coworkers as “regular individuals” who are astounded by the company’s expansion.

They initially didn’t anticipate that it may become so significant, according to Ardoino. They weren’t ready to be in the spotlight. There is nothing wrong with it.

Tether has occasionally argued that its stablecoins are entirely backed by US dollars. Letitia James, the attorney general of New York, however, referred to the charges as “lies” last year.

A few years prior, a business deal gone sour cost a Tether-affiliated cryptocurrency exchange $850 million. According to James’ inquiry, the exchange, Bitfinex, borrowed money from Tether’s reserves to compensate the losses, leaving the stablecoin partially unbacked.

Without admitting guilt, Tether reached a settlement with the New York attorney general and paid $18.5 million in fines. A Tether representative said that a “communications error” was to blame for the problem with the company’s reserves.

The Commodity Futures Trading Commission discovered in October that Tether had only maintained sufficient reserves in its accounts 25% of the time throughout a 26-month “sample period” between 2016 and 2018. The business forfeited $41 million to the commission.

Tether has released monthly declarations revealing the make-up of its reserves ever since the New York settlement. But despite its statements, suspicion hasn’t really diminished.

Tether disclosed last month that $20 billion, or nearly a quarter of its reserves, were made up primarily of commercial paper, a $4 billion decrease from February. At the same time, it boosted from $3 billion to around $7 billion its exposure to money market funds, which have the potential to invest in commercial paper. Additionally, Tether disclosed that “other investments” such digital currencies accounted for $5 billion of its reserves. The project still doesn’t have the level of stability that many investors demand, according to critics, who claimed that the report was virtually a wash.

The commercial-paper portfolio of the corporation would “gradually decrease to zero without any incurring of losses,” according to a Tether representative.

The most widely used stablecoin continues to be Tether. The number of Tethers in use, however, has decreased by more than 7% during the last month. The USDC stablecoin, which claims to be fully backed by US Treasury bonds and cash, has seen an approximately 4% growth in usage.

Sam Kazemian, the founder of Frax, another stablecoin initiative, said: “I can’t say I’m as convinced about Tether as I am with USDC.”

Tether worries have reached Washington. Tether’s sway from its $1 peg was mentioned by Treasury Secretary Janet Yellen during her testimony before Congress last month, and she urged for more stablecoin regulation.

Stablecoin expansion entails “the same kind of hazards that we have known in conjunction with bank runs for decades,” she warned.

According to Ardoino, Tether is willing to collaborate with regulators to develop an international framework for the disclosures that stablecoin issuers are required to make regarding their reserves. Tether, though, has opposed more stringent suggestions that would have made it subject to regulatory standards similar to those that apply to conventional banks.

Everyone is “freaking out,” said Collins, who co-founded Tether with Pierce and currently heads a cryptocurrency company called BLOCKv. “I lost my life savings,” he added. “That’s tragic, but the person who claims, “I went to a casino and lost my life savings,” is just as tragic. But that doesn’t imply we should banish casinos altogether from regulation.

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