Terraform Labs CEO on the Benefits of TerraUSD ($UST) over Centralized Stablecoins

In a recent interview, Do Kwonco-founder and CEO of Terraform Labs — as well as a director at Luna Foundation Guard (LFG) – talked about the limitations of centralized fiat-backed stablecoins.

Kwon’s comments were made during an interview with Kate Rooneytechnology reporter for CNBC.

According to a report per The Daily Hodl, Kwon said:

I don’t think there is anything wrong, per se, with backing stablecoins in dollar terms. It’s just that there are limits to the things you can do with the use cases of so-called centralized stablecoins.

The problem is that if you keep one dollar in the bank account for every unit of stablecoin issued, that stablecoin now has an issuer and an operator. This means that you have all the compliance and custodial risks of having an operator and an issuer because, for example, what if the company for some reason goes bankrupt? In this case, everyone who built interesting things on this stablecoin is now being held hostage by the bankruptcy court…

Or since bank deposits are so easy to regulate, I think one of the things that we’ll start to see with centralized stablecoins is that there’s going to be a massive shift in compliance, which means with the time you will start layering on things like KYC [know your customer] requirements and kind of checks on the types of apps that can use a stablecoin, which isn’t necessarily appropriate for all use cases.

Kwon believes that a decentralized stablecoin, such as TerraUSD ($USD), which is not backed by fiat reserves, does not suffer from the aforementioned limitations:

A decentralized stablecoin, as something that is backed by a native cryptocurrency like LUNA or Bitcoin, has the property that there is no issuer, there is no operator because n anyone in the world can trade for a dollar of Bitcoin, can trade for a dollar of LUNA to issue a TerraUSD. This has the nice property of making decentralized finance truly decentralized.

At the end of last month, Kwon talked about the Terra Protocol in general, and $LUNA and $UST, in particular on episode 335 from journalist Laura Shin’s “Unchained” podcast.

Here are some important highlights from this interview:

How Terra Works Today

The idea is that to mint TerraUSD (UST), which is a stablecoin pegged to a US dollar, you need to burn a dollar’s worth of $LUNA to do so.

And then on the other side of the trade, if you’re looking to trade a TerraUSD, you can trade it on the blockchain and get a $LUNA dollar in return. So the idea is that $LUNA, as a staking asset, expands and contracts supply to absorb demand volatility for Terra stablecoins.

We’ve had pretty good success with that. Thus, TerraUSD is currently the fourth largest stablecoin in the world with around $16 billion in market capitalization. And in a relatively recent feature, looking at its current growth trajectory, I think it’s going to be number three relatively soon.

We recently made announcements that we are initiating a large decentralized forex reserve in the form of Bitcoin. We initially sat this reserve with approximately $3 billion in assets, and we are in the process of converting all of these exogenous assets into Bitcoin. And then we plan to increase that to a significant percentage of the $UST market cap over the next year.

Why Terra Protocol decided to use Bitcoin

So the first phase where $LUNA absorbs volatility in demand for $UST is reasonably robust and as the market capitalization of $LUNA increases it will become more and more robust, but it also has the downside of cause drastic changes in demand, you could lead to death spiral situations, where the price of $LUNA drops along with the money supply of $UST contracts…

Similar to how many export-based economies in the real world provide foreign exchange reserves to somehow control short-term demand fluctuations in its currency, it has become a natural fit for Terra to provision as well. its own currency reserve, except in line with what we’re trying to do here, it makes sense to do it in a decentralized way by establishing a smart contract against which people can trade Bitcoins to mint more $UST, and vice versa , exchange $UST for Bitcoins.

The role of $LUNA in the future

You can think of this as a fractional foreign exchange reserve, right? So in the sense that before, to hit a TerraUSD, you were burning for a dollar of $LUNA. Now it’s going to be a little different, because when you hit a TerraUSD, some $LUNA is going to be burned and some $LUNA is going to be used to fund that decentralized FX reserve.

How much collateral Bitcoin $UST should have

“So, for example, if we build reserves of Bitcoin at around 40%…Here’s what I’m thinking [this].

The first is that I think it will take rare events for the supply of $UST to contract by 40% over a short-term period of time. So with a reserve ratio of 40%, I feel like we would be collateralizing more than necessary, especially because the core stability mechanic is still good. But what bitcoin reserves will play a role in is that they would prevent death spirals as it would dramatically slow the rate at which new $LUNA is minted to facilitate drawdowns.

Secondly, I think in a long-term arc, we plan to be one of the biggest, if not the biggest, single bitcoin wallet holder – the Terra protocol itself – and I think on the long arc, the Bitcoin price is going to do well. So I think the reserve ratio that we end up with in the long term will be much higher than the reserve ratio that we paid on acquisition.


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