Jonathan Wu is Head of Growth at Aztec Network. In this interview, we cover what happened when the stablecoin UST crashed, how it is connected to the Terra blockchain and the Luna governance token, the issues with recursive lending, and the need for financial disclosure in the industry .
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Stablecoins have brought financial sovereignty to millions who have failed from their financial institutions and want predictable value in a currency. As such, the failure of a stablecoin funded by some of the biggest investors in DeFi was particularly traumatic for many investors.
Unlike some stablecoins, UST, the Terra Blockchain’s native stablecoin, was under-collateralised, meaning it was not backed by another asset. Maintaining its peg to the dollar was (theoretically) stabilized algorithmically: linking UST to a governance token, Luna, and a complex dance of creating and burning those two coins. In theory, this allowed UST to remain decentralized.
In practice, the process had some inherent weaknesses. Not only was the stablecoin designed as a payment track, but the governance token Luna could also be used to generate income. It was accepted by lending protocols that allowed for recursive lending (re-hypothecation), an activity that many critics of yield farming (e.g. Allen Farrington) have cited as a significant risk for DeFi.
Then the house of cards began to crumble. Or as Jonathan describes it: The death spiral began. The result was a rapid liquidation of an asset that had a market cap of over $18 billion. An asset that many investors mistakenly believed had no risks associated with altcoins. An asset now with zero RMS value.
The story involves big wins made by big investors, a CEO who overplayed his hand and got some key calls wrong, some shady characters in the DeFi lending ecosystem, complex strategies that not many understand, and a ton of people who understand it could ill afford to lose your investments are seriously burned.
The critical problem is that this again puts Bitcoin in a bind. Its price was directly affected, but its reputation is suffering: retail investors are more cautious about launch and regulators have more power to pounce. The industry has a lot to learn, and fast. The stakes are stacked unfairly these days, and it’s the same people who end up losing.
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