What is a Stablecoin?
What is the purpose of a stablecoin?
Volatile cryptocurrencies such as Bitcoin and Ether make it difficult for participants in an economy to exchange goods or services due to their large fluctuations in value. Stablecoins make it easy for people in DeFi to gain exposure to a stable medium of exchange and transact with a low volatility asset.
Stablecoins allow anyone to send US Dollars instantly around the globe using a censorship-resistant blockchain rather than that traditional banking infrastructure.
Different types of stablecoins
Most stablecoins are pegged to the US Dollar, but the way that each stablecoin achieves its peg can differ. Different stablecoin options allow for users to have diversity in custodians as well as stability mechanisms so they can use a stablecoin that best suits their preferences.
The value of fiat-backed stablecoins is from being backed by US Dollars held in a bank account. For each dollar held, a token is minted onto a blockchain such as Ethereum. Effectively, fiat-backed stablecoins are direct ports of US dollars onto the blockchain with a custodian in the middle.
Some stablecoins are backed by a collection of different assets and derive stability from the fact that the collateral backing them in an auditable smart contract is worth more than the current circulating supply. For example, MakerDAO allows users to mint a stablecoin called DAI, which retains its peg to the US dollar by being backed by several different crypto assets locked up in a smart contract.
More than just USD
DeFi has even begun to offer stablecoins pegged to the most popular global fiat currencies in the form of tokens on Ethereum. Aside from its very popular synthetic USD (sUSD) stablecoin, a protocol for creating derivatives named Synthetix already offers these forex stablecoins.