4.4 Stablecoins

Stablecoins are cryptocurrencies designed to maintain a stable value by pegging their price to another asset—most commonly a fiat currency like the U.S. dollar (USD), but sometimes also to commodities (like gold) or even other cryptocurrencies. Their core purpose is to reduce the price volatility typically associated with cryptocurrencies like Bitcoin or Ethereum, making them more suitable for everyday transactions, trading, and financial applications.

Stablecoins play a key role in bridging the gap between volatile digital assets and traditional finance. They enable users to move funds quickly and efficiently across blockchain networks while maintaining price stability—something critical for use cases such as remittances, decentralized finance (DeFi), and on-chain savings.

How Stablecoins Work

Pegging Mechanism

The most important feature of a stablecoin is its peg—the mechanism that keeps its value close to a target. Most stablecoins aim to maintain a fixed 1:1 exchange rate with their reference asset. For example, 1 USDC is intended to always be worth 1 USD.

The peg is maintained through a stabilization mechanism, which varies depending on the type of stablecoin. There are three main types:

Collateralization

The most widely adopted and trusted approach. Backing the issued stablecoins with reserves (e.g. fiat currencies, crypto assets, or commodities). This category can be subdivided into:

• Fiat-Collateralized: Backed 1:1 by fiat currency (USD, EUR) held in bank accounts or custodial institutions.
  • Examples: USDC (Circle), USDT (Tether), GUSD (Gemini)
  • These stablecoins are typically redeemable for cash by approved users or institutions.
  • Backing is confirmed through attestations or audits.
• Crypto-Collateralized: Overcollateralized by crypto assets such as ETH, BTC, or staked assets.
  • Examples: DAI (MakerDAO), LUSD (Liquity)
  • Use smart contracts to manage collateral ratios, liquidations, and redemptions.
• Commodity-Collateralized: Backed by physical commodities such as gold.
  • Examples: PAXG (Paxos Gold), Tether Gold

Algorithmic Control (Non-Collateralized or Partially Collateralized)

Using smart contracts to expand or contract the token supply in response to market demand, without traditional reserves.

• Pure Algorithmic: The token supply expands or contracts based on price.
  • Example: Ampleforth (AMPL)
  • When AMPL trades above $1, more tokens are issued (rebase); below $1, supply is reduced.
• Hybrid Models: Combine some collateral (often volatile or endogenous) with algorithmic supply and demand balancing.
  • Examples: Frax (early versions), USDD (Tron)
  • These models gained attention after the TerraUSD (UST) collapse, sparking debate over algorithmic stability.

Derivatives-Based (Delta-Neutral Hedging)

These use financial engineering to synthetically maintain a peg through positions in derivatives markets (e.g. perpetual swaps, options, or delta-neutral strategies).

• The stablecoin issuer opens long and short positions (or combines collateral with hedging) to simulate a stable dollar-denominated value.
• Unique approach that doesn't rely on fiat or crypto reserves directly, but on market-based hedging strategies.
  • Examples: UXD Protocol (originally on Solana): Uses delta-neutral strategies with BTC/ETH perps
• These models gained attention after the TerraUSD (UST) collapse, sparking debate over algorithmic stability.

Table: Types of Stablecoins

Verification and Transparency

Unlike fiat money, which relies on central bank mandates and regulatory trust, stablecoins exist in a decentralized, open, and often unregulated ecosystem. For users to trust that a stablecoin is actually worth $1, they need verifiable proof that:

1. The backing reserves actually exist.
2. They are sufficient to cover all outstanding tokens.
3. The peg mechanism is functioning as intended (e.g. no depegging risk).
4. There’s no excessive risk, such as unbacked issuance or hidden liabilities.

Transparency and verification are the pillars that make this trust possible.

How Trust and Transparency Are Achieved

1. On-Chain Transparency (Smart Contracts)

Many stablecoins operate using smart contracts on public blockchains such as Ethereum, Solana, Avalanche, and Tron. This allows anyone to:

• View token supply in real time
• Verify issuance and burning events
• Audit contract logic (if open-source)

Examples:

• DAI (MakerDAO): Fully open-source and decentralized. Users can inspect real-time collateralization via the Maker Analytics Portal. Every DAI minted is backed by assets locked in smart contracts, and the system is governed by MKR token holders.
• LUSD (Liquity): Also fully decentralized. Users can verify the ETH collateral backing all LUSD in circulation directly via Liquity Scan.

These models enable real-time auditability, reducing reliance on centralized issuers or opaque third-party attestations.

2. Third-Party Attestations and Audits (Fiat-Backed Stablecoins)

Centralized issuers of fiat-backed stablecoins often rely on accounting firms to provide attestations (and occasionally audits) that verify their reserves match the circulating supply. These processes help build trust and transparency within the market.

Key Issuers and Practices:

• USDC (Circle):
  • USDC publishes monthly attestations from Grant Thornton LLP, providing transparency regarding the reserve composition, including cash and T-bills. Additionally, Circle maintains a real-time dashboard called the Transparency Portal, offering users up-to-date information on the reserves backing USDC.
• GUSD (Gemini):
  • Gemini issues monthly attestations through BPM LLP. As a New York Trust Company regulated by the New York Department of Financial Services (NYDFS), Gemini adheres to strict custody and compliance standards, ensuring transparency and trust in the reserves backing GUSD.
• USDT (Tether):
  • Historically, Tether has faced criticism over the lack of transparency regarding its reserves. However, it now publishes quarterly attestation reports from BDO Italia. Tether’s reserves include cash, short-term treasuries, secured loans, and other investments. Despite recent improvements in transparency, Tether remains under scrutiny due to past legal actions and ongoing questions about the quality and composition of its reserves.

Attestation vs. Audit Attestation An attestation is a snapshot or statement verified by an accountant, typically conducted monthly. It confirms that the issuer’s reserves match the circulating supply, but it is not as comprehensive as an audit. Audit A full audit is much more detailed and thorough, typically conducted annually. It involves a deeper analysis of financial practices, reserve holdings, and overall compliance, but such audits are rare in the stablecoin industry.

3. Real-Time Reserve Monitoring

Some projects are going beyond traditional attestations to offer real-time or on-chain verified reserves, enabling more automated oversight of reserves and greater transparency.

Examples:

• Chainlink Proof of Reserve (PoR):
  • Chainlink PoR is used by projects like TrueUSD (TUSD) and HBAR’s stablecoin initiatives. By integrating Chainlink oracles, these projects can access real-time data about their fiat reserves via custodian APIs and bank feeds. This data is then on-chain verified, allowing for greater confidence in reserve backing.
  • Furthermore, smart contracts can be programmed to automatically pause minting if reserves fall below a specified threshold. This feature is an innovative step toward ensuring that only stablecoins backed by adequate reserves are in circulation.
• Paxos (issuer of USDP and PAXG):
  • Paxos issues stablecoins like USDP and PAXG and operates under New York State banking laws. Reserves for USDP are held in FDIC-insured banks or backed by short-term U.S. Treasury instruments, while PAXG is backed by gold. Monthly attestations are published, and Paxos is also subject to regular examinations by the New York Department of Financial Services (NYDFS). This level of oversight and regulation ensures strong compliance and transparency in reserve management.

4. Regulatory Compliance and Licensure

Being regulated by trusted authorities adds another layer of legitimacy and enforceability.

Examples:

• Circle (USDC) is registered with FinCEN and is a licensed money transmitter in multiple U.S. states.
• Gemini (GUSD) is regulated as a New York Trust Company, subject to bank-grade compliance standards.
• Paxos (USDP) holds a BitLicense and is directly overseen by New York regulators.

Why it matters: Regulation imposes legal obligations that private firms must meet—including reserve segregation, Anti-Money Laundering (AML)/Know Your Customer (KYC), and financial disclosures.

5. Community Governance and DAOs

In decentralized stablecoin models, governance is often managed by DAOs (Decentralized Autonomous Organizations), where decisions about risk parameters, collateral, and protocol upgrades are voted on by token holders.

Examples:

• MakerDAO (DAI):
  • Community members vote on proposals to add new collateral types, adjust stability fees, or modify peg-stabilization mechanisms.
  • Governance is transparent and participatory, though not without governance risks.
• Liquity (LUSD):
  • Designed with minimal governance to reduce attack surfaces.
  • Smart contracts are immutable after deployment.

Use Cases of Stablecoins

Stablecoins are no longer a niche innovation—they are a core component of modern digital finance, with billions in daily transaction volume across global markets. From cross-border payments to decentralized finance (DeFi) and corporate treasury operations, stablecoins are being actively used to solve real-world problems and create new financial opportunities. Their price stability, interoperability, and 24/7 global availability make them a versatile tool for users, institutions, and developers alike.

Below are the key use cases, supported by practical examples and real-world data.

Cross‑Border Payments and Remittances

Speed and Cost Efficiency

Stablecoins enable near-instant, low-cost international payments, bypassing the legacy financial infrastructure that is often slow, expensive, and geographically limited. Traditional cross-border payments can take 3–5 days to settle and cost 6–10% in fees—especially in high-remittance corridors like Sub-Saharan Africa, Latin America, and South Asia.

Real-World Examples

• USDC and Stellar for remittances: In partnership with MoneyGram and Stellar, Circle has enabled cash-to-crypto and crypto-to-cash remittance rails using USDC, allowing unbanked users to send or receive funds without needing a bank account.
  
• TRON-based USDT in Asia and Africa: Tether (USDT) on the TRON network is widely used in P2P remittance markets, particularly in Nigeria, Kenya, and Southeast Asia. Its low transaction fees and widespread exchange support have made it a practical alternative to bank transfers.
  
• IMF pilot studies in Southeast Asia have also noted the role of stablecoins in improving financial inclusion and reducing remittance costs when integrated with mobile wallets.

Decentralized Finance (DeFi) Applications

Lending, Borrowing, and Earning Yield

In DeFi, stablecoins serve as foundational assets in lending protocols, money markets, and automated market makers (AMMs). Their non-volatile nature makes them ideal for:

• Lending: Users deposit stablecoins like DAI, USDC, or LUSD into protocols like Aave, Compound, or Spark, earning interest over time.
• Borrowing: Crypto holders borrow stablecoins against volatile assets, allowing them to access liquidity without selling their long-term positions.

Liquidity Pools and Trading

Stablecoins are widely used in DEXs (Decentralized Exchanges) like Uniswap, Curve, and Balancer as trading pairs and liquidity anchors.

• Example: USDC/ETH or DAI/USDT trading pairs
• LPs (liquidity providers) earn swap fees, incentives, and yield farming rewards

Real-World Examples

• MakerDAO’s DAI is one of the most used DeFi stablecoins, backed by over $5 billion in crypto collateral (as of 2024).
• Curve Finance specializes in stablecoin swaps, facilitating high-volume, low-slippage trades between stable assets (USDC, USDT, DAI, etc.).
• Aave v3 allows users to lend/borrow across multiple chains with cross-chain governance and support for yield-bearing stablecoins like sDAI.

Store of Value, Savings and Hedging

Currency Instability and Inflation Protection

In regions with high inflation or currency controls, stablecoins offer a portable, censorship-resistant, and dollar-pegged store of value. Residents use them as a dollar substitute to preserve purchasing power and avoid capital restrictions.

Real-World Examples

• Argentina remains a prime example of the utility of stablecoins in a high-inflation environment. Inflation in Argentina is projected to exceed 120% YoY in 2025, continuing a trend of extreme price rises in recent years. The Argentine peso (ARS) continues to lose value, leading many citizens to seek out alternatives to protect their savings.
• In Nigeria, one of Africa’s largest economies, the Naira (NGN) has been under heavy devaluation due to a combination of political instability, economic policies, and external factors. Inflation is projected to hover around 20-25% in 2025, while the Naira’s official exchange rate remains significantly lower than the black market rate.

Savings and Yield Opportunities

Beyond passive holding, some stablecoins or protocols allow users to earn interest or yield on holdings. This has created a new financial tool for users, especially those looking for passive income or safer, low-risk investment opportunities in a volatile market.

• sDAI (via Spark Protocol) and aUSDC (via Aave) accrue real-time interest on stablecoin balances.
• Centralized options like Coinbase’s USDC yield or FinTech apps in Latin America (e.g. Lemon Cash, Bitso+) offer stablecoin savings products with up to 5–8% APY.

Business, Treasury and Operational Use

Payments and Payroll

Stablecoins simplify global business payments, allowing companies to:

• Pay remote workers and freelancers in seconds, without dealing with banking delays or FX fees
• Make vendor and supply chain payments in a programmable, traceable way

Corporate Treasury and Treasury DAO Use

Companies and DAOs hold stablecoins in treasury to:

• Manage short-term liquidity
• Allocate capital efficiently across DeFi products
• Reduce reliance on traditional banking rails

Real-World Examples

• Worldpay and BVNK Stablecoin Payouts: In May 2025, Worldpay partnered with BVNK to enable nearly instant global payouts in stablecoins for its clients in the U.S. and Europe. Businesses will be able to pay out to contractors, creators, sellers, and other beneficiaries in stablecoins across more than 180 markets, without needing to hold or manage stablecoins themselves.
• Stripe and Shopify have explored stablecoin settlements for global merchants, particularly in Latin America and Asia.
• DAOs like Uniswap and Aave hold multi-million-dollar treasuries in stablecoins for protocol development, grant programs, and contributor payments.

Infrastructure and Tokenization

Tokenizing Real‑World Assets

Stablecoins are foundational for tokenization of real‑world assets (e.g. bonds, commodities, real estate) because they provide a stable denominator for value.

Settlement and Blockchain Payments

Used in the rails of newer payment systems, enabling programmable, automated and smart‑contract‑enabled financial services.

Real-World Examples

Here are some concrete examples illustrating how infrastructure and tokenization are being implemented in 2025:

• Ondo’s USDY and OUSG products provide yield‑bearing exposure to U.S. Treasuries, with TVLs in the hundreds of millions of dollars.
• Ondo Global Markets allows non‑U.S. investors to mint and redeem tokenized versions of U.S. Stocks and ETFs on Ethereum; plans are in motion to expand to Solana and BNB Chain.
• PYUSD ↔ OUSG integration: Users can convert PYUSD into OUSG instantly and 24/7, enabling access to Treasury yield with flexible liquidity.
• Worldpay and BVNK partnership to enable stablecoin payouts (particularly USDC) as part of their payout platform across more than 180 markets; clients can issue payouts without holding stablecoins themselves.
• Alchemy Pay’s support for USDY: Provides fiat‑onramp (Visa, Mastercard, etc.) in 173 countries to acquire USDY, lowering barrier to entry for global users interested in RWA products.

Benefits of Stablecoins

Stablecoins offer a unique blend of crypto-native flexibility with the stability of traditional currencies, making them essential tools in the blockchain ecosystem. Below are the key advantages:

1. Bridge Between Traditional Finance and DeFi

Stablecoins serve as a gateway between fiat money and decentralized finance (DeFi). They allow users to move funds on-chain without needing to constantly convert back to fiat currencies like USD or EUR.

• Example: USDC and USDT are widely accepted across centralized exchanges (like Coinbase and Binance) and DeFi platforms (like Aave, Compound, and Uniswap), enabling seamless transitions between banking and blockchain environments.

2. Liquidity and Safe Haven During Volatility

In times of market turbulence, traders often convert volatile assets like ETH or BTC into stablecoins to preserve value. This makes stablecoins a "safe haven" for capital within the crypto markets.

• Example: During the 2022 bear market, stablecoins saw a surge in use as investors exited high-volatility positions while staying within the crypto ecosystem.

3. Efficient Trading and Lending

Stablecoins are the base trading pair for many cryptocurrencies. They also serve as collateral and interest-bearing assets in DeFi lending protocols.

• Example: Platforms like Curve and Aave rely heavily on stablecoins for lending pools and liquidity provision.

4. Stability for Payments and Savings

The low volatility of stablecoins makes them suitable for everyday payments, cross-border remittances, and even on-chain savings accounts.

• Example: Companies like Circle (issuer of USDC) partner with fintech platforms to offer blockchain-based payment solutions that operate globally.

5. 24/7 Accessibility and Global Reach

Unlike traditional banks, stablecoins operate on public blockchains with no downtime. Users can send and receive funds instantly, across borders, without relying on intermediaries.

• Example: Stablecoins like USDT and USDC are commonly used for remittances in regions with limited banking infrastructure, such as parts of Latin America and Africa.

Challenges of Stablecoins

Despite their utility, stablecoins are not without risks. Learners should understand the potential weaknesses and controversies in this sector:

1. Reserve Transparency and Trust Issues

Some stablecoins have faced criticism over the quality and transparency of their reserves. If reserves are not adequately backed or disclosed, it raises concerns about whether the stablecoin can reliably maintain its peg.

• Example: Tether (USDT), the largest stablecoin by market cap, has faced repeated scrutiny from regulators and the media regarding the nature and quality of its reserves. While it now publishes regular attestations, past opacity has damaged trust.

2. Regulatory Risks and Compliance

As stablecoins gain adoption, governments and regulators are moving to impose rules. These include requirements for reserve management, consumer protection, and anti-money laundering compliance.

• Example: The European Union’s Markets in Crypto-Assets (MiCA) regulation, coming into full effect in 2024–2025, sets strict rules for stablecoin issuers, including mandatory reserve disclosures and issuance caps for non-euro stablecoins used in the EU.

3. Instability of Algorithmic Stablecoins

Algorithmic stablecoins—those that rely on smart contracts rather than reserves—can fail catastrophically if market confidence is lost.

• Example: TerraUSD (UST) collapsed in May 2022 after it lost its peg and triggered a death spiral with its sister token LUNA. The collapse wiped out over $60 billion in market value and became a cautionary tale about the risks of uncollateralized or poorly designed stablecoins.

Regulation and Legal Landscape

Stablecoins operate in a rapidly evolving regulatory environment. Understanding key legal frameworks is essential for both users and issuers. Below are major developments and how they shape the stablecoin sector.

U.S. Regulation: The GENIUS Act

• In June–July 2025, the U.S. Congress passed the GENIUS Act (Guiding and Establishing National Innovation for US Stablecoins Act), which establishes a federal regulatory framework for stablecoins.

Key provisions include:

• Requirement that stablecoins be backed by U.S. dollars or other low‑risk assets (e.g. U.S. Treasuries) in a 1:1 ratio.
• Ongoing disclosure obligations for issuers, including regular audits and transparency of reserve holdings.
• State and federal oversight of stablecoin issuers, possibly through licensed banks or trust entities.

European Union: MiCA (Markets in Crypto‑Assets Regulation)

• Markets in Crypto‑Assets (MiCA) is the EU’s comprehensive regulatory framework for crypto‑assets, which came into full effect for stablecoins and related tokens as of 30 June 2024.
• Under MiCA, stablecoins are classified into two main categories:
  1. Electronic Money Tokens (EMTs) — stablecoins referencing a single fiat currency (e.g. euro or dollar) and primarily used for payments.
  2. Asset‑Referenced Tokens (ARTs) — stablecoins referencing multiple currencies, commodities, or other crypto assets.

Important requirements under MiCA include:

• Issuers must obtain authorization from national competent authorities or equivalent under MiCA before issuing stablecoins.
• Full transparency in reserve backing and audits.
• Redemption rights for token holders. The ability of holders to redeem their stablecoins for the underlying asset.
• Strict operational, legal, and risk management standards to protect financial stability and consumer rights.

Global Trends and Other Jurisdictions

• Research shows that stablecoin regulation is being pursued in many other regions—Asia, Latin America, Hong Kong—with emphasis on reserve requirements, issuer licensing, and transparency.
• One emerging theme is the “hybrid regulatory ecosystem” where stablecoins must balance innovation and decentralization with oversight and risk mitigation.

Impacts and Implications

• Some stablecoin projects have been delisted or restricted in Europe for not complying with MiCA, notably USDT.
• Issuers are adjusting reserve practices, transparency, and legal structure to comply with new laws. For example, some are applying for bank licenses (or equivalent) or changing where reserves are held.
• Users and platforms must watch changes to compliance status—non‑compliance may mean restricted trading, delistings, or legal limitations in certain jurisdictions.

Case Studies

These examples illuminate how stablecoins work in practice—both successes and failures—and what lessons they offer.

USDT (Tether) — Market Dominance and Reserve Role

• Scale and Reach: As of mid‑2025, USDT remains the largest stablecoin by market capitalization. It is used extensively across exchanges, trading pairs, and in many jurisdictions as a de facto dollar substitute.
• Reserve Strategy: Tether holds large portions of its reserve in U.S. Treasury bills and other liquid assets. Some studies show that its holdings are large enough to influence short‑term Treasury yields.
• Challenges and Controversies: While USDT has resisted depegging events better than many algorithmic alternatives, its level of transparency and frequency of audits have been under continual scrutiny from regulators and researchers.

USDC (Circle) — Regulatory Compliance and Trust

• Regulatory Alignment: USDC is often cited as a stablecoin issuer that has placed emphasis on compliance, regular attestations, geographic reserve location, and partnerships with regulated financial institutions. This helps build trust among crypto users and institutions. (See Circle’s public disclosures and regulatory filings.)
• Resilience: Even in stressful market conditions, USDC has maintained its peg more consistently, though it has experienced rare dips when reserve or banking disruptions occurred. These incidents highlight how external banking infrastructure still plays a big part in stablecoin stability.

TerraUSD (UST) Collapse — What Happens When Algorithms Fail

• Design: TerraUSD (UST) was a pure algorithmic stablecoin designed to maintain its peg via a dual-token mechanism, involving LUNA. In theory, if UST fell below $1, users could burn LUNA to mint new UST, and vice versa—speculative arbitrage should adjust supply to restore the peg.
• Failure and Consequences: In May 2022, UST broke its peg, triggering a death spiral where LUNA's price collapsed, wiping out tens of billions in value. The event is one of the most cited failures in algorithmic stablecoin history. Lessons include the need for robust collateral, risk of runaway feedback loops, and the importance of transparency and incentives.

Use in Crisis and Business Efficiency — Ukraine and JPM Coin

• Humanitarian and Emergency Use: During the conflict in Ukraine, aid organizations and government operations used stablecoins (notably USDC and USDT) to distribute funds rapidly where traditional banking was unreliable. This showed stablecoins’ utility in crisis, both speed-wise and bypassing traditional infrastructure bottlenecks.
• Institutional / Corporate Use: JPMorgan’s JPM Coin is an example of a permissioned, institution‑issued stablecoin used for internal payments / treasury or cross‑branch transfers. In 2025, JPMorgan announced plans to expand its stablecoin-related services, including a new trademark filing (“JPMD”) signaling broader entry into tokenized finance.

Key Lessons from the Case Studies

Conclusion

Stablecoins play a pivotal role in the cryptocurrency ecosystem by offering a bridge between the volatility of traditional cryptocurrencies and the stability of fiat currencies. Through their pegging mechanisms—whether backed by fiat, crypto, or algorithmic designs—they provide users with a reliable medium for transactions, savings, and decentralized finance (DeFi) applications. As the blockchain landscape evolves, stablecoins will likely remain a cornerstone for integrating digital assets into everyday financial systems, balancing innovation with stability.