This month’s crypto market decline has been worsened by the failure of a $60 billion project that some have labelled a Ponzi scam.
TerraUSD (UST) is a stablecoin tied to the US dollar that its backers anticipated would upend established payment systems throughout the world. However, it was wiped away in a matter of days as investors panicked and attempted to withdraw their funds, resulting in a violent, self-enforcing bank run. The catastrophe bankrupted many investors and brought the whole crypto market down with it: approximately $400 billion in crypto market capitalization was wiped away.
What happened to cause TerraUSD (TUST) to crash?
Without prior knowledge of the blockchain, Terra’s fast ascent and collapse can be difficult to explain simply. Indeed, many of its supporters used obfuscation and rhetoric to mask some of its glaring shortcomings. Here’s a quick rundown.
Terra, like Bitcoin or Ethereum, has its own blockchain. The UST stablecoin, which is tethered to the US dollar, is its flagship product. Stablecoins are utilised as safe havens by crypto traders when markets in DeFi (decentralised finance) get choppy: rather than changing their more volatile assets into actual currency, which can be costly and result in tax issues, traders simply swap them for stablecoins.
Some stablecoins get their value from being fully backed by reserves: if investors chose to withdraw their funds, the stablecoin’s foundation should theoretically have enough cash on hand to refund them all at once. UST, on the other hand, is an algorithmic stablecoin that depends on code, continual market activity, and pure faith to maintain its peg to the US dollar. The theoretical support for UST’s peg was also provided by its computational connection to Terra’s basic currency, Luna.
For the previous six months, investors have been buying UST for one reason: to profit from Anchor, a borrowing and lending platform that provided a 20% rate to anyone who purchased UST and loaned it to the protocol. When this offer was revealed, many detractors quickly compared it to a Ponzi scam, claiming that Terra could not possibly give such a large return to all of its investors. Terra team members recognised this, but compared the pricing to a marketing expense to create awareness, similar to how Uber and Lyft gave heavily reduced fares at the start of their operations.
According to several blockchain specialists, affluent investors pulled out a short-selling strategy last week in which they borrowed large sums of Bitcoin to buy UST with the purpose of generating significant gains when the value of UST collapsed.
This led the UST to depreciate against the US dollar. A bank run erupted, with investors who had received interest via Anchor frantically trying to get out before it was too late. Their actions prompted the connected currency Luna to plummet as well, resulting in what is known as a “death spiral.” UST is currently around 12 cents, and Luna is just fractions of a penny after reaching a high of $116 in April.
Many Terra and Luna investors’ life savings evaporated in a couple of days. The r/Terraluna subreddit was flooded with users discussing their mental health difficulties and suicidal thoughts. “I’m going through some of the darkest, most intense mental suffering I’ve ever experienced.” “It still doesn’t seem true that I lost $180,000,” commented one commenter.
What’s next for Terra and Crypto?
Many experts within the cryptospace now firmly believe that Terra LUNA and UST is dead, and will be very unlikely to recover. While the problems happening over at TerraLABS was felt throughout the whole market, the rest of the market has began recovering slightly since, while Terra has still been dropping.
Do Kwan, creator of TerraLABS, has a recovery plan in place however many investors and experts are skeptical about the plan even working at all.
One thing that is for sure, there will be more regulation by world governments when it comes to stablecoins in an attempt to be able to protect investors money in the future.