What are stablecoins?

Think of stablecoins as cryptocurrencies designed to keep their value steady, avoiding the ups and downs that often affect other digital assets like Bitcoin. Instead of fluctuating, they’re linked to reliable assets like traditional currencies (such as the U.S. dollar) or commodities (like gold).

Popular stablecoins like USD Coin (USDC) and Tether (USDT) are backed by cash reserves, meaning there’s a store of traditional currency to support each stablecoin. 

Others, like DAI, use crypto as collateral and rely on smart contracts to help keep their value close to that of the asset they’re pegged to.

How do stablecoins maintain their value?

Stablecoins maintain their value in several ways. The most common method is by holding reserves of real money, like US dollars. For every stablecoin in circulation, there’s an equivalent amount of cash stored in reserve, making it possible to trade stablecoins for dollars on demand and keep their price stable.

Other stablecoins are backed by reserves of cryptocurrency, which can be more volatile. To counter this, users may need to deposit more cryptocurrency than the value they receive in stablecoins, providing a buffer if crypto prices drop and helping the stablecoin hold steady.

Algorithmic stablecoins take a different approach, adjusting supply based on demand instead of backing each coin with cash or crypto. 

When the stablecoin’s price rises above its target, more coins are minted to bring the price down. When it falls below the target, coins are removed from circulation to push the price back up. This automated balance helps keep value consistent.

Lastly, some stablecoins are backed by physical assets like gold. Each stablecoin represents a set amount of the asset, linking its value to something stable and tangible.

By employing these different strategies, stablecoins maintain a steady value compared to most cryptocurrencies, making them useful for transactions, savings, and bridging the gap between crypto and traditional cash.