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Terra’s Luna cryptocurrency is down 87% in one day, but at least it’s not down 95% anymore. Its sister stablecoin was at 29 cents when it should have been $1

May 11, 2022, 1:19 PM UTC

Stablecoins are supposed to be stable—and pegged to a currency. But one of the world’s biggest stablecoins, TerraUSD, has been neither this week.

Terraform Labs’ UST stablecoin, which is supposed to be pegged to the U.S. dollar, has swung wildly over the past few days, and hit a low of 29 cents on Wednesday morning, according to CoinGecko. Its potential demise could change the future of stablecoin regulation, if not the course of decentralized finance itself.

The stablecoin’s sister cryptocurrency, Luna, had previously dropped to 81 cents. Though Luna is now trading at around $3.67, up 46% in the last hour alone, it’s down 87% in 24 hours and down 95% in the last week.

The South Korean mogul who created the stablecoin, Do Kwon, at first pledged over $1 billion in Bitcoin and UST through the Luna Foundation Guard in a failed attempt to stabilize the coin. He’s been teasing a rescue plan for days, and the details just dropped on Wednesday morning.

After days of turmoil, Kwon said that Terra endorses a community-proposed plan that hopes to save UST.

UST is an algorithmic stablecoin, which differs from other stablecoins because it has no reserves. Instead, it holds value based on an algorithm that is coded to strike a balance between the stablecoin and a partner coin. 

In UST’s case, that partner coin is its sister cryptocurrency, Luna. Every time a UST token is minted, the equivalent of $1 in Luna is burned, or removed from circulation, and vice versa, to maintain the peg.

So, to regain the UST peg, Kwon supports a plan which proposes increasing the minting capacity of Luna from $293 million to over $1.2 billion. This would add more Luna to market to be minted and sold in an attempt to try and bring UST back to $1.

“The only path forward will be to absorb the stablecoin supply that wants to exit before UST can start to repeg,” he tweeted on Wednesday. “There is no way around it.”

With this proposal, “the supply overhang of UST (i.e., bad debt) should continue to decrease until parity is reached and spreads begin healing,” according to Kwon.

Kwon admits that this plan comes at a “high cost” to UST and Luna holders, “but we will continue to explore various options to bring in more exogenous capital to the ecosystem & reduce supply overhang on UST.”

Kwon added that as UST recovers, “we will adjust its mechanism to be collateralized.”

He remained confident, saying “Terra’s return to form will be a sight to behold.” But UST remains below $1, currently trading at about 49 cents, and down 44% in 24 hours.

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