What Is a Stablecoin?

In May 2022 a coin meant to be worth a dollar went to nothing: UST, one of the biggest of its kind. Over a few days it fell to a fraction of a cent and took tens of billions of dollars with it, and people who thought they held the boring, sit-still part of their crypto watched it vanish over a weekend. Hold that picture, it is why the rest of this matters.

A stablecoin is built to do the opposite: stay put at a fixed value, nearly always one US dollar, while still living on a blockchain and moving like any other coin. The pitch is one line: one coin, one dollar, today, next week, at 3am in a panic. The part worth chewing on is how each kind keeps that promise, and what happens when it cannot, because they do not all work the same way. That difference decides whether the peg holds when markets turn ugly.

Why "stable" matters at all

Start with the problem: a cryptocurrency like Bitcoin or ether is volatile by nature, open markets trading round the clock with nobody smoothing the bumps. Great for a long-term bet, hopeless for buying lunch. Picture being paid in a coin worth 15% less by the time it clears, or pricing a coffee in something that lurches every hour, which you would not. A stablecoin strips the swing out and keeps the bits people actually want: settlement in minutes, no bank in the middle, works anywhere you have a signal. The value gets pinned to a dollar, that pin is the peg, and holding it is the whole job.

It is not magic money, whatever the name suggests. The value has to come from somewhere, and it comes from a mechanism. There are three broad families: one holds real dollars in a bank, one locks up other crypto as collateral, and one tried to do it with code and barely anything else. That last family is where UST sat, and it ended in tears.

How a peg actually holds

Nothing physically forces a stablecoin to trade at a dollar. Its price is whatever buyers and sellers agree on, same as any coin, and it drifts a cent or two either way on a normal day. Two forces drag it back, and the first is redemption: if the issuer will reliably swap one coin for a dollar of value, the coin gets a floor and a ceiling. Nobody pays over a dollar for a thing they can mint for a dollar, and nobody sells under a dollar a thing they can redeem for one.

The second is the open market: traders pounce on any gap, and that is arbitrage doing the daily work of holding the line, quick and quiet in calm conditions, closing tiny drifts inside minutes. The two forces lean on each other, which is the part that catches people out. Trust the redemption and small wobbles get fixed before you notice. Doubt it, even over a rumour that turns out to be wrong, and the market stops believing in the floor, which is the moment a peg slips. Every collapse in this article is one of those two forces breaking.

The boring kind, which is the biggest

USDT runs the show: Tether, the company behind it, launched in 2014, and it is still the giant by a wide margin. USDC, from a firm called Circle, turned up in 2018 as the main rival, and both claim to be backed one-for-one: for every coin out there, a real dollar or a dollar-equivalent like a short-term government bond, sitting in bank accounts and custody. The model is dull on purpose, hand a coin back and get a dollar, mint a coin and the issuer takes a dollar in. The reserve is what makes the peg believable, and arbitrage does the fiddly bit: slip to 99 cents and traders buy cheap, redeem for a full dollar, pocket the gap, push the price up. Drift above a dollar and it all runs the other way.

Between them these two have been worth well over a hundred billion dollars, and they cover the large majority of all stablecoin use. The catch is trust: you are betting the issuer holds what it claims, in assets it can turn into cash fast on the day everyone redeems at once. That is a bigger if than the marketing lets on.

The trust question: reserves and attestations

A fiat-backed peg is only as sound as the assets behind it, and from the outside you mostly cannot know the pile is really there. You take the issuer's word, propped up by reports: Tether and Circle both publish attestations, where an accounting firm checks the reserves on a given day and signs off the figures. That word does a lot of quiet work. An attestation is a snapshot of one moment, not the continuous, full audit a big public company has to file, and people noticed. The gap has drawn years of suspicion, most of it at Tether, which paid an 18.5 million dollar settlement to the New York Attorney General in 2021 over past claims about its backing.

What sits in the reserves matters as much as the total. Cash and short-term government debt sell fast in a crisis, riskier or longer-dated holdings do not, and that is the nightmare: a wave of redemptions hits reserves that are stuck or worth less than face value. So when a coin says it is "fully backed", the useful follow-up is dull: backed by what, exactly, and how fast could it pay everyone back at once? That one question sorts the sturdy designs from the shaky ones.

Backed by crypto instead

The second kind drops the company: DAI, run by the MakerDAO protocol since 2017, is the one to know. You make DAI by locking up other crypto as collateral inside a smart contract, and because crypto is volatile you lock up more than a dollar's worth for every DAI you mint. This is over-collateralisation: deposit 150 dollars of ether, borrow 100 DAI, and the spare 50 is a cushion if the collateral falls. Drop too far and the system sells the collateral off on its own to keep every DAI backed. No human signs anything.

The trade-offs are the fiat kind in a mirror. It is more transparent, because anyone can watch the collateral on the blockchain in real time rather than wait for a quarterly report. But it is more fragile in one spot: it leans on the very volatility it set out to escape. A fast crash can trigger waves of forced sales, and in real chaos those sales pile up quicker than the system can clear them. DAI's designers found that out in the crypto crash of March 2020. MakerDAO later folded some fiat-backed stablecoins into DAI's collateral to firm it up. That made it sturdier, and a little less pure as a crypto-native idea.

And the kind that mostly failed

Back to UST and the third family, which tried to hold the peg with little or no real backing. Code and incentives juggled the supply, shrinking it below a dollar and growing it above, an algorithm steering it all with help from a paired token meant to soak up the swings. On paper, elegant. In practice it is the cautionary tale of the lot, and the May 2022 wipeout is why.

UST leaned on a sister token called LUNA. You could always swap one UST for a dollar's worth of LUNA, and that was meant to hold UST at a dollar. The trouble is what the mechanism does once confidence cracks: a wall of selling arrives, defending the peg means printing ever more LUNA, and the more LUNA you print, the harder its price falls. A cheaper LUNA makes the swap worth less, which feeds another round of panic. Traders call it a death spiral. Over a handful of days in mid-May 2022 it took both coins down to near zero. LUNA had traded near an all-time high of around 119 dollars weeks earlier, and it ended worth a fraction of a cent, with tens of billions of dollars in value gone. It was about as clean a proof as you could want that "stable" is a goal, not a law of nature, and that a peg held up by confidence alone fails at the exact moment you need it. The damage spread too: the collapse dragged down lenders and funds that had bet on the project and set off a chain of failures across crypto through the rest of 2022. A few newer projects still tinker with partial algorithmic mechanisms, but the pure version, a coin held to a dollar by nothing but code and a sister token, is widely written off.

Even the solid ones can wobble

The experiments are not the only things that break. In March 2023 USDC, one of the most trusted fiat-backed coins going, briefly fell to about 88 cents. The cause was almost quaint: Circle held part of its reserves, around 3.3 billion dollars, in deposits at Silicon Valley Bank. Over the weekend of 10 to 12 March 2023 that bank collapsed, the biggest US bank failure since 2008. Holders panicked that a slice of the cash behind USDC was trapped, so they sold, and the coin slid under its peg even though the vast bulk of its reserves were untouched and held elsewhere.

The recovery was nearly as quick as the fall. Once it was clear over that weekend that the bank's depositors would be made whole, the worry about trapped funds went away and USDC was back to a dollar within days. No lasting damage to the coin, but a sharp lesson for every fiat-backed stablecoin: the peg is only as sturdy as the banks and assets behind it. Even a well-run coin can catch a fright from a problem one step removed. A stablecoin does not float free of the ordinary financial system, it is wired straight into it.

Same coin, different rails

A stablecoin is not tied to one network. Take USDT again: it exists as separate versions across many blockchains, Ethereum, Tron, Solana and more, each its own copy issued by the same company against the same reserves. This bites in practice: the USDT on Ethereum and the USDT on Tron are worth the same but are not literally the same tokens. Send one to an address on the wrong network and the funds can be gone for good. Cost and speed shift too: moving USDT on Ethereum can run a few pounds in fees when the network is busy. On Tron or Solana it often costs a fraction of a penny, which is one reason Tron carries a huge share of stablecoin transfers despite Ethereum's head start. The issuer and the reserves set the peg, the network only decides how cheaply and quickly the coin moves.

What people actually do with them

Set the disasters aside and the daily reality is dull, which is the point. Mostly people park value: a trader who wants out of a falling market moves into a stablecoin without cashing back to a bank account, still in crypto, off the rollercoaster. The second big use is shifting money between exchanges and wallets: stablecoins settle in minutes rather than the days a bank transfer can take, so they have become the default way to move value around crypto. They are also the unit a lot of trading is priced in, with countless coins quoted against USDT rather than the dollar itself. None of that asks you to believe a stablecoin is risk-free, it only has to hold its value long enough to do the job in front of it.

How to read one before trusting it

Put the three families side by side and a short checklist drops out. First, what backs the coin: real dollars and short-term government debt, other crypto locked as collateral, or nothing but an algorithm and a promise. Second, how you would check that backing, and how recent and thorough the proof is. Third, what happens in a crisis: who can redeem, how fast, at what price. And treat "stable" as a claim to test, not a fact you are handed. The coins that came through years of stress are the ones whose backing you can point at, and the ones that vanished overnight nearly always leaned on confidence and clever design instead of assets you could touch.

That is the picture in miniature: a stablecoin is a tool for holding steady value on a blockchain, and the better ones do it well across years of turmoil. But "stable" is a promise about intent, not a certainty, as UST holders learned the hard way. Knowing what backs a given coin, and how that backing behaves under stress, tells you how much the promise is worth. For why other crypto moves so much, read what Bitcoin is, and for why prices lurch in the first place, see our guide on liquidity. This is a technical explainer, not financial advice.