Crypto regulation concerns make decentralized stablecoins attractive to DeFi investors

Stablecoins have emerged as an essential part of the cryptocurrency ecosystem over the past couple of years due to their ability to provide cryptocurrency traders with externalities during periods of volatility and their broad integration with Decentralized Finance (DeFi). These are essential to the health of the ecosystem as a whole.

Currently, Tether (USDT) and USD Coin (USDC) are the dominant stablecoins in the market, but their centralized nature and the constant threat of stablecoin regulation has led many in the crypto community to avoid them and look for decentralized alternatives.

Top 9 stablecoins by reported market capitalization. Source: messari

Binance USD (BUSD) is the third-ranked stablecoin and is controlled by the Binance cryptocurrency exchange. DAI, the top-ranked decentralized stablecoin, has 38% of its supply backed by USDC which raises questions about “decentralization.”

The focus of investors towards decentralized stablecoins can be seen with the rise in market capitalization and the number of DeFi platforms that integrate TerraUSD (UST), FRAX (FRAX) and Magic Internet Money (MIM).

Here is a look at some of the factors that support the growth of each stablecoin.

TerraUSD

TerraUSD (UST) is an interest bearing arithmetic stablecoin that is part of the Terra (LUNA) ecosystem and is designed to remain pegged to the value in US dollars.

In order to mint the new terrestrial reservoirs, users have to interact with the Anchor protocol and either burn an equivalent value of the network’s original LUNA token or lock an equivalent amount of Ether (ETH) as collateral.

The addition of ether as a form of collateral helped push things into high gear for terrestrial reservoirs as it allowed some of the value contained in ether to transfer to the terra ecosystem, increasing the circulating supply in terrestrial reservoirs.

As a result of the growth of terrestrial treasuries, the Terra Network recently surpassed Binance Smart Chain in terms of the total locked value (TVL) on the protocol, which now stands at $17.43 billion, according to data from DefiLlama.

Terra has also been adopted by the Curve Stablecoin ecosystem which has helped to distribute it across many DeFi protocols. This also gives floor tank holders another way to earn a return along with the 19.5% Annual Return (APY) offered to users who participate in floor tanks in the Anchor Protocol.

FRAX

FRAX (FRAX) is the first stablecoin of a fractional algorithm developed by Frax Protocol. It is partially backed by guarantees and the rest is fixed arithmetic.

The real story behind the growth of FRAX begins with its adoption by the DeFi community within several well-known projects and Decentralized Autonomous Organizations (DAOs) that are voting to add support for stablecoins within their ecosystems and their reservoirs.

FRAX was approved early on by OlympusDAO’s re-establishment protocol as a form of collateral that could be linked to get the platform’s original OHM token. It has also become the preferred stablecoin under the recently launched TempleDAO protocol.

On December 22, 2021, FRAX was added to Convex Finance (CVX) and was promptly pushed into the ongoing Curve Wars as a group of major DeFi protocols battle to pool CVX and Curve (CRV) to gain voting power across the Curve network and increase the return of their stablecoin.

This week, Curve Wars welcomed a new entrant after Tokemak members voted to add FRAX and Frax Share (FXS) to its featured reactor, vowing to “take the fight to a massive new scale.”

Magic Internet Money

Magic Internet Money (MIM) is a collateral backed stablecoin issued by the popular DeFi protocol called Abracadabra.Money. What sets this coin apart is that it is “called” into existence when users deposit 16 supported cryptocurrencies into MIM-enabled “pots.”

There are restrictions on the amount that can be borrowed from Abracadabra’s backed assets and this is part of the protocol’s effort to avoid issues facing MakerDAO (DAI). Specifically, the presence of too many centralized stablecoins and a history of catastrophic liquidation during market volatility.

Some of the popular tokens available to pledge as collateral for a MIM instrument include Encapsulated Ether (wETH), Ether, Shiba Inu (SHIB), FTX Token (FTT), and Fantom (FTM).

MIM has also been integrated into pools on Curve Finance, further highlighting Curve’s important role for stablecoins within the DeFi ecosystem and underlining the incentives to participate in Curve Wars.

Central exchange integration across MIM platforms, including a long list of escrow options, boosted circulating supply to $1.933 billion, making the stablecoin the sixth largest by market capitalization.

While the amount of value held in these decentralized stablecoins is only a fraction of that in USDT and USDC, they will likely continue to see their market share increase in the coming months as proponents of decentralization choose them over their centralized counterparts.

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