Luna Cryptocurrency Plunges 50% Amid Stablecoin Crisis; understand – Cryptocurrencies

The cryptocurrency LUNA, native to the Terra blockchain, leads the crypto market losses this Tuesday (10) with a 43% drop in the last 24 hours. At around 9pm yesterday, however, the digital asset fell by more than 50% amid a parity crisis for the stablecoin Terra USD (UST), which belongs to the same project.

The relationship between Luna and UST is at the heart of the problem. Unlike better-known stablecoins such as Tether (USDT) and USD Coin (USDC), which create parity with the dollar through bank deposits, UST obtains stability through the burning of Luna: for each unit of UST issued, US$ 1 on Luna is withdrawn from circulation. The dynamic is supported by market makers (market makers), who act in the purchase and sale of assets, profiting in exchange for the task of maintaining the UST parity with the dollar.

The system had been favoring Luna until now, with shortages caused by the growth in demand for UST – in 2021, Luna soared 13,842% to US$90.55, and in 2022 it was worth almost US$120. After the crisis As of yesterday, however, the cryptocurrency even dropped as low as $23.50 on some exchanges, a meltdown of 80% in just over a month.

understand the case

Experts already warned of the danger of the experiment: if investors disposed of a sufficient amount of UST, many Luna units would be issued to the point of unbalancing the balance and causing the loss of value of both cryptoassets. The only question was about the reason that would lead to the wave of redemptions of the amounts invested in the stablecoin.

The first signs began to appear when Tron (TRX) announced on Thursday a new protocol offering more than 30% annual yield on stablecoins. Immediately, investors saw an opportunity to profit, and several of them migrated from the Anchor protocol, which yielded between 17% and 20% a year in UST and is the main engine of growth of the asset.

Already weakened by investor abandonment, UST then received its worst blow when Bitcoin dropped 11% and created the perfect recipe for disaster: with UST already fighting for $1 and Luna retreating in line with the market. , volatility increased so much that the market makers failed to act fast enough to hold prices.

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The UST had entered what is called a “death spiral”, a scenario that involves a systematic and feedback loop of an asset. In this case, investors began to redeem larger and larger amounts in UST with fears that the stablecoin would be worth less and less than $1.

As a result, the system began to issue more Luna tokens, further driving down the price of the cryptocurrency and causing more fear in the market. Not to lose out, Luna investors also began to liquidate their positions, again weakening the parity’s fuel, creating a vicious cycle.

The final shot came when the project’s creator decided to take a drastic step. Amid an attempt to salvage the UST parity, the Terra project liquidated $850 million worth of Bitcoin from its reserves to purchase the stablecoin. However, it ended up causing BTC to fall further and dragging Luna a third time – Bitcoin drops, it is worth remembering, usually affect the market as a whole.

The scenario then caused what users feared so much – and experts had already warned: after Luna plummeted more than 50%, UST plummeted from US$1 to US$0.60 on Monday night (9).

The instability forced the Binance exchange to stop withdrawals from Luna and UST, in a kind of circuit breaker – at one point, users reported that the exchange’s order books on the UST/USDT pair became empty. After the UST regained the $0.90 level this morning, withdrawals were reinstated.

At 10:45 am, Luna was quoted at US$ 31.40 and UST seeking parity with the dollar, around US$ 0.92.

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