Medha and Lisa Pauline Mattackal

(Reuters) – A cryptocurrency platform has pledged to raise $10 billion in bitcoin for its “stablecoin”. This is a way to get the market going. The pledge is part of larger movement to declare bitcoin the reserve currency for a new age.

Terraform Labs in Seoul has so far acquired almost 40,000 bitcoins valued at $1.7B through purchases by Luna Foundation Guard, an affiliate non-profit organization. This data is publicly accessible on blockchain.

The spree follows Terraform co-founder Do Kwon’s announcement on Twitter (NYSE:) last month https://twitter.com/stablekwon/status/1506278298883706882 that the project would buy the $10 billion worth of bitcoin reserves to underpin TerraUSD, breaking ranks with other large stablecoins – a ballooning class of cryptocurrencies that aim to minimise wild price swings and are typically backed by U.S. dollar reserves.

Kwon claims that a stablecoin supported by bitcoin reserves “will open an entirely new era in monetary policy” referring to the global financial backbone, the gold standard, which was established about 100 years ago.

Market players have identified them as major drivers of bitcoin’s return to $48,000 at March end. Perhaps more important is the question of whether other companies will follow Terraform’s example.

Sid Powell CEO at Maple Finance in Sydney said that buying $10 billion of bitcoin can increase the price. Over a long period of time, however, the signal is that bitcoin has become the most popular form for collateral backing currency currencies.

However, market participants warned that a closer embrace between Bitcoin and stablecoins such as TerraUSD could pose a risk to crypto markets. This would raise the possibility of investors falling into a “death spiral”.

In any case, it will be well worth the effort.

There are also pitfalls in the short-term.

Richard Usher of OTC trading at Crypto firm BCB Group in London stated that “there is a risk some people try to position long before the purchasing which could exaggerate any fall if it starts to retrace.” He said bitcoin’s rise last month was due to an improving risk climate.

Analyst at Arcane Research, a crypto research company based in Norway, Vetle Lunde estimates that the firm could ultimately hold between 60,000 and 70,000 bitcoin once it reaches $3 billion.

That would surpass Tesla (NASDAQ:)’s 43,200 bitcoin https://bitcointreasuries.net, the public company with the second largest bitcoin stockpile behind MicroStrategy.

Terraform Labs has not responded to my request for comment.

MOON AND EARTH

Stablecoins have been rapidly growing in popularity. These coins are used widely for trade and investment.

It is easier, for example, to exchange tether, the largest and most established stablecoin, for bitcoin or any other cryptocurrency than it is for U.S. Dollars for bitcoin.

Tether had $44.5 billion in market cap, and TerraUSD was at $1.76 billion. CoinMarketCap reports that they have increased by approximately 85% to $16.7 billion and $82.3 billion, respectively.

TerraUSD has become the fourth most stablecoin. It is also pegged to the US dollar, just like the rest of its peers. While the likes and claim they have the equivalent value in tokens, TerraUSD keeps its 1 dollar peg by using an algorithm that modifies supply and demande. This involves Luna, a balancing token.

While the Terra project is decentralised, bitcoin reserves could theoretically provide an additional level of comfort.

“Backing it with something as predictable – not from a price perspective but from a rules and governing perspective – as bitcoin brings a lot of confidence to people,” said Matthew Sigel, head of digital assets research at VanEck in New York.

According to him, other algorithmic stablecoins will follow Terra’s example and have bitcoin reserves. If the experiment is successful, they may even add other crypto tokens.

THE DEATH SPIRAL

However, algorithmic stable coins are not always stable. In the past some lost their pegs and collapsed in value.

Carlos Gonzalez Campo is an analyst with 21Shares Switzerland. He stated that “there’s still much to be done” and there are regulatory uncertainties about algorithmic stablecoins. They can resist a collapse of contractions which could lead to a so-called “death spiral.”

“This phenomenon refers to a theoretical vicious circle where UST (TerraUSD) contraction leads to LUNA being minted and declining in price, which leads to fear and more UST redemptions,” he said, comparing this to a bank run.

This is the purpose of bitcoin reserves, however it can also lead to wider contagion.

Arcane’s Lunde stated, “It is far better to keep some reserve aside from luna because otherwise it’s very exposed to its performances and that could make everything stop as we have seen with other algorithmic steadycoins,”

However, I worry about long-term structural implications this could have for luna and bitcoin. They have about 70,000 bitcoin reserves that they can use to maintain the market’s peg and settle it. If this happens, the implications could be devastating for the whole market.

(The article has been corrected to show that the figure is now $3 billion as stated in paragraph 11.