In our beginner’s guide to stablecoins, we have discussed what
In our beginner’s guide to stablecoins, we have discussed what they are and how they usually work. We have also mentioned that one of the best-known stablecoins in the world of crypto is Tether. It goes without saying that Tether, despite allegations of manipulating Bitcoin prices and rumours of opaqueness doing the rounds, Tether undoubtedly remains the best-known coin of the stablecoin category of cryptocurrencies. In this beginner’s guide, we have a look at the basics of Tether.
What is Tether?
Tether is a stablecoin that has its value pegged to the value of an external asset, in this case, a fiat currency- usually the USD. This pegging or tethering, so to speak, is meant to add a layer of protection against the high volatility of the crypto market. As the crypto markets rise and fall abruptly and unpredictably, the backing by a stable fiat currency helps to add a much-needed cushion to this crypto-fiat combination.
When pegged to and backed by the US dollar, Tether is represented as USDT. As USDT, it is equivalent to the value of one US Dollar. The price is maintained at a level (by changing supply levels according to market conditions) based on what the value of USD is at that moment. In far less frequent cases, The there also uses EURO for pegging, calling the resultant stablecoin EURT. Reports suggest that Tether is also planning to use Japan’s Yen currency in the near future, resulting in the stablecoin JPYT.
Interestingly, there is no security from the possibility of volatility in the fiat currency itself. If something were to happen now to make the USD drastically plummet, Tether’s stability would come tumbling down with it
Working of Tether
Tether is developed on the Omni Platform, which is essentially meant for using several virtual assets connected to the Bitcoin blockchain network. Now, in the real world, only government-backed central banks can create currencies having actual value. Now we said that 1 USDT is equivalent to 1 USD. We obviously cannot state that without any proof at hand. So what makes Tether derive its value from fiat currencies? The answer lies in fiat currency reserves. Tether must hold actual reserves of USDs in order to back the Tethers released into the market. This basically means that a Tether holder should be able to redeem one unit of the stablecoin for one US Dollar simply upon demand. This makes it imperative for Tether to maintain USD reserves although there have been questions whether that is actually done to the adequate extent.
Now the very fact that Tether must depend on a fiat currency controlled by financial regulators and a central bank strips it of some of the decentralized quality a true cryptocurrency is expected to have. To keep up its value , an exchange must hold the requisite amount of USDs, failing which Tether must supply the exchange with the same. If they do not do that, the value of Tether gets disturbed, making the peg or “tethering” slip from its position of stability. In fact this is the very reason why experts say that decentralization in stablecoins has not been achieved yet.
Why choose Tether At All?
Clearly, Tether, with a derived value from a fiat currency, doesn’t offer the greatest of investment potential. Then why would you go for Tether at all? Factors like the extremely fast transactions that are completed in a few minutes and the zero transaction fees charged between Tether wallets, represent an advantage for crypto traders. Crypto traders need these features of Tether particularly when they wish to buy, sell and switch funds quickly to take advantage of arbitrage opportunities. In such a scenario, Tether is a useful coin to have. Its stability and the ability to act as a very safe bet when switching funds represents a great deal of use potential.
Having said all of this, Tether is definitely not without flaws. Its dependence on a fiat currency via a hard peg makes it susceptible to market changes anyway. If you are looking for a stablecoin that balances this problem out, you might want to check out the features of Maker, which allows for MKR-DAI duality and a soft peg to enhance stability.