Seigniorage-style stablecoins can’t remain stable forever


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    There’s a few types of stablecoins out there, broadly speaking divided into those with collateral of some kind and those without.

    Those without tends to be called synthetic or algorithmic stablecoins. They might also be called a scam or a failure, or they are also known as seigniorage-style stablecoins, and these are not backed by collateral.

    With no collateral providing underlying value, the value is attempted controlled through supply and demand algorithms and agreements. It’s easy to “fall in love” with this:

    • It’s managed on-chain, making it look like a fairly clean implementation
    • It doesn’t need to attract underlying collateral to begin operations, removing a lot of potential hassle

    However, these types of unbacked stablecoins eventually always fail, because at some point you’ll get a “bank run“-type situation. And a bank run is bad enough for banks, whom are at least somewhat backed by collateral..

    Do we therefor always need to back stablecoins with fiat? No, you can back it with any collateral, but the collateral should itself be of a certain minimum quality, ideally measured through high utility and low volatility. MakerDAO is/was mainly backed by volatile cryptocurrencies as collateral, and onboarded other types of collateral like USDC to help diversify.

    I’d argue other types of real world assets, metals and the likes, things that participate in the real economy, provide some of the best collateral available. That’s what we should look to onboard.

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