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TLDR below. This is not financial advice.
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$UST VS $LUNA
$UST is not $LUNA
$LUNA is the native token where users have to stake it to be a validator in the Terra blockchain whereas $UST is a stablecoin. They both exist on the Terra ecosystem but are not the same.
When we talk about stablecoins we classify them into four different categories:
Mechanism: $UST is an algo stablecoin so the mechanism is algorithmic and it has two tokens which are $LUNA and Terra Stablecoin such as $UST.
Collateral Type: It doesn’t have any collateral
Peg: It is pegged to one US dollar
Collateral amount: It doesn’t have any collateral reserve
A lot of people think that $UST is backed by $LUNA but that’s not true.
$LUNA is used in the reserve and is used to maintain price stability.
At the same time, $LUNA is not considered traditional collateral. It is 100% algorithmic
When $UST is less than a dollar you take your $UST to go to the Terra network and exchange it for $LUNA and that’s how you mint $LUNA and destroy $UST. When you destroy $UST the supply goes down and the value of the remaining $UST goes up.
When $UST is above one dollar and you have $LUNA then you go to the system exchange it for $UST and then you can go to the open market and sell $UST at maybe a dollar and ten cents instead of a dollar but you get it for a dollar so that’s how the internal mechanism works to balance the price of $UST because internally they will always value $UST at one dollar. This is an algorithmic system because the value of $UST and the value of $LUNA is determined by outside markets but internally it will always value $UST at one dollar and $LUNA at whatever the price it is.
The three main factors that affect the stability of $UST:
Demand of $UST
When we talk about the demand for $UST we’re talking about how people are demanding $UST and as more people demand and want to use $UST in terms of transactions then that helps to increase the price stability because the higher velocity of the tokens exchanging hands increases the price stability of $UST.
Value of $LUNA
The system is not backed by $LUNA but having $LUNA in the ecosystem helps to maintain the stability of $UST. If $UST rises or falls you can always mint or burn $LUNA as and when you want. If $LUNA prices fall too much and $UST also falls a lot then having $LUNA as the stability mechanism is not going to be that robust because the prices are very volatile there too and so the value of $LUNA will affect the stability of $UST.
The utility of $LUNA
Think of $LUNA as the currency for the Terra protocol. Terra is a blockchain on its own and if you want to do any transactions you need the $LUNA blockchain to validate your transactions in this system then you need to pay validators something and the validators need to stake the $LUNA.
This is where the utility of $LUNA comes in because as a $LUNA holder you’re also a validator working to validate these transactions and so for any transaction that happens 0.1% to 1% of the total amount is basically the transaction fees. When people trade and transact more using $UST or using any of these tokens then it increases the amount of validation to be done and the number of transactions which then increases the transaction fees so the utility of holding $LUNA is not just about validating transactions but for you to earn income as a validator.
$UST Stats (till March 21)
Right now $UST has a market cap of two billion dollars and you can see that every day there are about 20k transactions of which 0.1% to 1% is in transaction fees so that’s a lot of different transactions that will be accrued to these $LUNA holders.
What we want to see in the statistics of stablecoins is how easy it is to peg to one dollar so we look at all the different data and all the different dates in which $UST is trading and we give a range of about +/- 5%. If it’s within $0.95 to $1.05 then we consider that stable. You can see that of the entire timeline only 1% is within that price range which is good or bad is up to you to decide. The higher percentage the better.
When the price is above $1.05 and when the price is below $0.95
You can see that 25% of the time it’s above $1.05 and 74% of the time it’s actually below $0.95. In the statistics of stablecoins ideally, you want the highest percentage at the 1% range because it’s a stablecoin but as a secondary option if it has a very low range of one-dollar stability then you should compare the proportion or the frequency of it being higher than $1.05 and lower than $0.95. It is a lot better if the price is being pegged at higher than $1.05. Right now we see in the chart that orange is less than dark blue but ideally you want the orange to be greater than the dark blue.
$UST or stablecoins in the Terra network are not only used in the on-chain ecosystem but also in the off-chain ecosystem. Terra has signed with a lot of different Korean companies and shops to accept the stable $UST in the markets so it is not only dependent on on-chain demand but off-chain demand as well and in general that’s a good thing.
At its core, you have Mirror Protocol and Anchor protocol which are the main protocols in the Terra ecosystem. When you’re using these protocols you will need $UST as collateral to mint assets and to trade and so $UST now has a much greater utility in the entire Terra ecosystem. Terra is building all these different applications to increase the utility of $UST. This is the general idea of what $UST is and how it interacts with the Terra ecosystem.
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It can be said that Terra is making a smart development in the process of building and developing its ecosystem. By offering a stablecoin, which has a very good anchoring mechanism thanks to a reasonable incentive, good stability, and using it directly to the end-users.
It can be said that there is no project that can reach end-users as well as Terra, when most of them focus on Crypto humand.
Thus, the demand for Terra Stablecoin will increase and positively impact the value of $LUNA. In addition, Terra has added incentives for $LUNA Holders, making it even more valuable in the future. This can be said to be a “late birth” project, but it has outstanding power. Let’s follow Terra!