Crypto FAQ: What is a stablecoin? How is it used?

• Defn: stablecoin
  [portmanteau: adjective "stable" + noun "coin"]
  A stablecoin is a digital coin that is tethered to the price of a "stable" currency, commodity, or other asset. Most stablecoins are backed, in which case it is subject to the same volatility as its backing asset. Generally, however, it is still considered much less volatile than other cryptocurrencies, which can fluctuate to a large degree sometimes even over the span of a few minutes.
  

The following are four main types of stablecoins:

Fiat-backed stablecoins are the most common and earliest type of stablecoins on the market. They are backed by and tethered to a fiat currency, such as the US Dollar. Fiat-backed stablecoins are collaterized off of the blockchain, generally through banks, which serve as serve as depositaries for the backing currency. The amount of the currency used as collateral for the currency must equal the amount of the stablecoin in circulation. Examples include USD Tether (USDT) and USD Coin (USDC).

Commodity-backed stablecoins function similarly to fiat-backed stablecoins, but are instead backed by a commodity (e.g. gold). Examples include Tether Gold (XAUT) and Paxos Gold (PAXG).

Cryptocurrency-backed stablecoins are backed by a cryptocurrency on the blockchain through smart contracts. These are generally more volatile than fiat- or commodity-backed stablecoins due to the volatile nature of cryptocurrencies; as such, there is generally more of the backing currency kept as collateral than other types of stablecoins. Examples include DAI and Havven.

Algorithmic stablecoins (also called seigniorage-style stablecoins) are stablecoins that are not backed by an asset and are instead managed by algorithms, which control the currency supply (i.e. it creates or destroys coins according to supply and demand to maintain its tether). Although they are not necessarily backed by an asset (though there is generally some collateral regardless), algorithmic stablecoins' prices are still tethered to one. One example is TerraUSD (UST), which lost its tether to the US Dollar in May 2022 and resultingly fell below 10 cents.

Stablecoins have low transaction fees and fast processing speeds, and therefore can be used to easily and inexpensively send money internationally. Additionally, they experience less volatility than other cryptocurrencies and are usually backed by some sort of collateral, meaning they are a more secure way to invest in cryptocurrency.