In recent times, there has been a lot of talk on stablecoins on crypto twitter with various arguments for, and against algorithmic stablecoins. But as the popular saying goes, "A decentralized economy needs decentralized money". The main goal of this publication is to present an objective view of the two most popular algorithmic stablecoins UST, and DAI, and draw out any strengths and weaknesses.
Analyzing DAI
DAI is an algorithmic stablecoin issued by MakerDAO, an Ethereum-based decentralized autonomous organization, that seeks to maintain an exact ratio of 1:1 with the U.S. dollar. It is primarily used as a means of lending and borrowing crypto assets in a permissionless manner.
DAI's Backing
DAI is backed by the MakerDAO reserve which is made up of a basket of cryptocurrencies including but not limited to wrapped BTC, ETH, USDC, COMP, and BAT. The diversified number of assets backing the DAI is its main strength as it diminishes user risk and increases price stability. The disadvantage here though is that DAI in circulation has to be overcollateralized in order to always have a 1:1 backing and this does not scale so well. Observe DAI's market capitalization below and you can see that it is not flexible by design. However, it maintains the peg very well.
Analyzing UST
UST is also an algorithmic stablecoin native to the Terra blockchain which is currently making a lot of waves. Terra aims to export UST to the wider crypto ecosystem as the medium of exchange, however, this has proven to be a herculean task. The crypto ecosystem is yet to see an algorithmic stablecoin be so flexible and easily scalable and yet succeed.
Basically, UST maintains its peg to the U.S dollar using math by the minting and burning of its native token LUNA. When UST is above 1 USD, UST is burned to mint LUNA and vice versa. The real competitive advantage of transacting/building with UST is that it is easily scalable (minted). If you take a look at UST's market capitalization (below), you can see that it has skyrocketed in recent times passing $18 recently.
UST is highly scalable but critics have expressed concerns about the possibility of a bank run scenario where a large amount of UST is sold in a short period of time can de-stabilize the peg. This scenario is currently playing out but UST is keen on maintaining the peg although it may take some time.
Conclusions
Both DAI and UST all have their strongholds and weaknesses, however, I think UST's scalability will help it get more adoption in the wider crypto ecosystem, but it comes with risks that can only be combated with a fault-proof sophisticated system and a relentless team of builders. Both types of algorithmic stablecoins will eventually serve different crypto markets.