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Concept
A type of stablecoin (specifically, a type of mirrored assets)– a digital asset that mirrors the price of a fiat currency (usually, the U.S. dollar). The coin is programmed to adjust the circulating token supply so as to maintain its peg with the underlying currency. To that end, these coins rely on programmed algorithms to dynamically adjust their supply in response to changes in demand. The majority of popular stablecoins are fiat-backed stablecoins (see also, types of stablecoins). These stablecoins have a relatively simple structure: for every blockchain-based token issued, a unit of a fiat currency is held in reserve. Therefore, it represents a token that trades at—or close to—the price of the underlying fiat currency. That is, neither premium nor discount would be imaginable for $1 worth token that can only be exchanged for a dollar. Contrary to fiat-backed stablecoins, algorithmic stablecoins are not backed by any real-world assets (RWAs), as the price is solely determined by a mechanism called algorithms.
Purpose
Algorithmic stablecoins are designed to maintain stable prices using algorithms that involve two coins (the stablecoin and an underlying coin) and establishes a dynamic link between the two where one coin is used to account for, and adjust for, market volatility and the other to maintain the peg. The algorithm adjusts the exchange rate depending on the supply and demand in the market. Therefore, algorithmic stablecoins are pegged to the value of a real-world asset (being the fiat currency), but not backed by it. Certain stablecoins are modeled on a hybrid fractional peg which applies the principle of collateralization.
Classification
Algorithmic stablecoins can be classified in accordance with the mechanism applied for the main purpose of maintaining value. Broadly, these coins can be classified as rebase algorithmic stablecoins, seigniorage algorithmic stablecoins, and fractional algorithmic stablecoins (for more, see: types of algorithmic stablecoins). In rebase or rebasing algorithmic stablecoins, the total supply of the stablecoin is not fixed, and the algorithm adjusts the base’s circulation of a certain coin solely in response to demand and supply. Seigniorage stablecoins are based on a multi-asset system: volatile assets (collateral) and stablecoins. The stablecoin is stabilized by the volatile asset using mechanisms such as market arbitrage, minting and burning, and demand across the network. Fractional algorithmic stablecoins utilizes algorithm as well as the effects of collateralization to optimize a coin’s performance in the market. By means of collateralization, these stablecoins can determine the optimal mix of collateral (such as USDC)- that is relatively stable, and a selection of volatile crypto assets.
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