Stability in the Age of Cryptocurrencies: A Critical Review of Stablecoin Mechanisms and their Implications

Abstract

Cryptocurrencies have catalyzed financial innovation, with Bitcoin's emergence partly in response to the 2008 financial crisis, attracting both enthusiasts and skeptics. Initially, it functioned within a tight community, evolving into a global phenomenon after 2014. After the crypto market grew, investors faced the challenge of conversion risk as most liquid cryptos have high variability. Stablecoins, such as Tether, addressed volatility concerns and offered "crypto-fiat." Tether, the leading stablecoin, wielded influence over Bitcoin prices. Market data analysis revealed an inverse relationship between Tether and Bitcoin's price volatility. Tether's price stabilization is attributed to clearer backing policies post-2019. Research by Thanh et al. (2022) indicated USD-backed stablecoins' superior stability compared to algorithmic variants. Tether's negative correlation with other stablecoins positions it as a stable and solid choice. Larger market-cap stablecoins like USDT and USDC impact smaller ones. Additionally, USDT's trading volume increase positively correlates with heightened Bitcoin volatility, confirming prior findings. These dynamics continue shaping the evolving cryptocurrency landscape.