Crash of the algorithmic stablecoin UST and highly capitalized token LUNA became a real shock for crypto industry. For a few days savings and multi-million dollar assets of large companies were depreciated. A short time before the crash, Terra was second only to Ethereum in TVL (that consists of MakerDAO, Uniswap, Compound and other DeFi veterans). Anchor platform was in the third place of DeFi Llama rating. Fast Terra USD (UST) growing and algorithmic stablecoin popularity impressed a lot of developers to create similar projects. But everything changed in a few days: UST suddenly lost its peg to the dollar, and its associated LUNA token almost depreciated.
Let’s figure out why it happened
Even when LUNA and UST were at the peak of popularity, there were people who didn’t believe in mechanism infallibility. In early May, shortly before the collapse of Terra, the interest rate on deposits at Anchor was reduced for the first time to just below 18%. The decision was intended to smooth out the growing imbalances and solve a number of problems, including the depletion of the project’s reserves.
Users began to massively withdraw their assets from the protocol and the volume of Anchor deposits decreased by 16%. The stablecoin briefly lost its peg to the US dollar (at the moment on May 8, the asset was trading near $0.98)
Polygon project security manager Mudit Gupta wrote in his twitter that there were some suspicious transactions while UST incident was going. According to his words, on May 7, 250 million UST of liquidity were removed from Curve by Terraform Labs and after over 84 million UST were transferred to the Ethereum network by an unknown newly created address. Terraform Labs founder Do Kwon explained that this was a preparation for the launch of 4pool.
LUNA on stage
To stabilize the situation and strengthen the UST rate, the non-profit organization Luna Foundation Guard provided loans to OTC firms for $750 million in BTC and $750 million in stablecoins. Against the backdrop of these events, the market collapse continued.
On Wednesday, May 11, Terra USD again lost its peg to the US dollar - its price fell below $0.23. The LUNA cryptocurrency used to issue the stablecoin has fallen by more than 80%
Some time after, the price of LUNA fell below the $1 level, UST fixed at the $0.5 mark. Due to the loss of trust in the ecosystem, the price of the Anchor (ANC) flagship project token also collapsed.
On May 12th, with LUNA at around $0.05, Terraform Labs proposed a number of additional actions to restore the ecosystem. The company’s actions were criticized in social medias.
Terra developers suspended the blockchain several times, explaining this by the need to protect the network from potential “governance attacks” and develop a “recovery plan” for the system. The result of these actions from Terraform Labs was the expansion of the LUNA supply to 6.5 trillion coins. This contributed to the further depreciation of the native token of the project.
The withdrawal of assets from Anchor, followed by the collapse of LUNA and UST, brought down not only the TVL of the Terra ecosystem, but also the aggregate indicator for the entire DeFi segment.
What’s next for Terra?
The Terra incident is undoubtedly one of the most high-profile events in the history of the crypto industry. So far, no DeFi project has reached such gigantic proportions before its collapse. It is not a very common situation when such a reliable system fails. Also an important reason of what happened is the overall situation in the industry and in the world. The chances of getting out of the “death spiral” have become quite illusory - the almost empty reserve fund of LFG is a confirmation of this.
The road to the revival of Terra, if at all possible, will be long and hard. After all, the main problem lies not in the technical component or the mechanism for linking to fiat, but in restoring user confidence.
The future of the very concept of algorithmic stablecoins is also unclear.