The Three Paths of Stablecoins — Three Ways to Promise One Dollar

Stablecoins have become an everyday asset in the crypto market. They serve as the reference point when trading other coins on exchanges, they are where capital often takes shelter when Bitcoin moves sharply, and they are widely used for cross-border transfers. The market today is worth roughly $200 billion.

What all of these stablecoins promise is the same: to maintain a value of one dollar. The methods of keeping that promise, however, fall into three distinct categories, each with very different mechanics. Some issuers back their tokens with actual U.S. dollars, some projects lock other crypto assets as collateral, and others attempt to maintain balance through algorithms alone. For a while, all three approaches functioned without major issue. But the paths they ultimately took led to very different outcomes.

Fiat-Backed — The Most Common, and the Most Centralized

USDT (Tether) and USDC are the most widely used stablecoins on the market. The mechanism is straightforward: a user sends dollars to the issuer, the issuer holds those funds in banks or short-term U.S. Treasuries, and an equivalent amount of tokens is minted. In theory, one USDC can always be redeemed for one dollar, and as of 2026 the combined market capitalization of these two tokens exceeds $150 billion.

On the surface this looks like the most stable model available. There is, however, one underlying assumption baked into the design, which is that the issuer must be trusted. Whether the issuer truly holds the equivalent reserves, whether the audits are conducted properly, and how the issuer would respond to a government demand to freeze a particular wallet are questions that never really go away.

There are already concrete examples of how this plays out. Tether has frozen wallets sanctioned by OFAC at the request of U.S. authorities, while USDC went through an even more dramatic incident. In March 2023, the collapse of Silicon Valley Bank put $3.3 billion of Circle's reserves at risk of being trapped, and USDC briefly fell to $0.87. The peg recovered after the U.S. government announced that it would guarantee all SVB deposits, but the episode made it very clear that even the stablecoin considered safest ultimately rests on the traditional banking system.

Crypto-Collateralized — The Promise of Decentralization

DAI took a different path. Issued by MakerDAO, this stablecoin has no company or bank involved in its operation. Instead, users lock crypto assets such as Ethereum (ETH) into a smart contract, and DAI is minted in proportion to the value of that collateral.

The greatest strength of this model is censorship resistance. No government can halt the issuance of DAI, and no wallet can be arbitrarily frozen. All collateral is recorded transparently on-chain, where anyone can verify it directly. If Bitcoin is its own store of value, DAI seeks to become its own means of payment built on top of that foundation.

The weaknesses, however, are equally clear. The main one is capital inefficiency. To mint one dollar of DAI, a user typically needs at least $1.50 — often more than $2 — worth of collateral. When the value of that collateral drops sharply, positions face the risk of forced liquidation. A 30% drop in the price of Ethereum can trigger mass liquidations and shake the DAI peg itself.

In effect, DAI traded capital efficiency for decentralization. As a result, its market share remains modest compared to USDT and USDC.

Algorithmic — The Broken Promise

The third path was the most ambitious of all, but also the most catastrophic in its failure.

Algorithmic stablecoins hold little or no collateral. Instead, they rely on algorithms and arbitrage incentives to maintain the peg. When the price rises above one dollar, the supply expands, and when it falls below, the supply contracts, keeping the system in balance. Capital efficiency is in theory 100%, and the model was widely seen as attractive because of its potential for unlimited scalability.

In May 2022, however, the limits of this approach became painfully obvious when UST — the stablecoin of the Terra ecosystem founded by Korean entrepreneur Do Kwon — collapsed. A stablecoin with an $18 billion market capitalization became worthless within a matter of days, and its sister token LUNA crashed by 99.99%. In Korea alone, an estimated 280,000 investors are believed to have suffered losses.

The cause is commonly referred to as the death spiral. When UST fell below the peg, panic selling intensified, and the system attempted to absorb UST by minting more LUNA. In the process, however, the supply of LUNA expanded explosively and its price collapsed, which meant that the very asset meant to back UST disappeared along with it. An algorithmic system requires a baseline of trust in order to function, and when that trust evaporated, the entire system collapsed along with it.

The Terra incident left behind one clear lesson, which is that algorithms alone cannot manufacture trust, and that some form of real collateral is required to support the system.

Comparing the Three Models

All three models carry clear trade-offs. The fiat-backed model gained stability at the cost of centralization and censorship risk, while the crypto-collateralized model gained decentralization at the cost of capital efficiency. The algorithmic model pursued capital efficiency to the end and ultimately lost stability, and the price paid for that was severe.

Where the Next Evolution Leads

None of the three existing models has arrived at a complete answer. Even USDC, widely considered the most stable of them all, depegged the moment one of its banking partners came under stress. DAI is widely seen as a model of decentralization, but the capital efficiency barrier is too high for it to scale to the size the market actually demands. The algorithmic approach has already left behind a record of catastrophic failure.

Where, then, should the next evolution lead? One direction seems clear. The market needs a new kind of collateral structure, one that does not depend on issuer credit while also improving capital efficiency.

The BTCMobick ecosystem is preparing an answer to this question based on its own mainnet asset. Rather than a simple lock-up, it explores how an asset with verified price stability can be put to use. The specific design and mechanics will be addressed in a separate post.

Ultimately, a stablecoin is a question of what kind of trust structure can be used to promise one dollar. And the complete answer to that question has yet to be delivered by anyone.