How Does an Algorithmic Stablecoin Maintain Its Peg without Collateral?
Algorithmic stablecoins typically use a dual-token system involving a stablecoin and a volatile governance or collateral token. The peg is maintained through on-chain mechanisms like seigniorage, arbitrage incentives, and burning/minting operations.
When the stablecoin price is above $1, users are incentivized to mint it by burning the volatile token. When below $1, users are incentivized to buy and burn the stablecoin for the volatile token, reducing supply and theoretically restoring the peg.
Glossar
Algorithmic Stablecoin
Anchor ⎊ A collateralization scheme or algorithmic feedback loop designed to enforce a stable relationship between the asset's market price and a fiat currency or basket of assets.
Seigniorage
Profit ⎊ Seigniorage, within cryptocurrency, represents the difference between the cost of producing a new unit of digital currency ⎊ typically computational power and energy ⎊ and its nominal value or exchange rate; this differential revenue accrues to the entity controlling the issuance process, often miners or validators in proof-of-work or proof-of-stake systems.
Governance Token
Asset ⎊ A Governance Token grants its holders the right to propose and vote on changes to a decentralized protocol's operational parameters, often including modifications to risk models or fee structures.