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What exactly is Terra?


Terra is an open-source blockchain payment network for algorithmic stablecoins, which are digital currencies that track the value of other assets. Terra stablecoins can be spent, saved, traded, or exchanged instantly on the Terra blockchain.

The Terra protocol creates stablecoins that track the price of any fiat currency in a steady manner (a government-backed currency such as the U.S. dollar or euro). Terra and Luna are the two main cryptocurrency tokens, and they contain the following features.

Terra: These are stablecoins that are named after fiat currencies and track their prices. The base Terra stablecoin, for example, is dubbed TerraSDR or SDT and monitors the price of the IMF’s Special Drawing Rights. TerraUSD (UST), which tracks the US dollar, and TerraKRW (KRT), which monitors the South Korean won, are two more Terra stablecoin denominations. By burning Luna, users can create fresh Terra.

Luna is the Terra protocol’s staking token, which absorbs the price fluctuation of Terra stablecoins and is used for governance and mining. Users stake Luna to Terra blockchain miners (also known as “validators”), who record and validate transactions on the blockchain in exchange for transaction fees. Luna’s value rises in tandem with Terra’s utilization.

Terra’s Operation

The Terra protocol ensures that supply and demand for the Terra stablecoin are constantly balanced, as the fundamental value of stablecoins is derived from the stability of the price peg, hence eliminating the volatility typical with cryptocurrencies.

Luna is the Terra stablecoin’s variable counterbalance, absorbing its volatility. Imagine the entire Terra “economy” as a Terra pool and a Luna pool to understand how Terra functions. The Luna supply pool adds to or subtracts from Terra’s supply to keep its price stable; users burn Luna to mint Terra and Terra to mint Luna. This is accomplished by the protocol’s algorithmic market module, which uses arbitrage possibilities to promote the minting or burning of Terra.

Expansion (of the Terra pool): When Terra trades at a high price relative to its peg, it signifies that demand for the stablecoin is greater than supply; as a result, Terra supply should be raised to keep up with demand. The protocol encourages users to mint Terra and burn Luna, which lowers the Terra price (because to increased supply) while raising the Luna price (by reducing its supply). Users will keep arbitraging until Terra reaches its desired peg price.

Contraction (of the Terra pool): When Terra trades at a low price relative to its peg, it means there is more supply than demand for the stablecoin. This would necessitate limiting Terra supply until demand matches supply. The protocol then incentivizes users to burn Terra and mint Luna, resulting in a price increase for Terra (because to less availability) and a price decrease for Luna (by increasing its supply). Users repeat this arbitrage process until Terra trades at its goal price.

Arbitrage as an example

The algorithmic market module of the Terra protocol allows for atomic exchanges between Terra and Luna, as well as between different Terra stablecoin denominations. The market module, similar to a market maker, ensures that the protocol’s assets have a readily available and liquid market with stable prices and fair exchange rates.
The market module allows users to always swap 1 USD of Luna for 1 TerraUSD (UST), and vice versa, incentivizing users to keep Terra at the following price:

Users can trade 1 USD of Luna for 1 UST using the market swap functionality of Terra Station—which is Terra’s native platform for wallet, swap, governance, and staking functions—if 1 UST is trading at USD 1.005 (i.e., above the USD 1 peg). The exchange will result in the burning of 1 USD of Luna and the creation of 1 UST. Since 1 UST is presently trading at USD 1.005, customers can sell the 1 UST they received as a consequence of the swap for USD 1.005 and pocket the USD 0.005 difference. The UST pool continues to grow as more users participate in this arbitrage activity, putting downward pressure on the UST price until it approaches the USD 1 peg.

Consider the case where 1 UST is currently trading for USD 0.995. (i.e., just below the USD 1 peg). Users can acquire 1 UST for USD 0.995 and then trade 1 UST for 1 USD of Luna using Terra Station’s market swap feature. The user will profit USD 0.005 by burning 1 UST and minting 1 USD of Luna as a result of the swap. The UST pool continues to diminish as arbitrage activity continues, putting upward pressure on the UST price until it approaches the USD 1 peg.

Validators (Terra blockchain miners) and delegators (people who want to get rewards without running a full node) are rewarded with staking incentives from two sources in the Terra protocol.

Gas fees: Transactions are charged computational fees to cover the cost of processing them and to prevent spamming; validators can set their own minimum gas fees.
Fees added to each transaction in order to maintain market stability. There are two types: Tobin Tax, which is a percentage cost applied to each Terra stablecoin trade, and spread fees, which is a percentage fee added to any Terra and Luna swap, with a minimum spread fee of 0.5 percent.

Terra’s Advancement

Terra was created by Terraform Labs, a South Korean company launched in 2018 by Do Kwon and Daniel Shin. Shin is the founder and CEO of Chai, an Asian payment technology company that is a Terra partner, and was previously the creator of Korean e-commerce firm TMON. Kwon was previously employed by Microsoft.

A white paper3 from April 2019 outlines the business case for Terra, with Do Kwon listed as one of the four co-authors. Based on the belief that a price-stable cryptocurrency combines the best features of fiat currencies and Bitcoin (BTC), a successful new digital currency must maximize adoption to become useful as a medium of exchange, the paper proposes Terra, a cryptocurrency that is both price-stable and growth-driven. In both fiat and blockchain economies, there is a desire for a decentralized, price-stable money protocol, according to the study, and such a protocol could be the best use case for cryptocurrencies.

Ecosystem Terra-Luna

Terra has a burgeoning ecosystem in the crypto realm, with over 100 projects spanning DeFi, Web 3.0, and non-fungible tokens, in its mission to become a top ecommerce stablecoin payment and decentralized finance (DeFi) service provider (NFTs). These initiatives include:

The Anchor Protocol is a fixed-yield platform with low borrowing costs and easy access.
Andromeda Protocol (Andromeda Protocol) is a next-generation NFT protocol.
Chai is a South Korean payment app with over 2 million users.

LoTerra is a Terra blockchain-based decentralized lottery platform.

Mirror Protocol: Enables the production of fungible assets, or “synthetics,” that track the prices of real-world assets.

Talis Protocol is a marketplace enabling artists to sell their work and provide services.
The Vega Protocol is a trading and minting platform for derivatives.
What is the Terra Ecosystem Fund, and how does it work?
The Terra Ecosystem Fund will be used to create Terra network applications and standards. The Fund is backed by $150 million4 in capital commitments from significant crypto investors for the year 2021.

Is Terra a cryptocurrency or a blockchain?

It’s both at the same time. Terra is the name of an open-source blockchain protocol as well as the stablecoins (a type of cryptocurrency) that are created using it.

Why did the Securities and Exchange Commission (SEC) issue a subpoena enforcement action against Terraform Labs and its CEO?

The Securities and Exchange Commission5 announced5 on November 12, 2021, that it had filed a lawsuit against Terraform Labs and its co-founder and CEO Do Kwon, seeking an order ordering them to comply with subpoenas for documents and testimony connected to the Mirror Protocol. In 2020, Terraform Labs launched the Mirror Protocol, which allows users to produce and exchange digital assets known as mAssets that are based on the price of US equities. The SEC is looking into whether Terraform Labs and Kwon infringed the law by not registering their securities offers and sales, selling security-based swaps outside of a national security exchange, and acting as an unregistered broker or dealer.

What do you think?

Written by Winston Williams

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