The collapse of Terra (LUNA) and its algorithmic stable coin TerraUSD (UST) in May 2022 resulted in UST losing its peg, billions of dollars wiped out overnight, the Terra blockchain shut down, and consumer confidence in algorithmic stable coins dramatically declined.
While the collapse of UST has made news, the 3-years and still of holding peg Hive Backed Dollars (HBD), albeit much smaller market cap, has not.
HBD has several parameters that defend its peg that were not present in UST. These are listed below and compared with UST.
HBD is backed by the HIVE token, just as UST is backed by the LUNA token, and both have a mechanism to convert the stable coin to their native token, and vice-versa. This presents one obvious attack vector: Pre-Mine.
Terra raised $134.5 million in 5 fund raising rounds at an Initial Coin Offering (ICO) market cap of $511.26 million and it collapsed when the market cap was over $40 billion. This means that an upper limit of $10.5 billion worth of LUNA tokens could have been held by a very few number of investors, about 25% of the market cap.
This large holding by LUNA tokens makes it possible for whales to convert to UST in large amounts. The depegging of UST involved a seemingly coordinated selling off of hundreds of millions of UST in a short time.
HBD doesn’t have this problem since Hive has no pre-mine or ICO. Hive was created as a hard-fork of the Steem blockchain after the billionaire TRON founder Justin Sun colluded with centralized exchanges to use customer funds to vote in their own witnesses, thus overthrowing the Steem community. Sun also partnered with the Steem founders whom had an “ninja mine” or unfair advantage in mining STEEM tokens in the early days of the Steem blockchain. Once Hive forked, they zeroed the balances of all attackers and locked up the Steem ninja mine into a Decentralized HIVE Fund (DHF). Users have to make proposals and get voted on by the community to unlock funds.
The removal of centralized token sources makes it harder for any one party to accumulate large amounts of HIVE without driving the price up, and thus enriching the community. This also means there is less risk from centralized attack vectors to depeg HBD.
On the Hive blockchain, there are several key parameters to govern the conversion between HIVE into HBD:
Here is an example to illustrate this further:
On Terra, there is no fee and no lock period. Users can convert LUNA to UST instantly without a fee. This allows bad actors to obtain large amounts of UST very quickly.
If a bad actor wanted to accumulate lots of HBD they would have to account for a 3.5 day average price, and have 50% of their HIVE being exposed to market conditions for 3.5 days.
The Terra UST relied heavily on market forces as stabilizers for maintaining its peg. Fluctuations in the price of UST in the open market created arbitrage opportunities for traders between exchanges and Terra’s internal UST-LUNA feeless and instant swap mechanism. The risk here is high volatility in the price of UST or LUNA on the open market, especially in a bearish market, can result in massive amounts of LUNA being minted, which led to rapid inflation and devaluation of LUNA to the point of not being able to maintain its peg for UST.
On the Hive ecosystem, the HBD Stabilizer runs continuously in the internal HIVE-HBD market or decentralized exchange (DEX), and all its transactions are publicly visible. The HBD Stabilizer is an algorithm that currently receives $12,000 HBD per day from the Decentralized Hive Fund (DHF) to stabilize the price of HBD. When the price of HBD in the internal Hive DEX goes above $1.00 USD, it automatically sells to HIVE. And when the price of HBD is below $1.00 USD it buys up HBD with HIVE. As the market cap of HIVE and HBD increase, so will the HBD Stabilizer funding since the DHF receives part of the HIVE inflation.
Essentially, this serves as an algorithmic arbitrage between HBD-HIVE, thus ensuring both the beg is maintained as well as providing liquidity to the internal DEX. This also provides a second layer of stability for which individual arbitrages can trade between.
The more layers of arbitrage, the more resilient HBD becomes.
The most powerful defense parameter for protecting the peg of HBD is the Haircut Rule.
Since HBD is backed by HIVE, HBD acts as debt of the blockchain. To ensure HBD is never undercollateralized, there needs to be a debt limit to prevent the market cap of HBD from surpassing HIVE.
The current debt limit of HBD is 30% of the HIVE market cap, and this is calculated using the Virtual Hive Supply which includes the market cap of HBD. When the debt limit is reached, the Hive inflation no longer prints HBD, but only prints HIVE. This means users will receive rewards only in HIVE.
Note that Hive may be doing a linear transition from 50/50 HIVE-HBD payouts at 29% debt limit to 100% HIVE payouts at 30% debt limit. I couldn't find proper documentation to confirm this.
Furthermore, conversions from HIVE to HBD will be algorithmically depegged to prevent a death spiral of HIVE. For the peg to return, the market cap of HIVE must go back above the HBD debt limit.
The HBD debt and price depegging calculations are illustrated below:
HBD Debt = HBD in circulation / HIVE Market Cap
It is important to note that this HBD algorithmic depegging is only temporary until the HIVE market cap goes above the HBD debt limit (either via the HIVE price going up or until the token inflation of HIVE gets large enough). This is effectively an emergency program to prevent a complete collapse or death spiral as had happened with UST.
The Luna blockchain did not have a haircut rule, so even when the exchange market price of UST was depegging, the blockchain conversion always tried to print a $1 price equivalent of LUNA tokens. This greatly inflated the LUNA token supply, which increased the LUNA sell pressure leading to lower prices, which cycled back to UST printing even more LUNA.
While all the parameters put in place help HBD keep its peg, the actual true defense is the underlying value of HBD, HIVE, and the entire ecosystem.
The more use cases for both tokens, the more distributed the tokens get as the supply expands, rather than falling in the hands of a few whales.
LUNA’s main use case was to support and obtain more UST, and not much else.
HIVE and HBD, on the other hand, allows users to build value either directly on chain or in the physical world. Staked HIVE or HIVE Power allows users more influence and ability to post content on the blockchain. And apps such as the Distriator app which allows businesses to accept HBD has payment and provides customers with cashback also in HBD. And users that onboard new businesses are also rewarded with HBD. This also means that businesses around the world can now accept payment in a USD-pegged stable coin without any Know Your Customer (KYC) requirements or high fees. For countries with hyperinflation of their local currency, such as Venezuela, Distriator and HBD has become a lifeline.
