May 14, 2022 | Read Online

USTanked

The fall of one of crypto's most promising ecosystems

There are two reasons this post is coming to you a little late.

1) I was in Dubrovnik enjoying places like this:

2) While I was doing that... the Crypto markets went crazy. And it was all driven by the crash of Terra Luna. I wanted to wait until Do Kwon (the founder of Terra Luna) released a statement. He finally did yesterday evening.

Let's start with the end result

The Luna token, which is the token that is central to the Terra Luna ecosystem had previously reached highs of $115. Before the start of May, the price of one Luna token was sitting at just below $100. At the time of writing, the price of one Luna token is $0.0006. Famous crypto commentators, YouTubers, other celebrities and believers in the Terra Luna project have lost millions in this crash.

Terra Luna and UST

We've covered both the Terra network and UST before, but as a quick recap:

UST (full name Terra USD) is an algorithmic stablecoin. 1 UST should always have a value of $1, and algorithms are used to keep this peg in place. Luna tokens are governance and staking tokens which are the centre of the Terra Luna ecosystem. The idea was that I should always be able to exchange 1 UST for exactly $1 worth of Luna tokens.

So if the price of UST rose to above $1, Terra's algorithm will burn (meaning destroy) Luna tokens to create more UST. This will mean the supply of Luna tokens has decreased, and economics 101 tells us that when supply goes down, price rises. And on the other side, the supply of UST has increased, which means the price will go down, eventually back to the level of the peg, so 1 UST will be worth $1 of Luna again. If the price of UST falls too low, the opposite mechanism kicks into effect, and UST is burned to create Luna tokens.

That was the idea. But this week this peg came undone. The price of UST fell below $1 and the system could not get it back up to the $1 peg. It is currently sitting at around $0.18.

The Attack on UST

There is a rumour/conspiracy theory going around that the attackers were Blackrock and Citadel. That, we can't be sure of. But here is how the attack unfolded:

The attacker bought up a tonne of UST and started dumping it. This caused other people to panic and sell their UST, which caused the price of UST to go a little below $1.
The Luna Foundation began selling other cryptocurrencies like ETH and BTC to buy UST and bring the price back up to $1.
The attacker may have anticipated this and shorted BTC and ETH (shorting is when you bet on the price to go down). They knew the Luna foundation and other backers would sell a tonne of BTC and ETH, and this selling may cause the price to fall. They made money by betting on this, as well as betting on the value of Luna falling.
This is when mass panic hit.
A key part of this was Anchor Protocol. This was essentially a bank where users stored UST and made a 20% yearly return on their savings. But as the price of UST started to fall, savers who had their money in Anchor started to panic. 50% of all funds in Anchor Savings were taken out, which led to further pressure on the price of UST.

The Fall of Luna

As we said before, the Luna token is used to try and keep UST pegged to $1. So when the value of UST started falling. Luna tokens had to be printed at an incredible rate, and UST tokens had to be burned. Printing all these Luna tokens increased the supply to a ridiculous amount. And of course, when the supply of a token increases hugely, the price falls. The token is worth less than before because there are so many more out there. In early May there were 350 million Luna tokens in circulation. Now, there are 6.5 TRILLION Luna tokens. That is why the price has crashed from around $100 to $0.0006

The Revival Plan

On Friday 13th May, Do Kwon outlined a revival plan for the Terra ecosystem. In it, he accepted that people had lost too much trust in UST and it couldn't be used as a cornerstone of the Terra ecosystem anymore. Instead, he wants to preserve as much as he can of the ecosystem and the community around Terra.

Validators will reset the network to 1 billion tokens. It will be distributed as follows:

400M (40%) to Luna holders before the depegging event (last $1 tick before the depeg on Binance should be reasonable). The new chain should be community owned. Preserving decent ownership of the network in its strongest believers and builders is important.
400M (40%) to UST holders pro-rata at the time of the new network upgrade. UST holders need to be made whole as much as possible
100M (10%) to Luna holders at the final moment of the chain halt – last minute marginal luna buyers should be compensated for their role in attempting to provide stability for the network
100M (10%) to the Community Pool to fund future development.

Although the stablecoin was the cornerstone of the whole ecosystem, there is a lot that has been built on top of Terra Luna. It'll be really interesting, and maybe even important to the future of web3, to see what can be salvaged from the wreckage.

Ripple Effects

Terra Luna was one of the most promising projects in crypto, and its sudden downfall triggered huge panic across the market. Every major cryptocurrency including BTC and ETH is down. Other stablecoins like Tether (USDT) are struggling to maintain their pegs (but holding up much better than UST, for now). As well as the more regular programming about NFTs, next week we'll be discussing if this is a good time to buy in ...

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Market Mix - USTanked

USTanked

The fall of one of crypto's most promising ecosystems

Let's start with the end result

Terra Luna and UST

The Attack on UST

The Fall of Luna

The Revival Plan

Ripple Effects

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