When the fluid music stops, everything becomes complicated. Fourteen years ago, Madoff, a seasoned financial veteran, revealed his true colors in the 2008 financial crisis and was imprisoned because of the collapse of his 20-year-old Ponzi scheme. Now, the time when the water is big and the fish big is over, and the tightening of liquidity has also made the algorithmic stablecoins carefully constructed in the encryption market undergo a huge stress test, and UST was completely defeated.

In the market capitalization ranking of cryptocurrencies, LUNA and UST in the Terra ecosystem were both in the top ten at the same time. However, within three days from May 9th to May 11th, due to the de-anchor of UST, the market value of LUNA and UST 30 billion US dollars directly evaporated, and indirectly brought down the entire cryptocurrency market.

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Review of Terra's rescue strategy

First review the unanchoring event and LFG's rescue strategy.

1. From the early morning of May 8th to the evening of May 8th, Terra removed the liquidity in Curve to prepare for the 4pool including UST, FRAX, USDT, and USDC. At this time, 84 million UST was poured into Curve. UST broke away from 1 dollar twice in a small range, and spent 70,000 ETH through the address starting with "0x6b67" (50,000 was used to convert to USDT and buy UST, and the other 20,000 ETH was sent to Binance) and "0x5996" With the efforts of the first two addresses (accumulating 580 million UST), UST recovered $1.

2. From the evening of May 9th to May 10th, UST saw a huge amount of transactions at a place slightly below 1 dollar. Binance also launched a "UST defense war", but in the end the war failed, and UST fell to a minimum of 0.6 around the dollar. Some have already asserted that Terra is headed for failure. Binance suspended the deposit and withdrawal of UST, and the operations on the Terra chain were stuck, making it difficult to burn UST on the chain to redeem LUNA.

3. On the morning of May 11, The Block reported that LFG was seeking to raise more than US$1 billion in funds from institutions to support UST. Jump Trading, Celsius, and Jane Street had already committed to the financing, and institutions purchased LUNA at 50% of the price. Locked for one year, then released linearly on a monthly basis. Then came the news of financing failure, because LUNA fell too fast, the discounted price given by LFG was meaningless. After that, LUNA and UST were greeted with a further decline. LUNA moved towards US$1 before UST. Before that, the highest price of LUNA exceeded US$100.

4. On the afternoon of May 11th, Terra Research announced a proposal to increase the minting capacity of UST (the theoretical upper limit of minting within a specific slippage within a day, and the competition between traders and arbitrageurs may cause the actual destruction of UST to be higher than this value) from $293 million to $1.2 billion to accelerate UST deflation. The follow-up plan tends to sacrifice LUNA to save UST, and LUNA accelerates its decline.

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reflection on failure

The root cause of the failure of UST and LUNA may have been foreshadowed from the moment this set of mechanisms was born, and the recent rapid development of Terra has accelerated this process. In the case of only 18 billion in UST circulation, 14 billion of which are stored in Anchor, once a large amount of funds are withdrawn from Anchor, it will cause a run.

If the process of Terra retrieving liquidity and Curve4pool deployment is continuous, there is a high probability that this tragedy will not happen. The Frax+3Crv pool has a liquidity of more than 2 billion US dollars. In the case of CRV incentive transfer, the cooperation between Frax and UST may retain most of the liquidity of both parties, and the sell-off of 85 million US dollars is not a concern.

If it is said that there is still a chance to save when the anchor first appeared, but the official's overconfident operation caused the opportunity to be missed.

First of all, when UST broke anchor slightly, Do Kwon announced a high-profile "rescue" and wasted a lot of money, causing the "bullets" to be fired ahead of time.

UST is further unanchored, and LFG has no real progress and can only consider financing. In the financing, LFG’s bargaining chip is LUNA, which requires LUNA to maintain a high price. In the case of delays in exchange deposits and withdrawals and on-chain operation freezes, the arbitrage process of destroying UST and casting LUNA was not smooth, which prevented the further decline in the price of LUNA and created conditions for financing, but these are only temporary, and the financing will eventually fail. .

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Status of LUNA and UST

According to the Terra Analytics data provided by Smart Stake, before May 8, the total amount of LUNA decreased for a long time, while the total amount of UST continued to increase. At that time, users were more willing to burn LUNA to mint new UST.

However, the situation has changed since then. As of 6:00 pm on May 12, during the period from May 8 to May 12, the total amount of LUNA increased by 925,000, 2.775 million, 49.239 million, 1.82 billion, and 5.39 billion respectively.

At the same time, the total amount of UST decreased by 59.234 million, 135 million, 1.21 billion, 4.14 billion, and 960 million respectively.

As time went on, the price of LUNA gradually decreased, and Terra's actions seemed to be getting weaker and weaker. Taking May 12th as an example, as of 6:00 p.m., 5.39 billion LUNAs have been issued, which is 5.6 times that of the previous day; but only 960 million LUNAs have been destroyed, a decrease of 76.8% from the previous day. The price of UST dropped to around $0.41, while the price of LUNA dropped to $0.026. At this time, the supply of UST is 12.27 billion, and the total supply of LUNA is 7.98 billion.

The market value of LUNA is gradually approaching zero, while the supply of UST is still high, and the reserves are almost completely exhausted.

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How to save yourself next step?

Now UST and LUNA are facing a dilemma. If you choose to save UST, you need to reduce the supply of UST, which means increasing a large amount of additional LUNA supply by burning UST, which may lead to zero LUNA. If the price of LUNA falls rapidly and the market value falls, it will reduce people's confidence in UST.

If you choose to save LUNA, it means you have to give up UST, so LUNA also loses the meaning of existence. However, LUNA has undergone a large number of additional issuances, and it is impossible to return to the original price.

Under such circumstances, the chances of saving UST and LUNA are very slim. But Do Kwon still did not give up, and the community also gave their own ideas about saving UST/LUNA.

For example, Larry Cermak, vice president of research at The Block, believes that the current plan to allow UST holders to withdraw from liquidity issuance of LUNA has an unlimited amount of bad debts, and the decline in LUNA will lead to liquidity drying up. We should temporarily abandon UST, switch to USDT/USDC, focus on Layer 1 ecology, and repay UST bad debts later. There has been a lot of ecological construction on the Terra chain, and using LUNA as the native token of the public chain is a solution, but Larry Cermak also admits that the chance of success of this solution may be close to zero.

The founder Do Kwon's current plan is also biased towards UST. The development of Terra is inseparable from the offline use of the algorithmic stablecoin by Korean people. Terra also advertises as an algorithmic stablecoin project. I personally agree that UST is more meaningful than LUNA. Referring to stablecoin projects such as Maker DAO, when the agreement becomes insolvent, it is also necessary to issue additional governance tokens to maintain the value of the stablecoin. Here are some ideas from individuals to maintain UST.

1. Further encourage users to burn UST to issue LUNA. With the UST circulation still high, it is too difficult to recover. It is necessary to reduce the UST circulation and reduce the debt scale. It can reduce the exchange fee from UST to LUNA, increase the exchange fee from LUNA to UST, and avoid arbitrage activities from LUNA to UST.

2. Give a certain amount of time to continue to allow users to withdraw at a discount. In fact, after the UST thunderstorm, because of the price of the oracle machine and various fees, destroying 1 UST will not get 1 dollar of LUNA. Continue this process, let users exit at a discount, save bullets, and keep users who believe in the agreement.

3. To reformulate the financing strategy, consider launching a proposal to exchange a portion of the income distribution rights of the Terra agreement for financial support. According to Larry Cermak's idea, Terra's Layer 1 is also valuable. The reason for the failure of the previous financing may be that the institution cannot confirm how the price and quantity of LUNA will change. The more additional LUNAs are issued, the lower the value will be. However, the replacement of the equity of income distribution is equivalent to locking up the percentage of Terra’s equity, reducing the institutional Risk of Participation.

4. If there is financial support, in the case of limited debt scale, users can be allowed to exchange part of the value at a discount, for example, allowing users to exchange 1 UST for 0.6 US dollars, and then increase the exchange ratio. This approach has also been practiced in Fei Protocol.

5. In line with the good news, buy LUNA, so that the market value of LUNA is close to that of UST again.

On the whole, the possibility of various plans to save UST and LUNA is low, and the disconnect between UST and LUNA will also affect investors' confidence. Even if UST is restored to $1 by chance this time, the design of Terra needs to be changed as soon as possible, such as increasing reserves and limiting the size of UST.

The failure of UST does not mean the failure of the encryption market and the failure of algorithmic stablecoins. Any innovation has a price before it matures and lands, although the price is too painful. Today's UST is undoubtedly a wake-up call for all encryption entrepreneurs. While innovating, remember to be in awe of risks and consider extreme environments and black swans, because you never know what will come next.