The encyclopedia · Trading & Investing · Financial decision · 2022
Terra's 'stablecoin' UST lost its peg — and $40B in crypto value vanished in a week
In May 2022, Terra's UST stablecoin lost its $1 peg, triggering a death spiral that wiped out $40B in crypto value. The LUNA token fell 99.99%.
Terraform Labs · 2022-05
What happened
Terraform Labs, founded by Do Kwon, created the Terra blockchain and its 'stablecoin' UST (TerraUSD), which was designed to maintain a $1 peg through an algorithmic mechanism: UST could be minted and burned in relation to its sister token LUNA, creating an arbitrage incentive that was supposed to keep UST at $1.
In May 2022, UST lost its $1 peg. The algorithmic mechanism, which depended on market confidence and arbitrage, entered a death spiral: as UST fell below $1, holders rushed to convert UST to LUNA, flooding the market with LUNA and crashing its price. The LUNA token fell 99.99% in a week.
The collapse wiped out approximately $40 billion in crypto market value and triggered contagion across the crypto ecosystem, contributing to the bankruptcies of Three Arrows Capital, Celsius Network and Voyager Digital. Do Kwon was arrested in Montenegro in 2023. The case illustrated the fragility of algorithmic stablecoins and the danger of building a financial system on a mechanism that depends on confidence.
Why it happened
- UST's algorithmic peg depended on market confidence and arbitrage incentives.
- When UST lost its peg, the mechanism entered a death spiral.
- LUNA fell 99.99% in a week; $40B in crypto value was wiped out.
- The collapse triggered contagion across the crypto ecosystem.
The lesson
An algorithmic stablecoin is a confidence mechanism, not a currency. UST's peg depended on belief; when belief broke, the algorithm amplified the collapse. Confidence is a house of cards.
Aftermath
Do Kwon was arrested in Montenegro in 2023. The Terra ecosystem was relaunched as Terra 2.0 with limited adoption. The collapse prompted regulatory scrutiny of stablecoins and algorithmic financial mechanisms worldwide.
Sources
- Terra (blockchain) — Wikipedia (UST collapse)
- SEC Charges Terraform and CEO Do Kwon with Defrauding Investors (Feb 2023)
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