As the market capitalization of USDT and USDC keeps rising, recent asset freezes underline their inherent risks. Will these incidents cause more investors to turn to decentralized stablecoins, such as DAI and the stakable USDN?
Since the start of June, Tether’s market cap has grown by 13%, and that of USDC Coin has finally crossed the $1bn mark. The Covid-19 pandemic has given a tremendous boost to the stablecoin markets as investors search for ways to protect their capital away from the stock market.
Apart from a hedge against volatility, dollar-pegged cryptocurrencies offer something that no bank or money market account сan provide right now: high yields. The APR reaches 10% when lending USDC, 8-15% when staking USDN, and 5.5% on USDT lending accounts.
USDT and USDC have a censorship problem
While centralized assets like Tether and USD Coin yield more reliable gains than stocks or commodities, they are subject to very specific risks.
One of these is censorship: the Terms of Service of both USDT and UDSC state that the company has the right to block an address and freeze all the coins in it if it violates the policies. Moreover, as stated in the USDC customer agreement, a user who sends or receives crypto to or from such a blacklisted address can find their own account frozen, too.
This was borne out very clearly on July 8, when Circle, the consortium behind USDC, confirmed that it had frozen an account containing $100,000 in USDC. The company said that it had called the blacklist function on the address upon a request from the law enforcement.
Just a few days later Dune Analytics revealed that Tether has so far banned 40 accounts. The addresses blacklisted in 2020 alone contain over $5 million in USDT. Dune Analytics even maintains a dashboard listing all the currently banned USDT addresses (40 at the time of writing). Once again, the blacklisting had apparently followed requests from the authorities.
Decentralized Stablecoins: A Privacy-Focused Alternative
It’s quite possible that the law enforcement agencies had grounds to ask Circle and Tether to freeze the assets. For example, the blacklisted addresses could have been hacked. In fact, Tether and Circle repeatedly stress that the purpose of blocking accounts is to protect their owners.
Nevertheless, these events come as yet another warning sign that USDT and USDC, while operating on-chain, are far from decentralized. A central authority exercises full control over both the addresses and the collateral.
The most obvious alternatives are decentralized stablecoins, such as DAI and USDN. These have also experienced impressive gains lately: the market capitalization of Neutrino USD has grown by 34% since June 1 and that of DAI by 75%.
The decentralized nature of USDN and DAI makes it impossible for any central authority to freeze and address. Moreover, since they are collateralized with other digital assets, users are able to verify that the collateral is indeed locked up in the smart contract. This is a solution to another major problem associated with centralized stablecoins: non-transparency of the collateral.
In terms of gains, decentralized stablecoins are on par with the more famous centralized assets. As we noted before, it’s possible to earn around 15% staking Neutrino USD (USDN). In fact, it’s the first stablecoin to support staking on the algorithmic level.
Things are more complex with DAI, whose interest rates constantly fluctuate. For instance, for a short time in July 2020, it was possible to lend DAI at over 20%, though the average maximum rate is between 6% and 8%, depending on the lending platform.
Centralized stablecoins will likely retain their dominant position in terms of market capitalization in the coming months. At the same time, their non-transparent treatment of customer addresses and collateral funds is becoming a grave concern. This will scare off many investors looking for more private, censorship-resistant opportunities. These users will increasingly turn to algorithmic stablecoins like USDN and DAI, though we’ll probably have to wait until 2021 for decentralized stablecoins to emerge as a major trend in crypto.