With cryptocurrencies trading lower today in the wake of the collapse of TerraUSD and the most volatile week for Bitcoin trading in at least two years, the question that has been popping up is why did the current crypto crash happen?
It is important to note that the wipeout of algorithmic stablecoin TerraUSD and its sister token Luna knocked more than $270 billion off the crypto sector’s total trillion-dollar value. The weekly net change in Bitcoin volatility was the highest in the two years, according to reports.
Luna was by no means the only victim in a week where cryptocurrencies were down 30%. While some have recovered to a certain extent, but this still represents an aggregate seven-day loss of over US$500 million (£410 million), prompting existential questions about the future of the market.
What triggered the current cryptocurrency crash:
Interestingly, the current crash was possibly triggered by a financial “attack” on the stablecoin Terra (UST), which is supposed to match the US dollar but is presently trading at just 18 cents and its partner coin, Luna, subsequently collapsed.
Such an attack is extremely complex, and involves placing multiple trades in the crypto market in an attempt to trigger certain effects – which can provide the “attacker” with significant gains.
In this case these trades caused Terra to fall, which in turn brought its partner coin Luna down too. Once this was noticed, it caused panic, which in turn sparked market withdrawals, which then caused further panic. Some (but not all) stablecoins rely to a large extent on perception and confidence – and once this is shaken, big falls can come into effect, according to news agency PTI report.
Additionally, the recent major falls in cryptocurrencies have called into question if stablecoins are steady. This is relevant because they are designed to have practically zero volatility by maintaining a “peg” to some other underlying asset.
The effects seen this week spilt over in to the whole crypto space. Even the leading stablecoin Tether lost its peg, down to 95 cents on the dollar, perhaps demonstrating the need for regulation.
Where is the crypto safe space?
It is important to note at this point that how investors respond will be key to the future of cryptocurrencies. With panic and despair due to comparisons of this crash to a traditional run on the banks, investors may be doing more harm than good. A more accurate comparison is with stock market crashes where investors worry that the stocks and shares they hold may soon be worthless. And so far, reaction to this crypto crash suggests that a large section of crypto holders view their investments in a similar way.
With many investing in cryptocurrencies because they believed it would make them richer. This belief has no doubt been shaken. But another motivation for investing in cryptocurrencies may be a belief in their transformational nature, the idea that cryptocurrencies will eventually replace traditional forms of financial exchange.
For many investors, however, any increase in the value of a cryptocurrency is a demonstration of the increasing power of cryptocurrency over traditional money. But likewise, a significant decline in the value of crypto is not simply a monetary loss – it is an ideological one.
(With inputs from agencies)