Terra Luna is a blockchain protocol that has the key value proposition of bringing smart contracts to stablecoins. The name itself contains two tokens, Terra and Luna. Luna is a token that is subject to market volatility and whose price goes up and down like any regular crypto asset as per market demand and supply. Whereas, terra token represents a suit of stablecoins like TerraUSD, TerraKRW, TerraGBP, TerraINR, etc. TerraUSD is one of the major stablecoin as of the time of this writing after the popular ones like USDT, USDC, and BUSD.
Terra Ecosystem consists of a suite of offerings and products like –
- Chai – South Korean e-wallet app
- Anchor – Savings protocol offering approx 19% interest on deposits
- Mirror – A synthetic stock market dapp that mirrors stocks in the real stock market, etc.
Terra (UST) is the stablecoin whereas Luna is a governance and reserve token of the protocol. The mechanism between these two tokens ensures that Terra always maintains its peg ($1 in case of UST)
- The protocol market maker ensures to keep the price of UST stable using various burning and minting actions as per the supply and demand of the tokens.
- When there is a high demand for Terra Stablecoin (UST), then the price of UST tends to go higher, and hence market maker offers the arbitrage opportunity to mint more UST tokens by burning 1:1 Luna token as one can sell newly minted UST tokens at a higher price. This also increases the supply of UST. Due to this increase in supply due to new minting, the price of Terra token returns back to its original peg. This process is also called expansion and it continues until the UST token reaches its peg of $1.
- The above mechanism will occur for all the other pegged stablecoin too like TerraKWR, TerraGBP, TerraINR, etc. as well
- In case demand for UST falls, there is a need for UST price to return back to its original peg. Now, the protocol market maker will provide an opportunity to buy cheap UST tokens from the market and then swap it 1:1 for Luna tokens by burning UST tokens. This process is called contraction and it continues until the UST price rises back to its peg of $1.
- The price of terra stablecoins can correctly be equal to the peg only when the price feed of the peg (USD in case of UST) is received correctly. This is the job of Terra validators whose job is to provide the correct price. If they perform in the right way, they are rewarded, or else these validators are penalized.
- The treasury also receives Luna tokens from seigniorage. The reserve tokens in treasury can be used as a fiscal stimulus to grow the ecosystem and incentivize participants to build and contribute positively to the protocol. The treasury pool itself is governed and controlled by a voting mechanism.
Overall the protocol growth will happen as more users and dapps demand Terra stablecoins and build interesting use cases around it driving up the demand.
Author – Nandit Mehra
Twitter – https://twitter.com/nanditmehra