types of stablecoins

What Is a Stablecoin?

A stablecoin is a type of cryptocurrency designed to maintain a stable value by pegging its price to a fiat currency.

Stablecoins are digital tokens whose value is kept close to a fixed target, typically $1 USD. The main types include fiat-backed (supported by bank deposits, government bonds, etc.), crypto-collateralized (backed by on-chain assets with collateral value exceeding the supply), and algorithmic (using rules to adjust supply and demand to maintain price stability).

Pegging refers to the mechanism and agreement that "1 stablecoin ≈ 1 unit of the reference asset." To ensure this promise is credible, different types adopt various mechanisms such as redeemability, over-collateralization, buybacks, and burning.

Why Should You Understand Stablecoins?

Stablecoins function as the “cash” of the crypto world—nearly all trading, pricing, and settlement relies on them.

For newcomers, stablecoins are often the first step: exchanging fiat for USDT or USDC provides access to buying and selling other tokens. For professionals, stablecoins serve as essential financial management tools for hedging, position management, accounting, and moving funds across platforms.

Understanding the distinctions between types helps identify potential risks. Fiat-backed stablecoins depend on the issuer and banking system; crypto-collateralized ones rely on on-chain liquidation mechanisms; algorithmic stablecoins are more sensitive to market sentiment and model design. The type of stablecoin you choose directly affects transaction costs, fund security, and accessibility.

How Do Stablecoins Work?

Stablecoins use mechanisms like minting/redeeming, collateralization, or algorithmic adjustments to keep their price near the peg.

Fiat-backed stablecoins operate as follows: users deposit USD or another fiat currency with an issuer and receive an equivalent amount of stablecoins—this is called minting. Redeeming involves returning stablecoins to the issuer in exchange for fiat. As long as redemption channels remain open, arbitrage keeps the secondary market price close to $1. USDT and USDC are prominent examples, usually backed by cash and short-term government bonds. Issuers publish audit or attestation reports to enhance transparency.

Crypto-collateralized stablecoins use over-collateralization: e.g., deposit $100 worth of assets to borrow $70 in stablecoins, creating a buffer against collateral value drops. If collateral falls below a threshold, the system auto-liquidates positions to maintain the peg and solvency. DAI is a leading example, managed entirely by smart contracts for positions and liquidations.

Algorithmic stablecoins attempt to maintain stability via supply-demand adjustments—for example, expanding supply when prices exceed $1 and reducing it or encouraging burning when prices fall below $1. However, without robust collateral and real external demand, they can easily "depeg" (lose their target value) during market panics. Past project failures under extreme conditions highlight the need for sustainable, real-world support for these models.

Common Use Cases for Stablecoins in Crypto

Stablecoins are widely used in trading, payments, lending, and wealth management.

On exchanges, stablecoins serve as base units for pricing and settlement. For example, at Gate, major spot trading pairs like BTC/USDT or ETH/USDT involve first converting to USDT before trading other assets; perpetual contracts often use USDT as a settlement currency for easy profit/loss accounting.

For investment and fund management, stablecoins can be used to subscribe to wealth products or participate in liquidity mining. On Gate’s investment platform, users can allocate USDT or USDC into fixed or variable yield products for annualized returns; in liquidity pools like USDT/ETH, the stablecoin side faces less price volatility but still bears impermanent loss and strategy risk.

In DeFi lending protocols, stablecoins are popular both as collateral and loaned assets. For example, users may collateralize ETH to borrow USDC for cash out or leveraged strategies; or deposit stablecoins into lending pools to earn interest.

For cross-border payments and settlements, stablecoins act as “global digital dollars,” enabling transfers on-chain within minutes. This is ideal for B2B commerce or freelance payments, offering lower fees and faster processing than traditional channels.

How Can You Reduce Stablecoin Risks?

Risk mitigation involves choices around selection, diversification, and operational practices.

First, prioritize leading fiat-backed stablecoins with strong liquidity and transparent disclosures, such as USDT and USDC. Review issuer attestation reports, redemption policies, and compliance information.

Second, diversify your holdings across different stablecoins and platforms. Avoid concentrating all funds with one issuer or on a single platform—split assets between wallets and exchanges to reduce single-point failure risk.

Third, monitor “depegging” and on-chain liquidation risks. If prices deviate from $1, check causes and whether redemption channels remain open. For crypto-collateralized types, maintain healthy collateral ratios with ample buffer to avoid cascading liquidations.

Fourth, assess counterparty risk when investing. High yields often come with higher risk—understand whether returns come from market making fees, lending interest, or external subsidies. On Gate or in DeFi products, read product disclosures and risk warnings carefully.

Fifth, ensure compliance and address security. Back up private keys/seed phrases securely and enable two-factor authentication on exchanges. Stay informed about local regulatory requirements regarding stablecoin usage and reporting to avoid compliance risks.

Notable Stablecoin Trends and Data

Over the past year, stablecoin market capitalization and usage have continued to grow and remain concentrated among leading players. Aggregate data shows that in 2025, total market cap fluctuated between $180 billion and $220 billion; USDT represented about 70%–75%, while USDC held 20%–25% (data via CoinGecko and DefiLlama as of Q4 2025).

On-chain settlement volumes keep rising. Analytics firms estimate that total annual stablecoin transfers reached $8–12 trillion in 2025, primarily driven by cross-border settlements and exchange fund flows (Q4 2025; figures vary by source). The European Union’s MiCA framework is being implemented with stricter compliance requirements for issuance and circulation; exchanges and issuers are increasing transparency around reserves and risk segregation. Using government bonds and other “real world assets” as reserves or collateral is becoming more common, fueling discussions about compliance and transparency.

In terms of product structure, fiat-backed stablecoins remain dominant; crypto-collateralized types are smaller but stable; algorithmic models have become more cautious after early failures—now often integrating collateralization caps or real assets for stability.

How Do Stablecoins Differ from Central Bank Digital Currencies (CBDCs)?

Stablecoins and CBDCs differ in issuer, network architecture, and usage boundaries.

Stablecoins are issued by companies or protocols on public blockchains—anyone can hold or transfer them. CBDCs are issued by national central banks using permissioned networks or linked bank systems; they emphasize legal tender status and compliance controls.

Regarding fund security and privacy: stablecoin holders face issuer risk and smart contract risk but benefit from open interoperability. CBDCs carry sovereign credit backing with stronger compliance controls and traceability but may lack flexibility in cross-border use cases or open ecosystems.

In practice, stablecoins are deeply integrated into exchanges, DeFi platforms, and cross-border scenarios; CBDCs are primarily used for domestic retail payments, government subsidies, or interbank settlements. While future interoperability is possible via regulatory bridges, the two remain distinct in their roles.

Key Terms

• Collateral: Assets backing the value of a stablecoin—can be fiat currencies, crypto assets, or commodities.
• Minting & Burning: Mechanisms by which stablecoins are created (by locking collateral) or destroyed (to redeem collateral).
• On-chain Reserves: Publicly visible collateral reserves on the blockchain ensuring redeemability of stablecoins.
• Risk Parameters: System settings that maintain stability—such as collateralization ratios and liquidation thresholds.
• Decentralized Governance: Community-driven process where key parameters and system upgrades are determined via voting.

FAQ

What Are the Main Types of Stablecoins?

Stablecoins can be grouped into four categories based on their collateral: fiat-backed (e.g., USDC is 1:1 backed by USD), crypto-collateralized (e.g., DAI is over-collateralized with ETH), commodity-backed (e.g., gold-pegged stablecoins), and algorithmic (stability via supply adjustment mechanisms). Each has different levels of stability, decentralization, and risk—choose according to your risk appetite and use case.

How Do USDT, USDC, DAI Differ as Stablecoins?

These are among the most popular stablecoins. USDT is issued by Tether with fiat backing—offering high liquidity but greater centralization; USDC is also fiat-backed but more transparent—jointly managed by Coinbase and Circle; DAI is a decentralized option generated via over-collateralized crypto assets—fully managed by smart contracts. Beginners can start with USDC or USDT before exploring DAI’s decentralized features.

Are Algorithmic Stablecoins Reliable? Why Have Some Collapsed?

Algorithmic stablecoins rely entirely on supply adjustment mechanisms for price stability—viable in theory but highest risk in practice. When market confidence wanes, they can enter a death spiral: falling price → panic selling → further price drops. Several projects (such as UST in the Luna/Terra ecosystem) have failed due to this. Beginners should avoid algorithmic stablecoins unless they have strong risk awareness and expertise.

Which Type of Stablecoin Should I Use for Storing Funds?

Choose based on three criteria: safety (prioritize well-established fiat-backed coins like USDC or USDT), liquidity (ensure easy conversion to fiat or other assets), and use case (USDT is good for frequent trading; USDC suits long-term holding). Both are widely available on Gate with rich trading pairs—beginners should start here. Avoid concentrating all funds in one stablecoin; diversify where possible.

What Are the Advantages & Disadvantages of Stablecoins Compared to Other Cryptocurrencies?

Stablecoins offer price stability—ideal as a medium of exchange or store of value with much lower volatility than BTC/ETH. However, they lack upside potential and cannot participate in crypto asset growth. Stablecoins are best for preserving gains or preparing for market entry/trading—not long-term value appreciation. A balanced portfolio combines stablecoins with other crypto assets for optimal risk-return.

References & Further Reading

• https://ledgerjournal.org/ojs/ledger/article/view/326/294
• https://en.wikipedia.org/wiki/Stablecoin
• https://www.fireblocks.com/report/stablecoins-101
• https://www.bankofengland.co.uk/explainers/what-are-stablecoins-and-how-do-they-work
• https://www.jpmorgan.com/insights/global-research/currencies/stablecoins
• https://www.chainalysis.com/blog/stablecoins-most-popular-asset/