Soft peg is a pegging method that allows the value of a cryptocurrency to fluctuate within a certain range. This refers to the fiat currency or commodity that is used as a reference.
Cryptocurrency is a digital asset that uses blockchain technology to operate transactions in a decentralized, transparent and secure manner. However, cryptocurrencies also have their own challenges, namely high price volatility.
Price volatility is the change in the value of a cryptocurrency in a short period of time, which can rise or fall drastically. Price volatility can be profitable for traders who want to profit from price movements.
However, volatility can also be detrimental for users who want to use cryptocurrency as a means of everyday payment.
One way to overcome price volatility is to use the pegging method. This method will tie the value of cryptocurrencies to fiat currencies or other commodities.
By pegging, the value of cryptocurrency can be more stable and predictable. There are several types of pegging that can be used, namely hard pegs, soft pegs, and flexible pegs. So, this article will discuss more about soft pegs, their meaning, how they work, and examples of soft pegs.
What's thatSoft Peg?
Soft peg is a pegging method that allows the value of cryptocurrency to fluctuate within a certain range against the fiat currency or commodity used as a reference. With a soft peg, the value of the cryptocurrency does not remain the same as the reference value, but can rise or fall slightly, according to market mechanisms.
Soft pegs differ from hard pegs, which tie the value of a cryptocurrency strictly to a reference value, with no room for fluctuation. Soft pegs are also different from flexible pegs, which tie the value of cryptocurrency to a reference value, but can adjust the fluctuation range according to market conditions.
Soft pegs can be used to maintain the stability of cryptocurrency values, without eliminating market flexibility and dynamics. Soft pegs can also provide space for monetary authorities, such as central banks or other institutions, to intervene in the market if turmoil or crisis occurs. Soft pegs are usually used by countries that want to control inflation and maintain export competitiveness, without having to sacrifice monetary policy independence.
How Does Soft Peg Work?
Soft peg can be illustrated with the analogy of a shop. For example, a shop sells goods at prices determined by the rupiah exchange rate against the dollar.
Then, the shop decided to use the soft peg method. This method will tie the price of goods to the rupiah exchange rate against the dollar, but with a fluctuation range of 2%.
So, the prices of goods can change according to movements in the rupiah exchange rate against the dollar, as long as they do not exceed or are less than 2%. If the rupiah exchange rate against the dollar rises or falls by more than 2%, the store will adjust the prices of goods to remain within the fluctuation range.
In this case, the shop is the cryptocurrency, the goods are the cryptocurrency units, and the rupiah exchange rate against the dollar is the reference value. Cryptocurrencies that use the soft peg method will follow the reference value, but with a specified fluctuation range.
The range of fluctuations can change, depending on monetary authority policies or market mechanisms. If the reference value rises or falls more than the fluctuation range, the cryptocurrency will adjust its value to remain within the fluctuation range.
What are examples of soft pegs?
Soft pegs have been used by several cryptocurrencies. Especially for the purpose of becoming a stablecoin, namely a cryptocurrency that has a stable value and can be used as a medium of exchange, unit of account and store of value.
Here are some examples of cryptocurrencies that use the soft peg method:
Tether (USDT)
USDT represents mor cryptocurrency that ties its value to the US dollar with a fluctuation range of 2%. Tether is one of the most popular and widely used stablecoins in the cryptocurrency market. Tether is backed by US dollar reserves held in trusted banks.
Dai (DAI)
Cryptocurrency it ties its value to the US dollar, with a fluctuation range of 1%. Dai is a stablecoin created by MakerDAO, a protocol that runs on the Ethereum network.
Dai is backed by the collateral of other crypto assets, such as ether (ETH) or basic attention token (BAT).
Binance USD (BUSD)
BUSD ties its value to the US dollar, with a fluctuation range of 1%. This cryptocurrency is a stablecoin created by Binance, one of the largest cryptocurrency exchanges in the world. BUSD is backed by US dollar reserves that are regularly audited by leading accounting firms.
That's the article about soft pegs and their impact on cryptocurrencies from Bittime. Hopefully this article is useful and can broaden your knowledge about cryptocurrencies, OK?
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DISCLAIMER: This article is informational in nature and is not an offer or invitation to sell or buy any crypto assets. Trading crypto assets is a high-risk activity. Crypto asset prices are volatile, where prices can change significantly from time to time and Bittime is not responsible for changes in fluctuations in crypto asset exchange rates.
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