Ethereum Co-Founder Vitalik Buterin Calls Attention to Decentralized Stablecoins

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Vitalik Buterin has said that the crypto sector still has work to do to address design issues plaguing decentralized stablecoins. According to the Ethereum co-founder, the current design for these stablecoins could weaken considerably over time.

Stablecoins are an interesting entry point into the crypto sector because crypto newbies do not have to worry about value fluctuations. They are easily bought directly or via a trusted p2p crypto exchange that expands a user’s interaction with these assets through many encouraging features. While these assets are important, Buterin draws some attention to the decentralized ones.

Interestingly, Buterin’s point covered what he felt were issues with these assets in general, without exactly promoting or castigating any one decentralized stablecoin in particular. In a long-form X post, he explored three major things he considers wrong with the design.

​Issues with Decentralized Stablecoins

The first problem is that the crypto sector needs to find another peg for these stablecoins, outside the US dollar. Many stablecoin issuers are USD-based, with some holding the actual dollars each asset is tied to. On the other hand, decentralized stablecoins use algorithmic methods and code to maintain the asset’s stability and price. However, Buterin believes centering stablecoins on the dollar is not a good idea.

According to him, there are short-term perks to decentralized stablecoins using the USD as a base. However, the health and basic framework of these assets should transcend any one country or fiat currency.

Another issue is the risk with oracles, which are responsible for providing blockchains with asset prices and other data. Buterin highlights the centralization risk with these tools, especially since they are required because blockchains don’t directly source these real-world data themselves. Unfortunately, malicious entities with enough capital can manipulate these oracles. Explaining the risk here, Buterin says the issue with preparing for this problem is that you have to ensure that the cost of manipulating the oracle is higher than the token’s total market cap.

Unfortunately, this might require the protocol to extract value from users via fees or some form of governance control, which is bad for the users. He also explained that this problem is one of the reasons why he is against “financialized governance” and supports DAOs (decentralized autonomous organizations).

The third issue is staking yields. Many people stake tokens to support the operations and security endeavours of stablecoin operations. Unfortunately, stablecoins backed by staked tokens eventually lose their appeal because holders eventually begin to accept smaller returns.

Potential Solutions

Interestingly, he proposed three paths to solving the issue. One is to lower the staking yield to what he describes as a hobbyist level, at 0.2%. Another is to launch a new staking type with high yields and lower slashing risk. Slashing risk is the risk that a staker loses a portion of their tokens if the validator they are using to stake violates network rules. This could be by going offline too often, double-signing blocks, or other malicious behaviour. While it's the validator’s offence, stakers may also suffer consequences.

The third path is simply to pass some of these risks to the stablecoin holder more directly. The Ethereum co-founder notes that these are suggestions and not proposals for solving the problem.

Buterin also believes that a stablecoin’s reliance on fixed collateral may not always work, especially during bear periods when the market crashes. In such periods, these systems must be able to undergo some kind of rebalancing such that value is not unreasonably lost.

Stablecoin Application

The conversation around stablecoins is ongoing as several stablecoins emerge, with some slated for institutional use. For instance, Ripple’s RLUSD is already being touted as a regulated stablecoin designed to attract institutions through its cross-chain availability and bank-grade oversight. According to the interoperability protocol, Wormhole, the asset’s support from the New York Department of Financial Services (NYDFS) and conditional approval from the Office of the Comptroller of the Currency (OCC) are helping to achieve impressive stablecoin compliance.