CZ's seven views on the LUNA and UST crashes

Original title: "CZ FAQ Series Eight: CZ's Views on the LUNA and UST Crash Events"

Original Source: Binance Official Website

Original Author: CZ

In the past week, the collapse of UST and LUNA has affected the entire currency circle. In fact, every interview I've been in has revolved around this topic to some extent. To clarify my thinking on this matter, here I put together my answers, including my views, lessons learned, spillover effects, systemic risk, resilience, regulations, and more.

The UST and LUNA incident was a sad one that affected many people. At Binance, our top priority is always to protect affected users. Sadly, there is currently no flawless solution. The community discussed many proposals. Unfortunately, each has its drawbacks.

I have publicly expressed my opinion on this matter on social networking sites, Binance Support the Terra project team to prioritize compensation to retail traders.

There are many lessons to learn here

Let's Look at the design flaws. Theoretically, when pegging to one asset using different assets as collateral, there is always the possibility of undercollateralization or unpegging. Even with a 10x overcollateralization, the collateralized assets can collapse by more than 10x. In this world, nothing is 100% stable.

The dumbest design flaw is thinking that minting more assets will increase their total value (market cap). Printing money does not create value; it only dilutes assets in the hands of existing holders. Minting LUNA exponentially makes the problem worse. Whoever designed this should check their heads.

Another fundamental flaw is overly aggressive incentives. Specifically, Anchor drives growth with a flat 20% APY. In terms of fundamentals. An ecosystem that does use incentives to attract users to join. But in the end, there is still a need to generate "revenue" to sustain it, i.e. more income than expenditure. Otherwise, it will run out of capital and collapse.

However, in this case, the concept of "revenue" is confused, because the project team may put their own Token Sales or appreciation are included in the value of LUNA as "revenue". This approach is flawed. People come in because of incentives, and yes, LUNA's valuation went up. And more rewards are given to more people. But you haven't created any value yet.

High APY does not necessarily mean a healthy project

Now it's clear that the whole thing is based on a self-perpetuating, superficial concept. While Terra has indeed built an ecosystem and contains some real use cases, the growth rate of the ecosystem has not matched the speed of the incentives used to attract new users. Growth is "hollow". Eventually, the bubble burst.

Key lesson: Don't just go for high APY. Look at the fundamentals.

What went wrong when trying to restore the hook

The Terra team has been slow to use their reserves to restore the peg. If they had tapped their reserves when the decoupling rate was 5%, the whole thing could have been avoided. They attempted a $3 billion rescue after the token value had plummeted 99% (or $80 billion). Of course, it didn't work.

In this case, it doesn't look like a scam. It's just (sorry for lack of a more polite word) stupid. Lesson 2: Operationally stay alert to the current situation at any time.

The Terra team also communicates very slowly and infrequently with the community, which further erodes users' trust in them. Lesson 3: Always communicate frequently with users, especially in times of crisis.

Finally, I have mixed feelings about the restoration plan offered by the Terra team. But as I said, regardless of my personal feelings, we're here to support the community's decisions.

Will there be spillover effects

Yes of course. The entire crypto ecosystem has been shaken. USDT once decoupled from 0.96, but quickly recovered. Many crypto projects have been negatively impacted in multiple ways. In fact, most cryptocurrencies fell in price. Even Bitcoin is down about 20%.

Many people are transferring funds out of high APY projects. Come to think of it, this might not be such a bad thing in the long run. A few shocks are good for building a solid foundation. Some solid projects actually "benefit" in some way. The BUSD peg hit 1.1 and has seen inflows over the past few weeks.

Resilience is in the crypto ecosystem

Honestly , I am delighted with the resilience shown by the crypto industry. When it failed, the UST and LUNA merger was bigger than Lehman Brothers. Bitcoin only fell from $40,000 to $30,000, a drop of about 20%. Overall, most other projects are standing still.

For people who are used to centralized financial systems, one of the things that can be hard to understand about decentralized systems is that they elasticity. In a centralized system, all banks operate similarly (regulations require them to do so). They all draw reserves from the central bank, and when one bank fails, there are spillover effects on all other banks. All Stablecoins work differently in a decentralized system. There is no common standard or reserve. However, when one fails, the other items are less affected.

Even without bailouts, all other major Stablecoins And most other crypto projects have withstood the onslaught.

In view of this incident, regulators will strengthen Stablecoins

I don't know what every regulator is going to think or do. So far, I've had encouraging responses from the few regulators I keep in regular contact with. Of course, this may not be objective, because most of the people I keep in close contact with are very friendly towards cryptocurrencies.

I do believe we need more on how to regulate Stablecoins guidelines. But one regulator put it well: "Of course we need to pay more attention to algorithms. Stablecoin, but we can't let one failing company kill the entire industry. We should keep moving forward. "

How can we avoid such systemic risks in the future

< p>This is a trillion-dollar question. I don't think there is an absolute answer here. Nothing is without risk. The fiat currencies we use today are also at risk. The oldest currency still in use today, the British Pound, is just under 330 years old. All previous currencies are gone. We can ban or shut down everything, but that also stifles innovation. We are not going to close all the banks to prevent bank failures and mismanagement.

Ultimately, there are several things that can be done to reduce systemic risk.

1. As an investor, diversify your investment portfolio. Don’t put all your savings on one token just because it offers a high APY (Annual Yield).

2. In fact, stay away from super high APY investments. Those hardly last long. High APY = high risk.

3. Most importantly, educate yourself. Learn financial literacy every day, strengthen financial literacy skills, visit Binance Academy and refer to various information provided there.

As an industry, we are resilient. While examples like LUNA and UST are sad, we are committed to building a sustainable and rich blockchain ecosystem for all, and we will continue to play a key role.

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