The Promise of LUNA and UST

In the fast-paced world of cryptocurrency, TerraUSD (UST) and its sister coin, LUNA, were once hailed as revolutionary. Developed by Terraform Labs, led by Do Kwon and Shin Hyun-seong, UST was an algorithmic stablecoin designed to maintain a 1:1 peg with the US dollar. Unlike traditional stablecoins, which are backed by fiat reserves, UST relied on the value of LUNA to maintain its peg, making it an innovative but risky financial instrument. For a time, this model worked exceptionally well, propelling LUNA into the top ranks of global cryptocurrencies by market capitalization. However, beneath the surface, the project harbored vulnerabilities that would eventually lead to one of the most devastating collapses in crypto history.

The Mechanism Behind UST and LUNA

The core of the Terra ecosystem was its unique algorithmic model. When the demand for UST increased, LUNA would be burned to mint more UST, driving up LUNA’s price. Conversely, when UST was in surplus, it could be swapped for LUNA, theoretically keeping UST’s price stable at $1. This mechanism promised a stable, decentralized currency, and the model attracted significant investor interest. The Anchor Protocol, which offered a nearly 20% yield on UST deposits, was a key driver of UST adoption, drawing in billions of dollars from investors seeking high returns.

From Stability to Collapse

The downfall began in early May 2022, when UST lost its dollar peg. This depegging triggered a cascade of sell-offs, with investors scrambling to exit both UST and LUNA. The algorithm that was supposed to stabilize UST couldn’t keep up with the pace of withdrawals, and LUNA’s supply increased exponentially as the price plummeted. Within days, LUNA’s value dropped from over $80 to less than a fraction of a cent. The once-promising ecosystem fell apart, wiping out billions of dollars in market value and sending shockwaves across the crypto market.