- Terra was born with the objective of replacing traditional banking and achieving the massive adoption of stablecoins and DeFi infrastructure.
- LUNA is the protocol token used in the governance of Terra.
As the ecosystem of cryptocurrencies and blockchain technology have matured, new solutions have been born that are based on these technologies. One of them is Terra, a blockchain developed specifically for decentralized finance (DeFi) with the goal of creating a global payments network.
Terra was founded in 2018 by Daniel Shin and Do Kowen, who also founded Terraform Labs, the company behind the Terra ecosystem.
According to its official website, Terra was born with the aim of replacing traditional banking and, in addition, achieving the massive adoption of stablecoins and the DeFi infrastructure. With this, the project aims to ensure that in the future people pay for their purchases or services through the funds stored in a wallet found on cell phones.
For this Terra proposed to produce a blockchain framework for the deployment of DeFi applications that use native stablecoins and the LUNA token. In this way, Terra is the blockchain protocol where stablecoins are issued and, in addition, we have LUNA, the protocol token used in the governance of Terra.
How does Terra work?
Once the purpose of Terra (LUNA) is known, it is necessary to understand the solution they propose. A basic look What should be taken into consideration is that Terra is a protocol and a blockchain that does not depend on other chains such as Ethereum or Solana. This means that Terra works autonomously from other projects.
In addition, Terra’s blockchain works through the Proof of Stake protocol (PoS). This implies that, unlike Bitcoin, for example, block validators must staking LUNA tokens.
The network has the ability to deploy smart contracts, this being one of its key characteristics. However, it should be borne in mind that Terra is not as decentralized as other blockchains, since it only has a maximum of 100 validators.
LUNA, the governance token
Terra uses the LUNA token to algorithmically collateralize stablecoins and, with this, LUNA is enabled as a governance and payments token within the network.
LUNA is used collaterally to achieve price stability for the UST stablecoin. This is a fundamental characteristic because it differs from other stablecoins, such as Tether, whose price is directly linked to the US dollar.
But how does this work? The process is similar to that of the DAI stablecoin but in reverse. That is, while in DAI the loan must be collateralized by creating new DAI, on Terra you have to burn LUNA tokens. Yes, Terra reduces LUNA’s monetary base to create new USTs.
So, for example, if you want to mint $ 100 TerraUSD (UST), which is equal to 100 UST at parity, you will need to burn an equivalent monetary amount of LUNA. So if the price of LUNA is $ 50 USD per coin, the algorithm will require burning 2 LUNA to mint 100 UST. This process works similarly if you want to mint LUNA tokens with UST tokens.
The relationship between Terra and LUNA must be in equilibrium in order to maintain price stability, therefore, it is an analogy of the relationship between Earth and the Moon.
Why are stablecoins necessary?
Terra’s objective is to generate an international payments ecosystem. consequently, las stablecoins are essential both to avoid market fluctuations and to develop the payment gateway.
In this way, tAll the stablecoins that are developed in Terra are algorithmic and are not backed by fiat money, but by a specific algorithm.
An important fact is that this system generates arbitrage or seigniorage opportunities for the platform. Do Kwon explains in a Article that, for the creation of a stablecoin, the mathematical definition of seigniorage is:
“Seigniorage = New Stablecoin minted – Cost of acquiring a collateral”
In this way, when a new stablecoin is issued on Terra based on demand, the platform benefits and, in theory, these funds are used to finance projects and reward users.
Gas rates and commissions on the network
Gas is the fee that is added to each transaction in order to be executed and maintain the security of the network. Taking this into account, in Terra the validators establish the minimum price of gas and any transaction that pays for gas below this minimum is rejected.
Regarding commissions, you pay between 0.1% and 1% of the total transaction. However, the commission has a limit price of 1 USDT.
What is Terra Station?
Terra Station It is Terra’s official wallet and therefore allows LUNA holders to access their funds and participate in the governance of the network. It is available both as a mobile application and as a browser extension.
Terra Station offers valuable information regarding the blockchain, such as transaction volume or Staking earnings. However, a key aspect to keep in mind is that it is a non-custodial wallet. This implies that the user will be solely responsible for keeping their private keys.
If you want to learn more about the different types of wallets, we invite you to review the following detailed guide to Bitcoin Mexico.
Final thoughts
Terra is one of the projects that has stood out this year for its remarkable growth, especially when focusing on a sector as important as DeFi.
At the moment its use is specifically focused on Asia, which is why it has not yet achieved the integration of global markets. Furthermore, DeFi has certainly seen significant growth, but it is still an emerging and highly complex industry.
Another concern about Terra is its low decentralization since the validation process is limited to a number of nodes.
In a short time Terra has already managed to scale in the stablecoin market and will surely have a lot to give in the crypto ecosystem.
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