When people from the cryptocurrency space talk about Terra, LUNA, or UST, the first thing that would probably come to mind is the project’s fall in May 2022. While the Terra network did, in fact, maintain its red-hot streak since its creation and rose to the highest levels of the sector, the ecosystem ultimately went into a severe meltdown.
Coin Edition will walk you through the rise and the unfortunate fall of the Terra ecosystem, detailing some of the project’s history and how the (new) Terra blockchain, and all that comes with it, fares in today’s landscape.
What Is Terra (LUNA)?
Terra is a blockchain protocol and payment platform for fiat-pegged, algorithmic stablecoins. It was launched in January 2018 by South Koreans Do Kwon and Daniel Shin with plans to develop Chai, an e-commerce payments application, and create a price-stable cryptocurrency against top fiat currencies to facilitate transactions.
Even before its great crash in 2022, Terra had its first pushback in April 2018 when Cyrus Younessi, former head of risk at MakerDAO and research analyst at Scaler, publicized his doubts about the project. Younessi then believed that Terra/LUNA would not work, narrating a scenario that ended up coming true.
Over *four years* ago I was a research analyst at @scalarcapital.
The Terra / $LUNA deal came across our desk and I was assigned to it because I was the DeFi guy. Here’s what I had to say about the project.
How did we allow it to end up like this? pic.twitter.com/LZMU1H7BdG
— 🙂🙂🙂.eth (@cyounessi1) May 13, 2022
Despite the red flag, Terraform Labs, the company behind the Terra blockchain, got incorporated in Singapore in the same month.
Terra’s Tokens: Terra (LUNA) & TerraUSDT (UST)
Years 2019 and 2020 were busy times for Terraform Labs — publishing the Terra Money white paper, announcing a South Korean exchange’s launch of a staking derivatives product for LUNA, and releasing DeFi protocol Anchor. However, what the company and the cryptocurrency community deemed two of the most significant events for the project was the launch of both LUNA and UST.
Shy of a year after Terraform Labs’ incorporation into Singapore, the firm sold LUNA, Terra blockchain’s native token, via an initial coin offering (ICO). At the time, 1 LUNA was priced at 18 cents during a seed round and 80 cents during a private sale.
One and a half years later, TerraUSD (UST) was publicly announced, with plans to launch on Ethereum and Solana.
According to the white paper, Terraform Labs aims to be a peer-to-peer electronic cash system—what Bitcoin originally set out to be. With Terra being a system that caters to stablecoins, LUNA plays a vital role in maintaining the price of Terra’s stablecoins and reducing the market volatility so they remain stable. In essence, LUNA absorbs the price deviation of UST, an algorithmic stablecoin.
TerraUSDT (UST), the Algorithmic Stablecoin
A stablecoin is a type of cryptocurrency whose price is usually pegged to a state-issued fiat currency such as the U.S. dollar or euro. In the case of USD-pegged stablecoins, their prices are supposed to be $1 at all times. What makes stablecoins in Terra different is the blockchain’s method to keep the price stable. Enter algorithmic stablecoins.
Algorithmic stablecoins do not rely on a reserve of assets to maintain their peg, unlike USD Coin (USDC) and Tether (USDT).
UST maintained its 1:1 parity with the U.S. dollar thanks to its algorithmic relationship with LUNA. Whenever UST would lose its peg in a downward or upward direction, an arbitrage opportunity would present itself.
For instance, when UST’s supply was too small and its demand would spike, its price would go above $1. For UST to regain its peg, the Terra network would let users trade USD$1 of LUNA for 1 UST using the Terra station. The trade would burn USD$1 of LUNA and mint 1 UST, which traders could sell for USD$1.01 — pocketing a profit of 1 cent. In large quantities, of course, the profits earned by users were more. Until UST would reclaim its peg, users could mint as much UST as needed from burned LUNA. In simple terms, the UST price came down as the supply increased.
On the other hand, when the supply of UST was too large and demand was too low, the price of the stablecoin went below $1. When this happens, the protocol would let users do the opposite: users would buy 1 UST for USD$0.99, then trade 1 UST for 1 USD$1 LUNA. The trade would burn 1 UST and mint USD$1 LUNA. The trader would net a profit of 0.1 UST. Like the previous steps mentioned, users would continuously burn UST and receive LUNA until UST goes back to $1.
Terra (LUNA)’s Rise & Fall
The Terra ecosystem greeted success from all fronts — LUNA recording highs above $90, launching of Luna Foundation Guard to build reserves to support the UST peg, and its algorithmic stablecoin becoming a real threat against top stablecoins.
Terra opened the first week of April 2022, with LUNA’s price reaching its eventual all-time high of $119.18. And on April 19, Terra’s native token outperformed most cryptocurrencies in the market, with a 17% boost. At the same time, Terra’s UST passed Binance USD (BUSD) to become the third-largest stablecoin.
However, this is when things started becoming shaky for Terra.
Terra’s downfall was sparked on May 8 when UST dropped to a $0.985 low following a series of large dumps of UST on Terra’s lending protocol Anchor and stablecoin exchange protocol Curve.
At that time, fears of UST completely losing its $1 peg spread across the cryptocurrency space. Amid FUD coating the sector, Do Kwon’s solution was to joke about UST’s depegging risks.
So, is this $UST depeg in the room with us right now?
I prescribe 24 hours of pegging over the next 7 days pic.twitter.com/GsBss7ACit
— Do Kwon 🌕 (@stablekwon) May 8, 2022
Ironically, the Terraform Labs CEO’s jest came true as UST fell further from its $1 peg, nosediving to as low as 35 cents. Kwon promptly assured the Terra community that his team was “deploying more capital” for UST to regain its dollar peg. Unfortunately, it got worse from there as the total value locked on Terra’s Anchor dropped $11 billion over two days.
While Terraform continued to grasp at straws, almost depleting its BTC reserves to support UST, LUNA’s price plummeted by 96% in one day, tapping at less than 10 cents.
Over the next five days since May 8, Terraform Labs’ tokens, LUNA and UST, entered a race to the bottom.
What Happened to Terra, LUNA, & UST?
So what really happened to LUNA and UST?
As mentioned before, the network incentives appeared dubious to some industry watchers. Cyrus Younessi, who was one of the first to share his doubts about the project, is just one of the many critics who debated the flaws in UST’s algorithmic model and highlighted possible attack vectors.
Following UST’s and LUNA’s continuous dip, experts are still oblivious to whether the massive meltdown was triggered by a coordinated attack by rich crypto whales or masterminded by an individual. Regardless, close watchers agree that UST’s questionable economic model was a timebomb — an accident waiting to happen.
James Taylor of CeDeFi exchange Unizen argued that the problem lay behind the mismanagement of the UST peg.
“The fundamental reason behind Luna’s collapse was due to the complication of managing the UST peg across centralized and decentralized trading ventures,” Taylor said, as cited by Forbes. “The attacker cleverly chose Curve stableswap (Terra’s stablecoin exchange) to attack the protocol, which imposed the maximum damage and incited panic.”
Meanwhile, ParallelChain Lab CEO Ian Huang said that the catalyst in Terra’s collapse was its “flawed tokenomic model and lack of diverse utilities supporting the ecosystem.” Ultimately, Huang’s points resulted in a loss of confidence and aggressive panic selling.
Terra (LUNA) Post-crash
With LUNA’s steep fall threatening the security of the Terra blockchain, the protocol officially halted for the first time at block height 7603700. The Terra blockchain would eventually resume activities but would again halt operations.
Huge global exchanges such as Binance and OKX ended trading of Terra tokens after UST lost its dollar peg, and LUNA further sinks by over 99%. However, Binance has since resumed trading in LUNA (LUNC).
It is important to note that the collapse of UST and LUNA happened during the earliest nights of the long crypto winter of 2022, with the meltdown exacerbating the market turmoil.
Thousands of investors, including enterprises, took a huge hit with the fall of Terra. The network’s DeFi applications saw a loss of about $28 billion as investors have largely left the Terra ecosystem.
The Korea Times also reported that about 280,000 citizens fell victim to the sudden drop in UST and LUNA. Meanwhile, multiple sources have reported that people ended their lives after losing thousands to millions in LUNA investments. There was also this enraged investor who trespassed on Do Kwon’s home in Seoul after losing $2.3 million amid the crash.
The plunge urged authorities from South Korea, the United States, and more to closely scrutinize cryptocurrency exchanges and the new asset class themselves. Moreover, doubts about stablecoins started to emerge.
Terraform’s head honcho, Do Kwon, back then proposed to fork Terra without UST, calling the current chain “Terra Classic.” Validators of the blockchain approved Kwon’s plan to launch a new blockchain dubbed “Terra 2.0” without a stablecoin. The plan during this transition was to give previous LUNA and UST holders the native token of the new blockchain, LUNA (LUNA), based on their holdings.
The old Terra blockchain continues to operate, with its tokens being renamed Terra Luna Classic (LUNC) and TerraClassicUSD (USTC).
On May 28, Terra 2.0 was launched, accompanied by a LUNA airdrop days after.
Do Kwon’s Fault?
While the flak directed against Terra was mostly targeted toward its faulty algorithmic stablecoin, Do Kwon’s growing hubristic antics on social media received ire from the community.
The proud Terraform Labs head ignored warning signs from critics and even ridiculed those who attempted to shed light on Terra’s shortcomings.
“Do Kwon constantly silenced critics who pointed out flaws in the stablecoin’s algorithm,” said Victor Young of blockchain firm Analog. “He even mocked an economist for being poor. Any discourse regarding what caused UST to crash cannot ignore the fact that the stablecoin was not pegged to any non-crypto collateral. Instead, it used a pairwise token system where users swapped Luna to UST and vice versa for a guaranteed price of $1, relying on a weak and manipulative consensus mechanism.”
Terra 2.0 & New LUNA
It has been months since Terra’s massive meltdown and the launch of Terra 2.0. While the original Terra and Terra Luna (now LUNC) still exists, it is near impossible that the project will recover. At the time of writing this article, this is what the LUNC chart looks like:
Meanwhile, South Korean authorities have begun an investigation on Terra, even reviving a defunct investigative unit named the “Grim Reapers of Yeoui-do.” According to local reports, the investigation will look into the damages caused by the collapse of UST and LUNA to South Koreans.
At the moment, Terra 2.0 and its native token, Terra (LUNA), continue the legacy of its predecessors. With the help of its community dubbed “LUNAtics,” the team looks to keep building and evolving the new Terra ecosystem.
As Forbes’ contributing writer Lawrence Wintermeyer describes, the cryptocurrency industry is adept at reinventing itself. Despite Terra’s demise, industry leaders will surely take the collapse as a lesson to ensure that history will not repeat itself.
The project’s implosion now opens windows of opportunity for the sector to enhance existing systems and develop robust protocols that could hold out against extreme market conditions. Meanwhile, the call for fair and strong digital asset regulation that ensures consumer protection and market stability continues to resonate. The crypto community can only hope their sentiments will not fall on Do Kwon-like deaf ears.
Disclaimer: The views and opinions, as well as all the information shared in this price analysis, are published in good faith. Readers must do their own research and due diligence. Any action taken by the reader is strictly at their own risk. Coin Edition and its affiliates will not be held liable for any direct or indirect damage or loss.