Chapter 24 Quiz: Stablecoins: The Bridge Between Crypto and the Dollar
Multiple Choice
1. Which of the following best describes how fiat-backed stablecoins like USDT maintain their peg?
a) An algorithm automatically adjusts the token supply based on price b) Authorized participants arbitrage between the token's market price and the issuer's redemption price c) Smart contracts liquidate collateral when the price drops below $1.00 d) The issuer buys back tokens on the open market when the price falls
Answer: b) Authorized participants buy underpriced tokens and redeem them at the issuer for $1.00, or deposit dollars to mint tokens when the price is above $1.00. This arbitrage loop keeps the market price close to $1.00.
2. What is the critical difference between an attestation and an audit of stablecoin reserves?
a) An attestation is conducted by a government regulator; an audit is conducted by an accounting firm b) An attestation is a point-in-time snapshot of assets; an audit is a comprehensive examination of controls and operations over a period c) An attestation covers only cash reserves; an audit covers all asset types d) There is no meaningful difference; the terms are interchangeable
Answer: b) An attestation verifies that reported assets existed on a specific date. An audit examines financial controls, processes, and operations over time. Tether publishes attestations but has never completed a full audit by a Big Four firm.
3. In MakerDAO's system, what happens when a Vault's collateralization ratio falls below the liquidation threshold?
a) The user receives a margin call and has 24 hours to add collateral b) The protocol mints new MKR tokens to absorb the loss c) Keeper bots bid on the collateral in a Dutch auction, repaying the DAI debt plus a penalty d) The Vault is frozen until the collateral price recovers
Answer: c) Liquidation is automated. Keeper bots participate in Dutch auctions to purchase the collateral, and the DAI debt is repaid plus a liquidation penalty. The Vault owner loses a portion of their collateral.
4. What was the primary driver of demand for Terra's UST stablecoin?
a) Cross-border payments between South Korea and the United States b) Use as a trading pair on centralized exchanges c) The ~20% APY yield offered by the Anchor Protocol d) Integration with traditional payment processors
Answer: c) Over 70% of UST was deposited in Anchor Protocol to earn approximately 20% APY. This yield was subsidized and unsustainable, creating fragile, yield-dependent demand rather than organic monetary demand.
5. In the Terra/Luna death spiral, why did the burn/mint arbitrage mechanism accelerate the collapse rather than restoring the peg?
a) The arbitrage mechanism was disabled by the development team during the crisis b) Burning UST minted LUNA, but massive LUNA selling crashed its price, requiring even more LUNA to be minted per UST burned c) There were not enough arbitrageurs participating in the mechanism d) The blockchain became congested and could not process burn transactions
Answer: b) This is the reflexive death spiral. As LUNA's price fell from selling, more LUNA tokens were needed to equal $1 per UST burned. This increased supply further depressed the price, creating a positive feedback loop of hyperinflation.
6. Why did USDC depeg during the Silicon Valley Bank crisis in March 2023?
a) Circle's smart contracts had a bug that prevented redemptions b) The SEC froze Circle's bank accounts c) Approximately $3.3 billion of Circle's reserves were held at SVB, which was seized by the FDIC d) A coordinated attack by short sellers targeted USDC on decentralized exchanges
Answer: c) Circle disclosed that $3.3 billion (~8% of USDC reserves) was deposited at SVB. When SVB failed, the market feared Circle could not honor all redemptions, pushing USDC to ~$0.87. The peg recovered when the Fed guaranteed all SVB depositors.
7. Which stablecoin is designed to be fully immutable with no governance mechanism and no admin keys?
a) DAI (MakerDAO) b) USDC (Circle) c) GHO (Aave) d) LUSD (Liquity)
Answer: d) LUSD's smart contracts are immutable — no governance votes, no admin keys, no upgrade path. Parameters are fixed at deployment. This maximizes decentralization but sacrifices flexibility.
8. What is the "seigniorage shares" model for algorithmic stablecoins?
a) A system where the central bank shares profits with stablecoin holders b) A two-token model where one token is the stablecoin and another absorbs volatility, capturing the profit from new currency issuance c) A system where stablecoin holders receive equity shares in the issuing company d) A reserve-sharing arrangement between multiple stablecoin issuers
Answer: b) The seigniorage shares model uses a stablecoin (targeting $1.00) and a share/governance token. When the stablecoin is above $1.00, new tokens are minted and the seigniorage accrues to share holders. When below $1.00, the share token absorbs losses.
9. What was the approximate total value destroyed (UST + LUNA combined) during the Terra/Luna collapse?
a) $5 billion b) $15 billion c) $40 billion d) $100 billion
Answer: c) Over $40 billion in combined UST and LUNA market capitalization was destroyed between May 7-13, 2022. Including contagion effects (Three Arrows Capital, Celsius, Voyager), total losses are estimated at $60-80 billion.
10. Under the EU's MiCA regulation, which of the following is NOT required of stablecoin issuers?
a) Maintain reserves equal to 100% of outstanding tokens b) Allow holders to redeem at face value at any time c) Obtain authorization as an electronic money institution or credit institution d) Publish full source code for all smart contracts as open source
Answer: d) MiCA requires 100% reserves, redemption rights, and licensing. It does not require open-source smart contracts. MiCA also imposes restrictions on non-euro-denominated stablecoins that exceed certain transaction thresholds.
True/False
11. Tether (USDT) has completed a comprehensive audit by a Big Four accounting firm.
Answer: False. Tether publishes quarterly attestation reports (prepared by BDO Italia), but has never completed a full audit by a Big Four firm (Deloitte, PwC, EY, or KPMG).
12. DAI is a fully decentralized stablecoin with no dependencies on centralized assets.
Answer: False. DAI's Peg Stability Module (PSM) allows direct swaps with USDC, and USDC is accepted as collateral. This creates a dependency on the centralized USDC stablecoin, as demonstrated when DAI also depegged during the SVB crisis.
13. The Luna Foundation Guard's $3 billion Bitcoin reserve successfully defended UST's peg during the May 2022 crisis.
Answer: False. The LFG deployed approximately $3 billion in Bitcoin reserves but failed to restore the peg. The reserves were nearly entirely depleted, and the Bitcoin selling contributed to a broader crypto market downturn.
14. Stablecoins settle more annual transaction volume than Visa.
Answer: Approximately true (as of 2024). Stablecoin on-chain settlement volume exceeded $10 trillion in 2024, approaching Visa's ~$12.3 trillion, though measurement methodologies differ and direct comparison requires caveats about wash trading and internal transfers.
15. The BUSD stablecoin was shut down because its reserves were found to be inadequate.
Answer: False. BUSD was shut down because the New York Department of Financial Services (NYDFS) ordered Paxos to stop minting new BUSD, citing issues with Paxos's oversight of its relationship with Binance. The reserves themselves were not the stated issue.
Short Answer
16. Explain the "circular value dependency" in Terra's design. Why did this make UST fundamentally fragile?
Answer: UST's peg was maintained by the ability to burn UST for $1 of LUNA. But LUNA's value depended on the Terra ecosystem's success, which depended on UST maintaining its peg. This circular dependency meant there was no external anchor of value. In rising markets, the cycle was virtuous (growth supported confidence supported the peg). In falling markets, the cycle reversed: loss of confidence broke the peg, which destroyed LUNA's value, which further undermined confidence. The system had no external backstop to break the negative cycle.
17. Why are stablecoins particularly important for people in countries like Argentina, Nigeria, and Turkey?
Answer: These countries experience high inflation, currency depreciation, and/or capital controls that make it difficult for citizens to preserve purchasing power or access stable foreign currencies. Stablecoins (particularly USDT and USDC) provide dollar-denominated savings accessible via a smartphone, without requiring a US bank account or navigating capital controls. For citizens facing 100%+ inflation (Argentina) or currency devaluation (Nigeria, Turkey), stablecoins are less a speculative instrument than a practical tool for preserving savings.
18. Describe the MakerDAO "Black Thursday" event (March 12, 2020). What went wrong, and how was it resolved?
Answer: On March 12, 2020, ETH's price crashed 43% in a single day. The crash triggered massive Vault liquidations, but Ethereum network congestion caused gas prices to spike, preventing many Keeper bots from submitting bids. Some liquidation auctions completed with bids of 0 DAI — meaning liquidators received collateral for free. The system became briefly under-collateralized with approximately $8.3 million in bad debt. MakerDAO resolved this by conducting an emergency auction of newly minted MKR tokens to raise DAI and recapitalize the system. The event led to a redesign of the liquidation system (Liquidations 2.0).
19. What is MakerDAO's Peg Stability Module (PSM), and what trade-off does it represent?
Answer: The PSM allows anyone to swap DAI for USDC (and vice versa) at a 1:1 ratio, directly. This dramatically improves DAI's peg stability because any deviation from $1.00 is immediately arbitraged through the PSM. However, it creates a dependency on USDC — a centralized stablecoin issued by Circle. This means DAI, which is supposed to be the decentralized alternative, is partially backed by and pegged to a centralized asset. The trade-off is stability vs. decentralization.
20. Why might USDT be considered "too big to fail"? What percentage of crypto trading volume depends on it?
Answer: USDT accounts for approximately 60-70% of stablecoin market capitalization and 60-75% of stablecoin trading volume. BTC/USDT is the most liquid trading pair in crypto. USDT is the dominant stablecoin on Tron, the most-used chain for stablecoin transfers, and the primary stablecoin in emerging markets. A USDT failure would disrupt trading pairs across all major exchanges, trigger DeFi liquidation cascades, and harm millions of emerging market users who hold USDT as savings. The interconnectedness and scale make USDT's failure a systemic risk to the entire crypto ecosystem.