We’ve talked endlessly about the innovation it brings — but what actually is Terra? 🌕
Terra protocol is the world leader of stablecoin, thanks to its decentralized and open-source public blockchain for algorithmic stablecoins. Open market arbitrage and oracle voting are its primary foundations in creating stablecoins, where users can spend, save, trade, and exchange their stablecoins all on the Terra blockchain.
Terra and Luna — The Yin and Yang of the Terra Ecosystem
The Terra protocol mainly runs through its two main tokens, Terra and Luna.
So, what are they?
Terra are stablecoins pegged to the price of fiat currencies. Luna, on the other hand, is the native token that absorbs the price volatility of Terra stablecoins.
The Terra Protocol
Stablecoins are the main feature of the Terra protocol. They also provide a perpetual public ledger, manages transactions and settlements faster and charges fewer fees.
Terra, knowing that stablecoins are only valuable if they maintain their price peg, uses the basic market forces of supply and demand to maintain the price of Terra. If the demand for Terra is high and the supply is limited, its price increases. Otherwise, its price decreases when its demand is low and the supply is too large. This system creates a synergistic effect which allows Terra to maintain its price.
Why does it achieve its stable price? Through its two forces, expansion and contraction.
Expansion and Contraction
To maintain the price of Terra, the Luna supply adds to or subtracts from Terra’s supply — Luna is burned to mint terra and Terra is burned to mint Luna.
Expansion, as its name suggests, is basically the increase of the supply for Terra. This happens when the price of Terra is high due its supply being small while the demand is high. Thus, the protocol incentivizes the users to burn Luna and mint Terra. Contraction, on the other hand, happens when the demand for Terra is too low and the supply is too large. The protocol then prompts its users to burn Terra to mint Luna, thus decreasing the excess supply of Terra.
Now that you know the relationship between Terra and Luna, let’s proceed with the main factors that govern its ecosystem.
Validators, Delegators, Bonding and Staking
The Terra blockchain is a proof-of-stake blockchain powered by Cosmos SDK, and secured by a system of verification called the Tendermint consensus. Validators — miners of the Terra blockchain, are responsible for securing the blockchain and ensuring its accuracy. Validators run programs called full nodes which allow them to verify each transaction made on the Terra network in exchange for rewards. In contrast, delegators are users who want to receive rewards from consensus without running a full node. Delegators earn rewards through staking, that is, they stake their Luna to a validator and receive a portion of transaction fees as staking rewards.
There are three phases of Luna:
1. Unbonded: Luna that can be freely traded and is not staked to a validator.
2. Bonded: Luna that is staked to a validator.
3. Unbonding: Luna that is in the process of becoming unbonded from a validator, which takes 21 days to complete.
Generally, staking, delegating and bonding are used interchangeably since they happen in the same step.
The protocol incentivizes delegators and validators with staking rewards, coming from three sources: gas, stability fees, and swap fees, with an addition of spread fees.
1. Gas: computed fees set by validators and added on to each transaction to avoid spamming.
2. Stability fees: fees added to any Terra stablecoin transaction, excluding market swaps, which provides stability in the market.
3. Swap fees: fees for swapping Terra stablecoin denominations.
4. Spread fee: fees for exchanges between Terra and Luna.
Each validator and their delegators earn transaction fees proportional to their staked amount at the end of every block. Staking rewards play a key role in the stability of the Terra protocol, bringing lock value in the system which ensures long and short term stability for the price of Terra.
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