Algorithmic Stablecoin
A stablecoin that attempts to keep its value through supply rules and trading incentives rather than by holding reserves.
The common design pairs the stablecoin with a separate volatile token and allows holders to exchange one for the other at a fixed accounting value, so traders are meant to expand supply when the price is above target and contract it when below. The mechanism depends on there being continuous demand for the volatile partner token, since the system has no external assets to sell. When confidence falls, the same arbitrage that maintained the peg begins destroying it: redeeming stablecoins mints large amounts of the partner token, whose price falls, which invites further redemption. After the 2022 failure of one large implementation, several jurisdictions drafted stablecoin rules that explicitly exclude designs without asset backing.
In practice
In May 2022 the algorithmic stablecoin UST and its partner token LUNA collapsed within days when redemption pressure overwhelmed the design, an episode widely studied as the reference failure for this model.
The common misunderstanding
The peg is maintained by demand for the partner token rather than by any asset held in reserve, so the stabilizing mechanism reverses when that demand disappears.