What Are Stablecoins?

What a stablecoin is for

Bitcoin and ether move in price every minute, which makes them awkward for paying invoices, quoting loans or parking funds between trades. A stablecoin solves that by tracking a reference asset, usually the US dollar, while still moving on a blockchain like any other token. ethereum.org groups them into four designs: fiat-backed, crypto-backed, precious-metal-backed and algorithmic.^[1]

In practice most on-chain activity uses dollar tokens. ethereum.org lists swapping on DEXs, borrowing against crypto collateral and payments for work as common ways people get and use them. Moving them is an on-chain transfer, including on layer 2 networks, but the recipient still needs an off-ramp to reach a bank account.^[1]

ethereum.org's list of stablecoins shows how the designs sit side by side: USDC, which it calls the largest US-regulated fiat-backed stablecoin, and USDS, the crypto-backed successor to DAI, with precious-metal tokens as a separate category. The names differ, but each answers the same question in a different way: what stands behind one token when someone wants to sell it.^[1]

The practical test is simple. For each stablecoin you hold, you should be able to say who issues it, what backs it, where the backing is reported, and how a holder turns it back into dollars. If you cannot answer one of the four, you are holding a price, not a claim.^[1]

See also: What is a DEX · Fiat on-ramps

Fiat-backed: dollars in a bank, tokens on a chain

A fiat-backed issuer takes in dollars, mints the same number of tokens, and burns tokens when holders redeem them for dollars. The peg holds because anyone eligible can redeem at $1: if the token trades at $0.99, arbitrageurs buy it and redeem it for a dollar. ethereum.org notes the obvious trade-off: this design needs audits to show the reserves are really there.^[1]

Circle's USDC is the example ethereum.org itself uses. Circle states that USDC reserves consist of bank deposits plus Treasuries and overnight Treasury repo, which may be held in custodial accounts, a separately managed account or the Circle Reserve Fund, a 2a-7 money market fund managed by BlackRock. Circle publishes reserve holdings weekly and monthly third-party reports prepared under AICPA attestation standards.^[4]

The risk here is not code but institutions: the bank holding the cash, the fund holding the bills, and the issuer's ability to freeze addresses. Check whether the token contract lets the issuer freeze addresses; where it does, that is useful against theft and a reminder that the issuer can stop your tokens from moving.

Circle also says USDC is redeemable 1 to 1 for US dollars and that its reserves are greater than the amount of USDC in circulation. Deloitte & Touche has audited Circle's own financial statements since fiscal 2022, which is separate from the monthly reserve reports.^[4]

Crypto-backed and algorithmic designs

A crypto-backed stablecoin is minted by locking more crypto than the stablecoins you receive. The collateral sits in public smart contracts, so anyone can verify it on-chain. ethereum.org lists the downside: these coins are less stable than fiat-backed ones, and the collateral must be watched, because if ETH falls, more ETH must back the stablecoin or it loses value. Some, such as DAI, also hold centralized stablecoins as part of their backing.^[1]

Algorithmic stablecoins are not backed by another asset. ethereum.org describes an algorithm that contracts or expands supply around the target price, so your token balance changes with total supply. They need no collateral, but you have to trust the algorithm, and if demand collapses there is no reserve behind the token. Treat any yield-paying coin with thin or reflexive backing as a speculative asset, not a dollar.^[1]

Worked example: a crypto-backed position under stress

Suppose a protocol requires a minimum collateral ratio of 150%. You lock 5 ETH when ETH trades at $3,000, so your collateral is worth $15,000. At the 150% minimum you can mint up to $15,000 / 1.5 = 10,000 stablecoins. Borrowing that maximum leaves no buffer at all.

A more careful user mints 6,000 stablecoins instead, a 250% ratio. If ETH then drops 25% to $2,250, the collateral is worth $11,250 and the ratio falls to 11,250 / 6,000 = 187.5%, still above 150%. The position liquidates only if ETH drops below $1,800, the price at which 5 ETH equals $9,000, which is 150% of 6,000.

The numbers show why crypto-backed coins can hold $1 while their collateral swings: every coin in circulation started with more than a dollar of crypto behind it, and positions that slip below the line get sold. It also shows the user's risk: liquidation typically comes with a penalty, so the buffer you leave matters more than the headline ratio.

US rules: the GENIUS Act and the SEC's view

The Guiding and Establishing National Innovation for U.S. Stablecoins Act, S. 1582, became Public Law 119-27 on July 18, 2025. It requires a permitted payment stablecoin issuer to keep identifiable reserves on at least a 1 to 1 basis, limited to items such as US coins and currency, demand deposits at insured banks, and Treasury bills, notes or bonds with a remaining maturity of 93 days or less.^[2]

The Act also makes issuers publish the composition of their reserves every month and have the chief executive and chief financial officer certify that monthly report. It bans issuers from paying holders any interest or yield, in cash, tokens or other consideration, solely for holding, using or retaining a payment stablecoin. A state-qualified issuer whose stablecoin passes $10 billion in outstanding issuance must move to the federal framework within 360 days or stop issuing new tokens, unless a waiver applies.^[2]

The Act takes effect on the earlier of 18 months after enactment, which is January 18, 2027, or 120 days after the primary federal regulators issue final implementing rules. Until then, the reserve and disclosure rules describe where the market is heading rather than a finished regime.^[2]

The Treasury Department marked the signing the same day. Secretary Scott Bessent's statement of July 18, 2025 said the law gives the stablecoin market regulatory clarity and links stablecoin growth to demand for US Treasuries, which back the reserves.^[5]

Separately, on April 4, 2025, the SEC's Division of Corporation Finance said that "Covered Stablecoins", meaning dollar tokens redeemable 1 to 1 and backed by low-risk liquid reserves, are not offered as securities. The statement ties that view to conditions, including that they are marketed for payments rather than as investments, reserve assets are not lent or pledged, and holders get no interest, profits or governance rights.^[3]

Risks to check before holding one

Start with redemption: who can redeem for $1, at what minimum, and how fast. If you cannot redeem directly with the issuer, you depend on exchanges and DEX pools, where the market price can dip below $1 even when reserves are fine. Then check the reserve report date, the attestation firm, and whether the issuer can freeze addresses.^[4]

Chain risk is the last item. The same ticker can exist natively on one network and as a bridged wrapper on another. A bridged USDC is a claim on a bridge contract, not on Circle, so confirm the contract address against the issuer's official list before receiving large amounts.

Finally, read who the token is for. Under the GENIUS Act, reserves must be held in specific low-risk assets and backed at least 1 to 1. A token that advertises exposure to higher-yielding assets, or pays holders a return for simply keeping it, is describing something the Act does not allow a permitted US issuer to offer.^[2]

See also: Crypto bridges · Crypto custody

The bottom line

For moving dollars on-chain, a fiat-backed stablecoin with published monthly reserves and direct 1 to 1 redemption is the closest thing to cash that crypto offers, and the GENIUS Act now sets the reserve and disclosure floor for US issuers. Any stablecoin that pays you just for holding it is, by the Act's own terms, not a permitted US payment stablecoin, so treat that yield as a separate product with separate risk.