Revisiting the Trilemma of Stablecoins: The Current Decline of Decentralization

Article Author: Chilla

Article Compiler: Block unicorn

Introduction

Stablecoins have garnered significant attention, and this is not without reason. Beyond speculation, stablecoins are one of the few products in the cryptocurrency space that have a clear product-market fit (PMF). Today, the world is discussing the trillions of stablecoins expected to flow into the traditional finance (TradFi) market over the next five years.

However, all that glitters is not gold.

The Initial Stablecoin Trilemma

New projects often use charts to compare their positioning against major competitors. What is striking but often downplayed is the recent apparent regression in decentralization.

The market is evolving and maturing. The demand for scalability clashes with the anarchic dreams of the past. But a balance should be found to some extent.

Initially, the stablecoin trilemma was based on three key concepts:
Price Stability: Stablecoins maintain a stable value (usually pegged to the US dollar). Decentralization: No single entity controls it, providing censorship resistance and trustlessness. Capital Efficiency: Maintaining the peg without excessive collateral.

However, after several controversial experiments, scalability remains a challenge. Therefore, these concepts are continually evolving to adapt to these challenges.

The above image is taken from one of the most prominent stablecoin projects in recent years. It deserves praise, primarily due to its strategy of evolving beyond the stablecoin category into more products.
However, you can see that price stability remains unchanged. Capital efficiency can be equated with scalability. But decentralization has been redefined as censorship resistance.

Censorship resistance is a fundamental characteristic of cryptocurrency, but compared to the concept of decentralization, it is merely a subcategory. This is because the latest stablecoins (with the exception of Liquity and its forks, along with a few other examples) have certain centralized characteristics.

For example, even if these projects utilize decentralized exchanges (DEX), there is still a team responsible for managing strategies, seeking yields, and redistributing them to holders, who essentially act like shareholders. In this case, scalability comes from the amount of yield rather than the composability within DeFi.
True decentralization has been hindered.

Motivation

Too many dreams, not enough reality. On Thursday, March 12, 2020, the entire market crashed due to the COVID-19 pandemic, and the fate of DAI is well-known. Since then, reserves have largely shifted to USDC, making it an alternative and acknowledging, to some extent, the failure of decentralization in the face of Circle and Tether's dominance. Meanwhile, attempts at algorithmic stablecoins like UST or rebasing stablecoins like Ampleforth have not achieved the expected results. Subsequently, legislation further worsened the situation. At the same time, the rise of institutional stablecoins has undermined experimentation.

However, one attempt has seen growth. Liquity stands out for its contract immutability and the use of Ethereum as collateral to drive pure decentralization. However, its scalability is lacking.

Now, they have recently launched V2, enhancing peg security through multiple upgrades and providing better interest rate flexibility when minting their new stablecoin BOLD.

However, several factors limit its growth. Compared to USDT and USDC, which have higher capital efficiency but no yield, its stablecoin's loan-to-value (LTV) ratio is about 90%, which is not high. Additionally, direct competitors providing intrinsic yields, such as Ethena, Usual, and Resolv, have LTVs reaching 100%.

But the main issue may be the lack of a large-scale distribution model. Because it remains closely tied to the early Ethereum community, it pays less attention to use cases like diffusion on DEX. While the cyberpunk atmosphere aligns with the spirit of cryptocurrency, failing to balance with DeFi or retail adoption may limit mainstream growth.

Despite limited total value locked (TVL), Liquity is one of the projects with the highest TVL in cryptocurrency, with a total of $370 million across V1 and V2, which is fascinating.

The "Genius Act"

This should bring more stability and recognition to stablecoins in the US, but it only focuses on traditional, fiat-backed stablecoins issued by licensed and regulated entities.
Any decentralized, crypto-collateralized, or algorithmic stablecoins either fall into a regulatory gray area or are excluded.

Value Proposition and Distribution

Stablecoins are the shovels in the gold rush. Some are hybrid projects primarily aimed at institutions (such as BlackRock's BUIDL and World Liberty Financial's USD1), designed to expand into the TradFi space; others come from Web 2.0 (such as PayPal's PYUSD), aiming to expand their total addressable market (TAMA) by reaching native cryptocurrency users, but they face scalability issues due to a lack of experience in new domains.

Then, there are some projects that focus primarily on underlying strategies, such as RWA (like Ondo's USDY and Usual's USDO), aiming to achieve sustainable returns based on real-world value (as long as interest rates remain high), and Delta-Neutral strategies (like Ethena's USDe and Resolv's USR), focusing on generating yields for holders.
All these projects share a commonality, albeit to varying degrees: centralization.

Even projects focused on decentralized finance (DeFi), such as Delta-Neutral strategies, are managed by internal teams. While they may leverage Ethereum in the background, overall management remains centralized. In fact, these projects should theoretically be classified as derivatives rather than stablecoins, but this is a topic I have discussed before.
Emerging ecosystems (like MegaETH and HyperEVM) also bring new hope.

For example, CapMoney will adopt a centralized decision-making mechanism in its initial months, aiming to gradually achieve decentralization through the economic security provided by Eigen Layer. Additionally, there are fork projects of Liquity like Felix Protocol, which is experiencing significant growth and establishing its position among the native stablecoins on that chain.
These projects choose to focus on distribution models centered around emerging blockchains and leverage the advantages of the "novelty effect."

Conclusion

Centralization itself is not negative. For projects, it is simpler, more controllable, more scalable, and more adaptable to legislation.

However, this does not align with the original spirit of cryptocurrency. What can guarantee that a stablecoin truly possesses censorship resistance? It is not merely an on-chain dollar but a real user asset?

No centralized stablecoin can make such a promise.

Therefore, while emerging alternatives are attractive, we should not forget the original stablecoin trilemma:

• Price Stability
• Decentralization
• Capital Efficiency