Algorithmic Stablecoin Definition

An algorithmic stablecoin maintains a target price, usually one United States dollar, through code that expands or contracts token supply. Instead of holding cash or other reserve assets, the protocol relies on smart contracts that monitor market prices and adjust circulation in real time.

Supply-demand mechanics

• When market price moves above the peg, the contract mints additional tokens and offers them to buyers; the extra supply pressures the price lower.
• When price falls below the peg, the system removes tokens from circulation or rewards users for depositing them, reducing supply and nudging the price higher.

Seigniorage distribution

The protocol captures seigniorage—the value created when new tokens enter circulation—and redistributes it within the ecosystem, rather than directing it to a central issuer.

Notable designs

• TerraUSD and LUNA formed a dual-token model in which LUNA absorbed supply changes for UST. In 2022 a liquidity shock triggered a rapid unwind and the peg collapsed.
• Frax combines partial collateral with algorithmic supply changes, aiming to dampen volatility while preserving decentralization.

Developers continue to refine these models, testing collateral ratios, redemption incentives, and oracle designs to improve stability and resilience.