Terra was a blockchain ecosystem built around UST, an algorithmic stablecoin designed to maintain its $1 peg through a mint-and-burn mechanism with LUNA. At its peak in April 2022, the ecosystem had $18B in TVL. Anchor Protocol promised 20% APY. This yield was astronomical compared to traditional banking. Investors worldwide trusted that the economic model was sound.
UST's peg depended entirely on market confidence and a mint/burn arbitrage mechanism. If UST fell below $1, arbitrageurs would burn UST to mint LUNA. In theory, this maintains the peg. In practice, it only works if people trust LUNA has value. On May 7, 2022, large holders began selling UST. UST peg broke, dropping to $0.91. This triggered panic: UST holders rushed to redeem UST for LUNA. The smart contract had to mint MORE LUNA to absorb redemptions. LUNA supply exploded from 350 million to 6.5 TRILLION tokens in 72 hours. With infinite supply and collapsing demand, LUNA's price went to zero. ~$40 billion in value evaporated in less than a week.
Algorithmic stablecoins are not stablecoins — they are reflexive instruments that collapse in bear markets. Any yield dramatically exceeding market generation (20% on UST vs 5% elsewhere) is unsustainable or a Ponzi. Never trust a peg mechanism that depends on the token it controls. Read our guide on <a href="https://www.web3farmyard.com/blog/how-to-identify-scam-projects-in-crypto/">how to identify scam projects</a> to understand these red flags.