What is a Pegged Token?

definition

BLOCKCHAIN GLOSSARY

A pegged token is a cryptocurrency designed to maintain a stable value relative to a reference asset, such as a fiat currency, commodity, or another cryptocurrency.

A pegged token, also known as a stablecoin, is a digital asset whose market value is intentionally stabilized by being pegged to the value of an external reference asset. This peg is maintained through various collateralization or algorithmic mechanisms. The primary purpose is to provide price stability within the volatile cryptocurrency ecosystem, enabling functions like a reliable medium of exchange, a stable unit of account for decentralized finance (DeFi) protocols, and a predictable store of value for traders and users.

The stability mechanisms for pegged tokens fall into three main categories. Fiat-collateralized tokens, like USDC or USDT, hold reserves of the pegged asset (e.g., U.S. dollars) in a bank account. Crypto-collateralized tokens, such as DAI, are backed by an overcollateralized pool of other cryptocurrencies, managed by smart contracts on a blockchain. Algorithmic tokens, like the original design of TerraUSD (UST), use smart contract algorithms to automatically expand or contract the token supply in response to market demand, without direct collateral backing.

Pegged tokens are fundamental infrastructure for the broader blockchain economy. They serve as the primary liquidity pair on decentralized exchanges (DEXs), the base currency for lending and borrowing in DeFi, and a bridge between traditional finance and crypto markets. Their stability is critical; a depeg event, where the token's market price deviates significantly from its target, can trigger cascading liquidations and systemic risk, as witnessed in several high-profile failures. Therefore, the transparency of reserves and the robustness of the stabilization mechanism are key factors in assessing a pegged token's reliability.

how-it-works

MECHANISM

How Pegged Tokens Work

An explanation of the technical and economic mechanisms that enable digital assets to maintain a stable value relative to a reference asset.

A pegged token is a digital asset whose value is algorithmically or institutionally stabilized to track the price of a reference asset, such as a fiat currency, commodity, or another cryptocurrency. This price stability is the core feature that distinguishes pegged tokens from volatile cryptocurrencies like Bitcoin or Ethereum. The reference asset is known as the peg, with common examples being the US Dollar (USD), gold, or a basket of assets. The primary goal is to create a blockchain-native medium of exchange or store of value that mitigates the price volatility inherent to most crypto markets.

The stability mechanism is enforced through various collateralization models. In a fiat-collateralized model, like that used by Tether (USDT) or USD Coin (USDC), each token is backed by an equivalent reserve of the fiat currency held in a bank. Crypto-collateralized models, such as MakerDAO's DAI, use an over-collateralized vault of other cryptocurrencies (e.g., ETH) to mint the stable token, with automated liquidation mechanisms to maintain the peg. Algorithmic models, in contrast, use smart contracts to algorithmically expand or contract the token supply in response to market demand, without direct collateral backing.

Maintaining the peg requires active arbitrage and liquidity. When a token's market price deviates from its target (e.g., trading at $0.98 instead of $1.00), arbitrageurs are incentivized to buy the discounted asset and redeem it for the full $1.00 worth of collateral, or mint new tokens when the price is above $1.00, thereby restoring equilibrium. This process relies on deep liquidity pools, typically on decentralized exchanges (DEXs), and transparent, verifiable collateral reserves. A depeg event occurs when this mechanism fails, causing the token's price to significantly and persistently diverge from its intended value.

Pegged tokens are fundamental infrastructure for Decentralized Finance (DeFi), serving as the primary stable medium for lending, borrowing, and trading. They enable users to transact and hold value without exposure to crypto volatility, acting as the on-chain equivalent of cash. Beyond fiat pegs, tokens can be pegged to other assets like wrapped Bitcoin (WBTC), which represents Bitcoin on the Ethereum blockchain, or to inflation-resistant assets like gold. Each peg type involves distinct trust assumptions regarding the custodian, collateral verifiability, and the robustness of the algorithmic code.

key-features

MECHANISMS & CHARACTERISTICS

Key Features of Pegged Tokens

Pegged tokens are digital assets designed to maintain a stable value relative to a reference asset, such as a fiat currency or commodity, through various collateralization and algorithmic mechanisms.

01

Collateralization Models

Pegged tokens maintain their value through different forms of collateral backing.

Fiat-Collateralized: Each token is backed 1:1 by reserves held in a bank (e.g., USDC, USDT).
Crypto-Collateralized: Over-collateralized with other cryptocurrencies to absorb volatility (e.g., DAI).
Algorithmic: Uses smart contract algorithms and supply adjustments to maintain the peg without direct collateral (e.g., the original TerraUSD model).

02

Price Stability Mechanisms

Protocols employ active mechanisms to defend the peg.

Arbitrage Incentives: When the price deviates, users are incentivized to mint or burn tokens to profit from the difference, pushing the price back to the target.
Stability Fees & Interest Rates: Adjusting borrowing costs or rewards for stability providers (like in MakerDAO's DAI Savings Rate) to influence supply and demand.
Direct Redemption: The ability to redeem tokens directly for the underlying collateral at the peg value.

03

Centralization vs. Decentralization

A core trade-off in pegged token design is the degree of trust required.

Centralized Issuance: Relies on a single entity to hold reserves and manage minting/burning (e.g., Tether). Offers simplicity but introduces counterparty risk.
Decentralized Protocols: Governed by smart contracts and decentralized autonomous organizations (DAOs), like Maker. Reduces trust in a single entity but increases smart contract risk and complexity.

04

Primary Use Cases

Pegged tokens are fundamental infrastructure for DeFi and payments.

Medium of Exchange: Enable stable-value transactions and remittances on-chain.
Trading Pair & Liquidity: Serve as the base trading pair on decentralized exchanges (DEXs) to avoid volatility.
Collateral & Lending: Used as low-volatility collateral in lending protocols and for earning yield through savings products.

05

Risks & Failure Modes

Maintaining a peg is not guaranteed and carries specific risks.

De-pegging Events: Can occur due to bank failures (fiat-backed), collateral liquidation cascades (crypto-backed), or loss of market confidence (algorithmic).
Regulatory Risk: Centralized issuers face scrutiny over reserve transparency and compliance.
Oracle Risk: Decentralized protocols depend on price oracles for accurate collateral valuation; manipulation can break the peg.

06

Related Concepts

Understanding pegged tokens requires familiarity with adjacent systems.

Stablecoins: The most common category of pegged tokens, typically pegged to fiat currencies.
Synthetic Assets: Tokens that track the price of an asset (like gold or stocks) but are not directly redeemable for it.
Rebasing Tokens: A type of algorithmic stablecoin where the token supply automatically expands or contracts in users' wallets to target a price.

examples

CATEGORIES & MECHANISMS

Examples of Pegged Tokens

Pegged tokens maintain a stable value relative to an external reference asset, but they achieve this stability through different mechanisms, each with distinct trade-offs in decentralization, collateralization, and risk.

01

Fiat-Collateralized Stablecoins

These are the most common pegged tokens, backed 1:1 by reserves of traditional currency held in bank accounts. USDC (Circle) and USDT (Tether) are prominent examples. Their stability relies on the issuer's transparency and solvency, as they are centralized entities that manage the off-chain reserves and mint/burn tokens accordingly. Audits and attestations are used to verify reserve backing.

EXPLORE

02

Crypto-Collateralized Stablecoins

These tokens are over-collateralized with other cryptocurrencies to maintain their peg. DAI is the canonical example, generated as debt against crypto assets locked in MakerDAO's Vaults. To account for the volatility of the collateral (e.g., ETH), the system requires a collateralization ratio significantly above 100%. Stability is maintained through automated smart contract logic, liquidations, and governance, making it a decentralized alternative.

EXPLORE

03

Algorithmic Stablecoins

These tokens use on-chain algorithms and smart contracts to control supply, expanding or contracting it to maintain the peg without direct collateral backing. Ampleforth (AMPL) is a key example, where every wallet's balance adjusts proportionally based on market conditions (rebase). This category is known for its high decentralization but carries significant depeg risk, as seen in historical failures like Terra's UST, which relied on a dual-token seigniorage model.

04

Commodity-Backed Tokens

These tokens peg their value to physical assets like precious metals. PAX Gold (PAXG) is a leading example, where each token represents one fine troy ounce of a London Good Delivery gold bar stored in professional vaults. This provides exposure to gold's price within the blockchain ecosystem. The peg's integrity depends on the custodian's security and the verifiability of the physical reserves.

EXPLORE

05

Wrapped Native Assets

While not "stable" in price, these are a fundamental type of pegged token that represent a native asset on a non-native blockchain. Wrapped Bitcoin (WBTC) is the prime example, where actual BTC is custodied, and an equivalent amount of ERC-20 WBTC is minted on Ethereum. The 1:1 peg to Bitcoin is maintained by a network of merchants and custodians, enabling BTC to be used in Ethereum's DeFi ecosystem.

EXPLORE

06

Cross-Chain Bridge Assets

These are pegged tokens minted when an asset is transferred between blockchains via a bridge. Examples include USDC.e (USDC bridged to Avalanche) or Multichain's anyUSDC. The peg is typically secured by the bridge's mechanism, which can be custodial (trusted validators hold the original asset) or use more decentralized liquidity pool or mint-and-burn models. Bridge security is the critical point of failure for these pegs.

ASSET CLASS COMPARISON

Pegged Token vs. Native Asset vs. Stablecoin

A comparison of core blockchain asset types based on their issuance, value backing, and primary function.

Feature	Pegged Token	Native Asset	Stablecoin
Definition	A token whose value is algorithmically or custodially pegged to another asset.	The foundational asset of a blockchain, used to pay transaction fees and secure the network.	A cryptocurrency designed to maintain a stable value, typically pegged to a fiat currency.
Primary Value Source	Price oracle or reserve backing of the target asset.	Network utility, security demand, and speculative value.	Collateral reserve (fiat, crypto, commodities) or algorithmic mechanism.
Issuance Control	Smart contract or authorized minter (often centralized entity).	Protocol-defined monetary policy (e.g., mining, staking).	Centralized entity, decentralized autonomous organization (DAO), or algorithm.
Canonical Settlement Layer	Host blockchain (e.g., Ethereum for an ERC-20 pegged token).	Its own native blockchain (e.g., Bitcoin, Ethereum).	Host blockchain (e.g., Ethereum for USDC).
Primary Use Case	Represent off-chain or cross-chain assets (e.g., wBTC, stETH).	Network security (staking/fees), store of value, base currency.	Medium of exchange, unit of account, hedging volatility.
Inherent Protocol Security
Collateralization Risk	Varies (e.g., over-collateralized, under-collateralized, or fully backed).		Central point of failure (custodial) or smart contract/algorithmic risk.
Example	wBTC (Wrapped Bitcoin), stETH (Lido Staked Ether)	BTC (Bitcoin), ETH (Ether), SOL (Solana)	USDC, DAI, USDT

ecosystem-usage

PEGGED TOKEN

Ecosystem Usage and Protocols

A pegged token is a digital asset whose value is algorithmically or custodially linked to the price of another asset, enabling stable value transfer across blockchain ecosystems.

01

Stablecoins

The most common type of pegged token, designed to maintain a 1:1 value parity with a fiat currency like the US Dollar. They provide price stability for trading, lending, and as a unit of account.

Fiat-Collateralized (e.g., USDC, USDT): Backed by reserves held in traditional banks.
Crypto-Collateralized (e.g., DAI): Backed by overcollateralized crypto assets and governed by smart contracts.
Algorithmic: Use supply-contracting algorithms (without direct collateral) to maintain the peg, though this model carries significant depeg risk.

EXPLORE

02

Wrapped Assets

Tokens that represent a native asset from one blockchain on another network, pegged 1:1 to the original. They enable cross-chain functionality by locking the original asset and minting a representative token on the destination chain.

Examples: Wrapped Bitcoin (WBTC) on Ethereum, Wrapped SOL (wSOL) on Solana.
Mechanism: A custodian (often a multi-sig) holds the underlying asset and mints/burns the wrapped version based on user deposits and withdrawals.
Use Case: Allows Bitcoin to be used in Ethereum's DeFi ecosystem for lending, trading, and yield farming.

EXPLORE

03

Bridge-Issued Tokens

Assets minted by cross-chain bridges when moving value between networks. These are pegged to the source asset but introduce bridge-specific risks, including custodian solvency and smart contract vulnerabilities.

How it works: User deposits Asset A on Chain 1, the bridge locks it and mints pegged 'bridge-Asset A' on Chain 2.
Canonical vs. Non-Canonical: A canonical representation (like WETH) is the official, widely accepted wrapped version. Bridge-issued tokens are often non-canonical, creating fragmentation.
Risk Highlight: Major exploits (e.g., Wormhole, Nomad) often target the bridge's custodial contracts holding the pegged assets' collateral.

EXPLORE

04

Synthetic Assets

Pegged tokens that track the price of real-world assets (RWAs) or indices through financial engineering, not direct collateralization. They use oracles and derivative mechanisms to maintain price feeds.

Examples: Synthetix's sUSD (pegged to USD) and sBTC (pegged to Bitcoin).
Mechanism: The peg is enforced by a system of staked collateral (SNX) and dynamic issuance based on oracle price data.
Expanded Use: Enables on-chain exposure to commodities, forex, and equities without holding the underlying asset.

EXPLORE

05

Peg Maintenance Mechanisms

The methods used to keep a token's price aligned with its target. Failure of these mechanisms results in a depeg event.

Arbitrage: Primary force for stablecoins; traders buy discounted tokens or sell overpriced ones to restore parity.
Redemption: Direct exchange of the pegged token for its underlying collateral at face value (e.g., 1 USDC for $1 from Circle).
Algorithmic Rebasement: Adjusts token supply programmatically (e.g., burning tokens when price is low, minting when high).
Governance Intervention: Token holders vote on parameter changes or direct interventions to restore the peg.

>99%

Stablecoin Peg Uptime

06

Depeg Risks & Events

When a pegged token loses its intended price parity. This is a critical failure mode with systemic implications.

Causes: Collateral insolvency (e.g., Terra/LUNA), smart contract exploits, oracle failure, loss of market confidence, or regulatory action.
Famous Examples: UST's algorithmic depeg (May 2022), USDC's temporary depeg during the SVB bank crisis (March 2023).
Impact: Can trigger cascading liquidations in DeFi protocols, massive losses for holders, and erosion of trust in the underlying mechanism.

security-considerations

PEGGED TOKEN

Security Considerations and Risks

Pegged tokens, or stablecoins, maintain a fixed value relative to an external asset, but their security depends entirely on the underlying collateral and governance mechanisms. This section details the core risks associated with different pegging models.

01

Collateralization Risk

This is the risk that the backing assets are insufficient to redeem all outstanding tokens. For fiat-collateralized tokens, this involves custody and solvency of the issuer. For crypto-collateralized tokens (e.g., DAI), it involves liquidation mechanisms and collateral volatility. A black swan event causing a rapid drop in collateral value can break the peg if liquidations fail.

02

Centralization & Custodial Risk

Most fiat-backed stablecoins rely on a central entity holding reserves in bank accounts. This creates counterparty risk—the issuer could freeze funds, be subject to regulatory seizure, or become insolvent. Users must trust the issuer's audits and transparency. This is a fundamental trade-off between decentralization and the stability provided by traditional assets.

03

Algorithmic Peg Failure

Algorithmic stablecoins (e.g., Terra's UST) maintain their peg through seigniorage and rebasing mechanisms without direct collateral. Their security relies on continuous growth and market confidence. If demand collapses, a death spiral can occur: the peg breaks, causing sell pressure on the governance token, which further destabilizes the system. This model carries significant reflexivity risk.

04

Oracle & Smart Contract Risk

Crypto-collateralized and algorithmic pegs depend on price oracles for accurate asset valuations. A corrupted or manipulated oracle feed can trigger incorrect liquidations or allow the minting of undercollateralized debt. Additionally, bugs in the core smart contracts governing minting, burning, or stability mechanisms can be exploited to drain reserves or break the peg.

05

Regulatory & Legal Risk

Pegged tokens, especially those tied to fiat currencies, face intense regulatory scrutiny. Authorities may classify them as securities, impose reserve requirements, or restrict their issuance. Actions against a major issuer could cause market-wide instability. Sanctions compliance also poses a risk, as addresses can be blacklisted, freezing specific token holdings on-chain.

06

Bridge & Interoperability Risk

Pegged tokens often exist on multiple blockchains via cross-chain bridges. These bridges become critical points of failure. If a bridge is compromised (e.g., through a hack or validator attack), the wrapped tokens on the destination chain may become unbacked, instantly depegging. This adds a layer of counterparty risk to the bridge operators and their security models.

PEGGED TOKENS

Common Misconceptions

Clarifying the technical mechanisms and risks behind tokens designed to track the price of another asset.

No, a stablecoin is a specific type of pegged token, but not all pegged tokens are stablecoins. A pegged token is a digital asset whose value is algorithmically or custodially linked to the price of another asset. While stablecoins are pegged to stable assets like the US Dollar (e.g., USDC, USDT), pegged tokens can track volatile assets like Bitcoin (wBTC, renBTC), commodities, or even other cryptocurrencies. The term defines the mechanism, not the stability of the underlying asset.

MECHANISMS

Technical Details: Peg Maintenance

A pegged token's value is not guaranteed by fiat but by a set of on-chain mechanisms designed to maintain its target price. This section details the core technical strategies, from algorithmic models to collateralized reserves, that protocols use to defend their peg.

An algorithmic stablecoin is a type of pegged token that uses on-chain algorithms and smart contracts, rather than direct collateral, to regulate its supply and maintain its price peg. It works through a system of expansion and contraction. When the token's market price rises above the peg (e.g., $1.01), the protocol algorithmically mints and distributes new tokens to increase supply, pushing the price down. Conversely, when the price falls below the peg (e.g., $0.99), the protocol creates incentives—often by offering discounted future tokens or a share of seigniorage—for users to burn or lock their tokens, reducing supply to push the price back up. This model relies entirely on market participants' rational economic behavior and the credibility of the algorithm, as seen in early designs like Basis Cash or the more recent Frax Finance v2.5 (AMO).

PEGGED TOKEN

Frequently Asked Questions (FAQ)

Common questions about pegged tokens, their mechanisms, and their role in decentralized finance.

A pegged token is a cryptocurrency designed to maintain a stable value relative to a reference asset, such as a fiat currency, commodity, or another cryptocurrency. It works through a pegging mechanism, which can be collateralized (backed by reserves), algorithmic (controlled by smart contract logic), or a hybrid of both. For example, a USDC token is a collateralized stablecoin where each token is backed by one US dollar held in reserve, while an algorithmic stablecoin might use a rebasing mechanism to automatically adjust its supply to maintain the peg. The primary goal is to provide price stability within a volatile crypto ecosystem.

Pegged Token