Tether (USDT): What Is It & How Does It Work?

Tether (USDT) is a special type of cryptocurrency known as a stablecoin. Its value is pegged to the US Dollar to keep the price relatively stable, hence the name stablecoin. That means one USDT should, theoretically, always be worth one USD. But is that a promise you can bank on? The TerraUSD (UST) carnage sent shockwaves through the crypto community, calling the integrity of all stablecoins into question. Luckily, they’re not all created equal. Some stablecoins are much safer than others - if you know how they work. As the third-largest cryptocurrency by market capitalization, here’s what you should know about Tether (USDT).

Tether vs TerraUSD at a Glance:

Who Created Tether (USDT) & Why? 

When Tether launched in 2014 it was originally called Realcoin, but rebranded several weeks later. It was co-founded by industry heavyweights Brock Pierce, Reeve Collins, and Craig Sellars. Pierce is a founding member of the Bitcoin Foundation, a cryptocurrency advocacy organization. He was also involved in several successful projects including online gaming, blockchain technology, and finance. 

Collins is a talented entrepreneur, launching various thriving companies that span online gambling, entertainment, and digital marketing. Sellers has extensive experience working for crypto companies such as Bitfinex (Tether’s sister company) and is currently a member of the Omni Layer organization. 

The crypto market’s extreme volatility has scared off too many would-be investors from participating. Not to mention, rapid price fluctuations also create a significant barrier for both everyday transactions and financial stability for crypto holders.

So the team set out to create a digital currency that could minimize the risks associated with high volatility. They believed a stablecoin would encourage wider crypto adoption, bridge the gap between traditional money and the new internet money, and make trading easier and more cost-effective. 

By pegging USDT to stable fiat currencies like the US Dollar, they aimed to offer a "best of both worlds" scenario. The ultimate goal was to provide quick transaction times and global reach by leveraging the benefits of traditional money.

How Does Tether Work? 

There are three main types of stablecoin: fiat-backed, crypto-back, and algorithmic. Each one uses a different playbook to stabilize the price. Tether (USDT) is a fiat-backed stablecoin, also known as an asset-back stablecoin, which happens to be the most straightforward and least risky of the bunch. 

For every fiat-backed stablecoin issued, there is a corresponding traditional currency held in a bank. In Tether’s case, the entire supply of USDT is 100% backed by the company’s cash reserves and other assets. The beauty of this method is that it’s simple and reliable. Even though USDT only exists on a blockchain, it is secured by real-world assets. 

If the price were to fall below $1 USD, the company could use its cash reserves to purchase back USDT from the market. This would reduce the circulating supply, creating scarcity, and help push the price back up. Knowing there is real-world money backing each USDT boosts confidence and faith in the system, especially in times of extreme volatility or crisis. 

Establishing a certain level also helps prevent panic selling in the event of a de-pegging. As we saw with TerraUSD (UST), panic selling contributed to the coin's infamous doom spiral that wiped out billions of dollars within days. Fortunately, Tether is secured with physical assets, while TerraUSD was an algorithmic stablecoin that relied on nothing more than complicated math and coding to maintain its value. 

The Supply Mechanism

Unlike traditional crypto, Tether cannot be mined nor does it have a maximum supply cap. Mining involves validating transactions and adding them to the blockchain with the help of high-powered computers that solve complex math puzzles. But Tether does not use this model. 

Instead, USDT is minted by the company that created it, Tether Operations Limited. New coins are created based on a combination of user demand and the supply required to maintain parity with the US Dollar. When people and institutions buy USDT directly from the Tether company, it mints an equivalent amount of USDT and sends it to their digital wallets. 

Tether is responsible for ensuring that the amount of USDT bought and sold is balanced against their actual cash reserves. The company periodically publishes transparency reports to prove its reserves and maintain user trust.

Blockchain Technology

A unique feature of Tether is that it does not have its own dedicated blockchain, a stark departure from most other cryptocurrencies. Instead, USDT is a layer-2 token which means it operates on several pre-existing blockchains, including but not limited to: 

• Bitcoin 
• Ethereum
• Tron
• EOS
• Algorand
• Solana
• OMG Network

How are Transactions Validate & Secure?

Tether transactions are validated and secured by the protocol of the respective underlying blockchain. For example, if you engage with Tether on the Bitcoin blockchain, transactions are secured and validated through Bitcoin’s Proof of Work (PoW) consensus mechanism. If you’re using the Ethereum blockchain, Tether transactions are validated through Ethereum’s Proof of Stake (PoW) consensus mechanism - and so on for all the other blockchains that host it.

Is it Safe to Use? Risks to Consider

Despite being the most widely used stablecoin, its safety and stability have been heavily scrutinized by users and regulators alike. Tether has claimed that its coins are 100% backed by reserves, which include traditional fiat currencies, cash equivalents, other assets, and receivables from loans made by Tether to third parties.

However, an investigation by the New York Attorney General (NYAG) raised concerns regarding the transparency and management of these reserves. In 2019, they were caught lying when court documents revealed that USDT was only approximately 74% backed by cash and equivalents.

The investigation also exposed that Tether and Bitfinix had overlapping management personnel and owners, creating a significant conflict of interest. They were fined $18.5 million, ordered to submit regular cash reserve reports, and banned from operating in the state of New York. 

Tether has also experienced turbulent relationships with some of its banking partners. In 2017, for example, its relationship with banks in Taiwan broke down, affecting its ability to process international wires. That same year, roughly $31 million worth of USDT was stolen by a hacker. 

Despite its storied past, Tether has maintained its peg through multiple market crashes and proven to be a much safer stablecoin than its algorithmic peers like TerraUSD. Because of this, Tether has established itself as the most popular stablecoin and the third-largest crypto by market capitalization.

Ready to Test Drive Tether (USDT)? 

With its value pegged to the US Dollar, Tether provides an excellent low-risk way to explore the crypto market without worrying about volatility. So if you’re ready to wet your whistle but the buying process is holding you back, a Localcoin ATM is the way to go. 

These machines work just like the traditional bank ATMs you’re used to but are designed specifically for stress-free crypto transactions. Guided prompts make the entire process user-friendly and super fast.