Are Terra (LUNA) holders Getting Scammed?

Jack Niewold:  ‘BURNED’ LUNA DOESN’T GET BURNED Previously if you swapped UST for LUNA, it would burn LUNA. NOW, if a user creates UST, some percentage of the LUNA is used to buy BTC. Obviously, this creates inflationary price pressure on LUNA.

So, it’s bad for LUNA price, for one. But it’s also weird to me that this core ‘burn’ mechanism has now been used to just market sell, then buy BTC. That’s not a burn, that’s not deflationary at all.

THE BTC BACKSTOP IS PAID FOR BY ICO PROFITS The BTC backstop is $10b, and paid for with a few different sources: 1. $3b from LFG (which is funded by the ICO), in the form of LUNA, which is further downwards price pressure on LUNA 2. $7b of seignorage profits

Those seignorage profits are also LUNA, which will also drive LUNA price down. All of this makes growing the reserve (arguably) unsustainable, as LFG is just: 1. ‘Donating’ ICO capital 2. Using ‘burned’ profits to buy BTC.

Erica Wall:  I think Terra is making a mistake to use LUNA funds that originated from the ICO to build the LFG reserve. The goal of UST is to be (i) decentralized and (ii) sustainable. This reserve is neither of those two things.

LFG reserve was funded with 50m LUNA that came from the initial ICO. That’s 5% of the entire LUNA supply. Imo it sets a bad precedent when an algostable chooses to leverage non-renewable liquidity sources to maintain a peg (except for in very early-stage bootstrapping).

And when you take BTC and put it into a multisig wallet and make your protocol depend on it, decentralization goes out the window. You can’t fork LUNA because Terraform Labs and LFG gets to choose the winner since they control the BTC multisig in control of the reserve.

The reason for establishing this reserve could be thought of as a good idea because stability is often psychological and self-reinforcing. If people are worried about the UST peg, it is harder to maintain it because in turbulent times people will try to ”escape to safety”.

Things that are perceived as having the strongest peg also see much less stress testing of their peg. That’s why a 3B safety net can yield much more than 3B in cost savings, because of the psychological impact that leads to way less stress tests in perpetuity.

But, using these kind of one-off solutions to build a reserve is a huge miss because it still undermines the belief in the system’s sustainability if you leverage ICO funds to build it. It inspires much greater confidence if you sustainably built a reserve from protocol fees.

LFG is centralized and funded by ICO money which is inherently unsustainable, violating the two most important tenets of a decentralized algostable.