Decrypting DeFi is Decrypt’s DeFi email newsletter. Art: Grant Kempster

Amid the craziest week in crypto ever, the collapse of Terra’s UST stablecoin and governance token LUNA emerged as the biggest story. Amid the crash, LUNA, formerly a top 10 coin by market cap, fell 100% to fraction of a fraction of a cent, and UST, designed to stay pegged at $1, bottomed out at 13 cents.

So what the hell happened? Grab your coffee, you’re going to need it.

There were several forces at work. The first is the mechanism behind Terra and its stablecoin. The second was general panic. Many investors—who may have been wholly unaware of exactly why the stablecoin was dropping—rushed to the exit at the first whiff of a depegging.

As mentioned in a previous edition of Decrypting DeFi, Anchor Protocol, Terra’s high-interest savings account, has been steadily reducing the rates it offers holders for depositing UST.

What began at 20% and had been marketed as “stable,” steadily began to drop following the passing of Proposal 20 back in March. This proposal meant that if Anchor’s reserves increased by 5%, the interest rate would increase. If these reserves decreased by 5%, the interest rate would also decrease.

Moreover, this rate was expected to continuously drop 1.5 percentage points each month if there were more lenders than borrowers on the platform (which there have been historically).

With interest rates expected to fall, UST’s number one use case began to waver. On April 23, for example, more than 72% of all UST in circulation was locked up in Anchor. Pretty much the…

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