Author: Liu Ye Jing Hong

November 7, 2025 - The crypto market has yet to fully recover from the violent fluctuations of October 11, and a perfect storm triggered by stablecoins is sweeping through the entire DeFi world at an astonishing speed. In the past week, we have witnessed the most severe capital outflow from yield-bearing stablecoins since the Terra/UST collapse in 2022, totaling up to $1 billion. This is not just an isolated protocol failure, but a chain liquidation that reveals deep structural cracks in the modern DeFi ecosystem.

The trigger for the event was Stream Finance, a once highly regarded stablecoin protocol. However, as the dominoes began to fall, we realized that any risk could spread down five or six layers in this intricately complex Lego castle of DeFi, ultimately triggering a systemic crisis of trust.

Two Worlds of Stablecoins: Understanding the Roots of the Crisis

To understand the essence of this crisis, we must first recognize the fundamental divide that exists in the stablecoin space. Currently, stablecoins can be broadly divided into two categories:

1. 100% Reserve Stablecoins: Represented by USDT and USDC, these rely on the compliant operation of centralized institutions and robust financial audits. Their value is supported by 100% reserves of highly liquid assets in the real world (such as cash, government bonds, and commercial paper). These stablecoins provide genuine "stability" and confidence in rigid redemption, but at the cost of sacrificing the core principle of decentralization.

2. Algorithmic Stablecoins (Broadly Defined): This is a completely different world. Whether they are generated through over-collateralized lending or more complex synthetic mechanisms, as long as their core collateral is cryptocurrency, their stability mechanism relies on algorithms and on-chain contracts. The protagonists of this event, xUSD and deUSD, belong to this category.

The outbreak of this crisis is an extreme demonstration of the inherent fragility of the second type of stablecoins.

Death Spiral: The Fate of Algorithmic Stablecoins

The Achilles' heel of algorithmic stablecoins lies in their dependence on the price of the cryptocurrency used as collateral. During a market downturn, it is easy to trigger a fatal "death spiral":

The price of the collateralized crypto asset (Base Asset) plummets → The stablecoin loses market confidence due to insufficient collateral, causing its face value to drop and leading to a de-pegging → The originally high over-collateralization rate of 200% or even 300% is rapidly eroded in the face of the free fall of collateral prices → The protocol is forced to trigger large-scale on-chain liquidations, selling the collateral to the market at market prices → The selling further depresses the price of the collateral, triggering more liquidations…

This is a vicious cycle, a domino-style chain liquidation in DeFi. Once it occurs, it will be a fatal blow to the entire ecosystem.

From xUSD to Compound: A Systemic Collapse That Was Barely Contained

This time, the trigger for the death spiral was pulled by Stream Finance.

On November 3, Stream announced that its off-chain fund manager had caused a loss of $93 million and froze deposits and withdrawals. This news instantly ignited market panic. Its stablecoin xUSD de-pegged within hours, plummeting from $1 to $0.11, evaporating over $500 million in market value.

Since xUSD is one of the core collateral assets for Elixir Finance's stablecoin deUSD, the collapse of xUSD directly led to the collateral value of deUSD dropping to zero, triggering a second round of de-pegging.

Subsequently, the crisis spread to mainstream lending platforms such as Morpho and Euler. A large number of positions using xUSD and deUSD as collateral instantly turned into bad debts, deposit pools were drained, interest rates turned into extreme negative values, and depositors' funds were frozen.

At this critical moment, the entire DeFi world held its breath, turning its attention to the cornerstone of the industry - Compound. As one of the largest lending protocols, Compound also had affected markets. If Compound's liquidation mechanism were breached, or if it fell into crisis due to excessive bad debts, the consequences would be unimaginable.

Fortunately, the Compound team acted quickly, urgently shutting down some affected markets to prevent further escalation of the chain liquidation with a resolute determination. This decisive measure temporarily stabilized the situation, barely containing a systemic disaster that could have engulfed the entire DeFi.

We must recognize that if Compound were also to face liquidation, its impact would far exceed the UST collapse of 2022, directly shaking the foundations upon which the DeFi world exists.

Reflection and Outlook: The Original Intent and Future of Stablecoins

After this crisis, we need to not only review the technical risks but also question a fundamental issue: Was there a problem with the original intent behind the creation of these on-chain algorithmic stablecoins from the very beginning?

Upon examining these collapsed protocols, we find that most of them do not serve real use cases. Their existence seems to be solely for engaging in complex arbitrage games within the DeFi world. You can hardly see them in real scenarios that require stablecoins for payments, transactions, or value storage; instead, they vanish.

These "stablecoins," which do not serve payment scenarios but are born for speculation and arbitrage, have always been hidden landmines in the DeFi ecosystem. They have constructed a seemingly prosperous yet fundamentally fragile house of cards; once the market stirs, it can lead to catastrophic collapses.

This compels us to rethink what kind of stablecoins we truly need.

What we hope to see is for the stablecoin sector to return to its core value - achieving true inclusive finance. Future stablecoins should be tools that allow a broader range of users globally, especially the billions excluded from the traditional financial system, to use them without borders or permission. They should aim to reduce the cost of cross-border payments, protect personal assets from the erosion of hyperinflation, and become a powerful force for empowering individuals.

This painful lesson of $1 billion is not just a wake-up call about risk management. It is a strong signal calling for the entire industry to temporarily step back from the frenzied "DeFi Lego" game and re-examine our goals. What we need is a financial future that is not only more resilient in technology but also returns to its original intent, serving the broader welfare of humanity.

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