I know, there are many worries around HF20 and SBD is certainly not one of the most urgent ones, but as you will notice, the printing of SBD has been restarted and rewards are paid in SBD again.

This is great for us during a bull market. The reason being that these SBD do not drain the reward pool and thus we can all get more rewards. Hooray!!!

The problem that will come back to bite us big time, is that the SBD are not being printed because the debt ratio has recovered, but because HF20 allows printing them until the haircut at 10% debt.

Haircut? Debt?

SBD reflect a type of debt, think of it as the chain owning you steem, so the chain is in debt. Good thing is that the chain will always pay and does not cheat, you can liquidate your SBD for 1$ in STEEM at any moment (well technically a few days and you need to be a tech nerd to do that but nevermind).

source

Debt can be very dangerous if there is a crash in steem prices. Suddenly the debt, denoted in $, could be more than the market cap of steem, causing a massive inflation when redeemed, potentially destroying steem in the process.

To prevent this a haircut has been implemented that lowers the conversion of steem to $ if the debt should ever exceed 10%.

Example: Lets say market cap of steem is 100$. And there are 5 SBD. Now the debt ratio is obviously 5%. You can redeem one SBD for 1$ in steem.
But now assume that steem crashes by 90% (pretty bad but it is crypto and that may happen). The new market cap of steem is 10$ putting the 5 SBD at a debt ratio of 50%!.

Without haircut that would mean redeeming them would cause a 50% inflation for steem, sending the prices into a further downward spiral. The haircut however states that all SBD can only ever be redeemed for a maximum of 10% of market cap of steem, or in this case 1$. So instead of 1 SBD = 1 $ we now have 1 SBD = 0.2 $ and the peg is broken!

Protecting Steem against the haircut

I think that such a haircut rule does make sense for emergencies, but it should be a very rarely used, best never. In the past measures were put in place to make such a haircut highly unlikely. SBD can only be destroyed by users, never issued. The chain reduces printing SBD at 2% debt and completely stop at 5%. Thus a 50% price crash can never trigger a broken lower peg.

Indeed we have seen this working beautifully. The past crash of steem from almost 10$ to 1$ has pushed the debt up to 7% or so, but the peg of SBD did hold. Because the debt ratio before the crash was not that high.

Setting Steem up for a broken peg

The big problem is that these safety measures were removed in HF20. SBD will be printed at full rate up to 5% and at a reduced rate right up to 10%. With these rules in play the last bear market would have crashed the SBD peg!
And it is safe to say that there will be another crash in the future. It is just a matter of time now until SBD will be below 1$.
And it does not even have to be a big crash, at 10% debt any movement down will break the peg.

You just cant have it all. There is no magic money. Either only print a little SBD that is properly collateralised against the steem that exist, or print a lot that is no longer properly collateralised.

What are the consequences?

I think when people realise that their SBD is only worth 0.8, 0.6 or even less there will be a massive loss of trust in the steem economy. Why have a stablecoin if it is not stable? What good does a peg do that only works when everything is going great anyways?

Then I read some people telling me that the debt ratio is public information and when it gets close to 10% people can just sell sbd if they dont want to take that risk. That is absolutely right but there are two flaws in this argument. First people are not aware of this and believe that SBD are still solid. Second, why then have SBD at all? SBD will now rise with steem in the bull and fall with steem in the bear with little added security. If I think steem will crash, then I can no longer flee into SBD, I have to leave the steem economy and get fiat or bitUSD or other real stablecoins. SBD has become a strange and misleading second version of STEEM.... If all we care about is more rewards, why not just simply remove SBD and just print more steem?

Stability only matters when things go bad. A stablecoin that can crash in dire times is not a stable coin at all. It is as useful as a fire insurance that only pays if your house does not burn down. Yet there is no disclaimer in HF20 that the philosophy behind SBD was changed. Many people will put their money into SBD thinking it is safe and then be pissed once they have lost their money. They will claim that steem is a scam and sadly they will have a point.

Just making this post so I can point to it in a few years time to tell you 'told you so... '. But I am happy for anyone reading this in time and not using SBD anymore when they expect a bear market around the corner.