Recently, attacks have been leveled against Terra, suggesting that it is doomed to collapse as UST reaches unsustainable levels. Specifically, concerns have been raised that at a low enough LUNA price, users will no longer be able to redeem $1 of UST for $1 of LUNA. In what circumstances would the price and supply of LUNA and the supply of UST constitute a serious threat to UST redemption, i.e. create an imbalance wherein the UST-LUNA exchange mechanism would no longer function properly? What is the likelihood of such a scenario, and how might it be mitigated?

The Terra protocol’s market module enables users to always trade 1 USD worth of Luna for 1 UST, and vice versa, incentivizing users to maintain the price of Terra. This same principle is true for all Terra stablecoin denominations. When the price of UST goes above or below the price of $1 the anybody can mint ethier UST or Luna for lower than the market price using the market mechanism and sell it on the open market. This has the effect of both making a profit for the arbitrager and moving the price of UST closer to $1.

To put it simply in a layman's term, it's a basic high-schooler demand and supply control.

If there are too many UST, more than the demand actually wants. In real-world goods, we call it an oversupply, for the currency, we call it inflation. And how do we deal with this kind of situation?

The government can perform Supply reduction. i.e., buy it away from the market, force lower production, incentivized contraction monetary policy.

On the contrary, if there are too few UST, less than the demand wanted. This will make UST go above its pegged value. An act of Supply expansion must be performed to increase the supply in the market to meet the demand.

In Terra, the LUNA-Terra market act as an automated incentive without the policy from the centralized entity such as the government. The best way to track this nightmare is to see the differences between LUNA burnt and UST burnt and see what happens.

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As it can see, in the major of the cases the LUNA burnt trend is better than the UST burnt trend. As well, if we take a look at the axis, LUNA burnt numbers are higher in the scale and then, the LUNA burnt is higher all days. Then, because the LUNA burn is much greater than the UST burn each day this mechanism, the system has been very healthy since 2022. The nightmare would occur when the scenario is on the other way around and more UST is burnt in comparison to LUNA.