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.md .pdf
repository open issue
Contents
 * Terra and Luna
 * How the Terra protocol works
   * Stablecoins
   * Expansion and contraction
   * The market module and arbitrage
   * Scalability
   * Seigniorage
 * Validators
   * Consensus
   * Staking
   * Delegators
   * Phases of Luna
   * Bonding, staking, and delegating
   * Unbonding
   * Redelegation
   * Rewards
   * Slashing
 * Governance
   * Proposals
   * Voting process
   * Deposits


ABOUT THE TERRA PROTOCOL


CONTENTS

 * Terra and Luna
 * How the Terra protocol works
   * Stablecoins
   * Expansion and contraction
   * The market module and arbitrage
   * Scalability
   * Seigniorage
 * Validators
   * Consensus
   * Staking
   * Delegators
   * Phases of Luna
   * Bonding, staking, and delegating
   * Unbonding
   * Redelegation
   * Rewards
   * Slashing
 * Governance
   * Proposals
   * Voting process
   * Deposits


ABOUT THE TERRA PROTOCOL#

The Terra protocol is the leading decentralized and open-source public
blockchain protocol for algorithmic stablecoins. Using a combination of open
market arbitrage incentives and decentralized Oracle voting, the Terra protocol
creates stablecoins that consistently track the price of any fiat currency.
Users can spend, save, trade, or exchange Terra stablecoins instantly, all on
the Terra blockchain. Luna provides its holders with staking rewards and
governance power. The Terra ecosystem is a quickly expanding network of
decentralized applications, creating a stable demand for Terra and increasing
the price of Luna.


TERRA AND LUNA#

The protocol consists of two main tokens, Terra and Luna.

 * Terra: Stablecoins that track the price of fiat currencies. Users mint new
   Terra by burning Luna. Stablecoins are named for their fiat counterparts. For
   example, the base Terra stablecoin tracks the price of the IMF’s SDR, named
   TerraSDR, or SDT. Other stablecoin denominations include TerraUSD or UST, and
   TerraKRW or KRT. All Terra denominations exist in the same pool.

 * Luna: The Terra protocol’s native staking token that absorbs the price
   volatility of Terra. Luna is used for governance and in mining. Users stake
   Luna to validators who record and verify transactions on the blockchain in
   exchange for rewards from transaction fees. The more Terra is used, the more
   Luna is worth.


HOW THE TERRA PROTOCOL WORKS#


STABLECOINS#

Stablecoins are the main feature of the Terra protocol: crypto assets that track
the price of an underlying currency. As a digital form of currency, Terra
stablecoins can be used just like fiat currency with blockchain’s added
benefits: an unchangeable public ledger, instant transactions, faster settlement
times, and fewer fees.

Stablecoins are only valuable to users if they maintain their price peg. The
Terra protocol uses the basic market forces of supply and demand to maintain the
price of Terra. When the demand for Terra is high and the supply is limited, the
price of Terra increases. When the demand for Terra is low and the supply is too
large, the price of Terra decreases. The protocol ensures the supply and demand
of Terra is always balanced, leading to a stable price.


EXPANSION AND CONTRACTION#

Imagine the whole Terra economy as two pools: one for Terra and one for Luna. To
maintain the price of Terra, the Luna supply pool adds to or subtracts from
Terra’s supply. Users burn Luna to mint Terra and burn Terra to mint Luna, all
incentivized by the protocol’s algorithmic market module.

 * Expansion: When the price of Terra is high relative to its peg, supply is too
   small and demand is too high. The protocol incentivizes users to burn Luna
   and mint Terra. The new supply of Terra makes its pool larger, balancing
   supply with demand. Users mint more Terra from burned Luna until Terra
   reaches its target price. The Luna pool gets smaller in this process,
   increasing the price of Luna.

 * Contraction: When the price of Terra is too low relative to its peg, supply
   is too large and demand is too low. The protocol incentives users to burn
   Terra and mint Luna. The decrease in Terra’s supply causes scarcity, and the
   price of Terra increases. More Luna is minted from burned Terra until Terra
   reaches its target price. The Luna pool increases and lowers in price.

Luna is the variable counterpart to the stable asset Terra. By modulating
supply, Luna’s price increases as the demand for stablecoins increases.


THE MARKET MODULE AND ARBITRAGE#

The price stability of Terra is achieved by the protocol’s algorithmic market
module, which incentivizes the minting or burning of Terra through arbitrage
opportunities. Arbitrage occurs when a user profits from price differences
between markets.

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.

Users can access the mint and burn function of the market module by performing
market swaps in Terra Station. To learn how to use the market swap feature of
Terra Station, visit the Terra Station market swap guide.

 * Example
   If 1 UST is trading at 1.01 USD, users can use the market swap feature of
   Terra Station to trade 1 USD of Luna for 1 UST. The market burns 1 USD of
   Luna and mints 1 UST. Users can then sell their 1 UST for 1.01 USD, profiting
   .01 USD through arbitrage, adding to the UST pool. This arbitrage continues
   until UST price falls back to match the price of USD, maintaining Terra’s
   peg.

The same arbitrage mechanism works in reverse for contraction.

 * Example
   If 1 UST is trading at .99 USD, users can buy 1 UST for .99 USD. Users then
   utilize Terra Station’s market swap function to trade 1 UST for 1 USD of
   Luna. The swap burns 1 UST and mints 1 USD of Luna. Users profit .01 UST from
   the swap. This arbitrage continues, and UST is burned to mint Luna until the
   price of UST rises back to 1 USD.


SCALABILITY#

The Terra protocol is scalable: it is designed to maintain Terra’s price
stability regardless of market size, volatility, or demand. The monetary
policies encoded into the protocol ensure its durability and resilience in all
market fluctuations.


SEIGNIORAGE#

Seigniorage is the value of a coin minus the cost of its production. In order to
mint UST, an equal value of Luna needs to be offered for burning. In the Terra
protocol’s seigniorage mechanism, a percentage of offered Luna can be recaptured
as seigniorage revenue by sending it to a specified pool before burning. In
previous versions of the Terra protocol, seigniorage was diverted to fund the
community and oracle reward pools. Since the Columbus-5 mainnet upgrade, all
seigniorage in the Terra protocol is burned.


VALIDATORS#

Validators are the miners of the Terra blockchain. They are responsible for
securing the Terra blockchain and ensuring its accuracy. Validators run programs
called full nodes which allow them to verify each transaction made on the Terra
network. Validators propose blocks, vote on their validity, and add each new
block to the chain in exchange for staking rewards from transaction fees. Users
can stake their Luna to validators in exchange for staking rewards. Validators
also play an important role in the governance of the Terra protocol.

For more information on validators, visit the Validator FAQ.


CONSENSUS#

The Terra blockchain is a proof-of-stake blockchain, powered by the Cosmos SDK
and secured by a system of verification called the Tendermint consensus.

The following process explains how Tendermint consensus works. For more
information on the Tendermint consensus, visit the official Tendermint
documentation.

 1. A validator called a proposer is chosen to submit a new block of
    transactions.

 2. Validators vote in two rounds on whether they accept or reject the proposed
    block. If a block is rejected, a new proposer is selected and the process
    starts again.

 3. If accepted, the block is signed and added to the chain.

 4. The transaction fees from the block are distributed as staking rewards to
    validators and delegators. Proposers get rewarded extra for their
    participation.

This process repeats, adding new blocks of transactions to the chain. Each
validator has a copy of all transactions made on the network, which they compare
against the proposed block of transactions before voting. Because multiple
independent validators take place in consensus voting, it is infeasible for any
false block to be accepted. In this way, validators protect the integrity of the
Terra blockchain and ensure the validity of each transaction.


STAKING#

Staking is the process of bonding Luna to a validator in exchange for staking
rewards.

The Terra protocol only allows the top 130 validators to participate in
consensus. A validator’s rank is determined by their stake or the total amount
of Luna bonded to them. Although validators can bond Luna to themselves, they
mainly amass larger stakes from delegators. Validators with larger stakes get
chosen more often to propose new blocks and earn proportionally more rewards.

To learn how to stake your Luna and earn staking rewards, visit the Terra
Station staking guide


DELEGATORS#

Delegators are users who want to receive rewards from consensus without running
a full node. Any user that stakes Luna is a delegator. Delegators stake their
Luna to a validator, adding to a validator’s weight, or total stake. In return,
delegators receive a portion of transaction fees as staking rewards.

Who owns staked Luna?

Staked Luna never leaves the possession of the delegator. Even though it can’t
be traded freely, staked Luna is never owned by a validator. For more
information, visit the Validator FAQ


PHASES OF LUNA#

To start receiving rewards, delegators bond their Luna to a validator. The
bonding process adds a delegator’s Luna to a validator’s stake, which helps
validators to participate in consensus.

Luna exists in the following three phases:

 * Unbonded: Luna that can be freely traded and is not staked to a validator.

 * Bonded: Luna that is staked to a validator. Bonded Luna accrues staking
   rewards. Although Luna bonded to validators in Terra Station can’t be traded
   freely, bLuna is a token that represents bonded Luna that can be traded
   freely or used as collateral on other protocols in the Terra network, such as
   Anchor and Mirror.

 * Unbonding: Luna that is in the process of becoming unbonded from a validator
   and does not accrue rewards. This process takes 21 days to complete.


BONDING, STAKING, AND DELEGATING#

Generally, the terms bonding, staking, and delegating can be used
interchangeably, as they happen in the same step. A delegator delegates Luna to
a validator, the Luna gets bonded to the validator, and the bonded Luna gets
added to the validator’s stake.

Delegators can bond Luna to any validator in the active set using the delegate
function in Terra Station. Delegators start earning staking rewards the moment
they bond or stake to a validator.


UNBONDING#

Delegators can unbond or unstake their Luna using the undelegate function in
Terra Station. The unbonding process takes 21 days to complete. During this
period, the unbonding Luna can’t be traded, and no staking rewards accrue.

Caution

Once started, the delegating or undelegating processes can’t be stopped.
Undelegating takes 21 days to complete. The only way to undo a delegating or
undelegating transaction is to wait for the unbonding process to pass.
Alternatively, you can redelegate staked Luna to a different validator without
waiting 21 days.

The 21-day unbonding process helps the long-term stability of the Terra
protocol. The unbonding period discourages volatility by locking staked Luna in
the system for at least 21 days. In exchange, delegators receive staking
rewards, further incentivizing network stability.


REDELEGATION#

Redelegating instantly sends staked Luna from one validator to another. Instead
of waiting for the 21-day unstaking period, a user can redelegate their staked
Luna at any time using Terra Station’s redelegate function. Validators receiving
redelegations are barred from further redelegating any amount of Luna to any
validator for 21 days.

Caution

When a user redelegates staked Luna from one validator to another, the validator
receiving the staked Luna is barred from making further redelegation
transactions for 21 days. This requirement only applies to the wallet that made
the redelegation transaction.


REWARDS#

The Terra protocol incentivizes validators and delegators with staking rewards.
Staking rewards come from two sources: gas and swap fees.

 * Gas: Compute fees added on to each transaction to avoid spamming. Validators
   set minimum gas prices and reject transactions that have implied gas prices
   below this threshold.

 * Swap fees: The fee for swapping Terra stablecoin denominations is called a
   Tobin tax. Exchanges between Terra and Luna are subject to a spread fee. Swap
   fees are directed to the Oracle reward pool, where they are distributed over
   a period of two years to validators who faithfully report correct Oracle
   prices.

For more information on fees, visit the fee page.

At the end of every block, transaction fees are distributed to each validator
and their delegators proportional to their staked amount. Validators can keep a
portion of rewards to pay for their services. This portion is called commission.
The rest of the rewards are distributed to delegators according to their staked
amounts.


SLASHING#

Running a validator is a big responsibility. Validators must meet strict
standards and constantly monitor and participate in the consensus process.
Slashing is the penalty for misbehaving validators. When a validator gets
slashed, they lose a small portion of their stake as well as a small portion of
their delegator’s stake. Slashed validators also get jailed, or excluded, from
consensus for a period of time.

The risks of staking

Slashing affects validators and delegators. When a validator gets slashed,
delegators who stake to that validator also get slashed. Slashing is
proportional to a delegator’s staked amount. Though slashing is rare and usually
results in a small penalty, it does occur. Delegators should monitor their
validators closely, do their research, and understand the risks of staking Luna.

Slashing occurs under the following conditions:

 * Double signing: When a validator signs two different blocks with the same
   chain ID at the same height.

 * Downtime: When a validator is unresponsive or can’t be reached for a period
   of time.

 * Missed votes: When a validator misses votes in consensus or fails to vote
   correctly in the Oracle process.

Validators monitor each other closely and can submit evidence of misbehavior.
Once discovered, the misbehaving validator will have a small portion of their
funds slashed. Offending validators will also be jailed or excluded from
consensus for a period of time. Even simple issues such as malfunctions or
downtimes from upgrading can lead to slashing.

For more information on slashing, visit the slashing module.


GOVERNANCE#

The Terra protocol is a decentralized public blockchain governed by community
members. Governance is the democratic process that allows users and validators
to make changes to the Terra protocol. Community members submit, vote, and
implement proposals.

To learn how to vote with your staked Luna or submit proposals, visit the Terra
Station governance guide.


PROPOSALS#

Proposals start as ideas within the community. A community member drafts and
submits a proposal alongside an initial deposit.

The most common proposal types include:

 * ParameterChangeProposal: To change the parameters defined in each module.

 * CommunityPoolSpendProposal: To spend funds in the community pool.

 * TextProposal : To handle other issues like large directional changes or any
   decision requiring manual implementation.


VOTING PROCESS#

Community members vote with their staked Luna. One staked Luna equals one vote.
If a user fails to specify a vote, their vote defaults to the validator they are
staked to. Validators vote with their entire stake unless specified by
delegators. For this reason, it is very important that each delegator votes
according to their preferences.

The following is a basic outline of the governance process. Visit the governance
module for more details.

 1. A user submits a proposal and a two-week deposit period begins.

 2. Users deposit Luna as collateral to back the proposal. This period ends once
    a minimum threshold of 50 Luna is deposited. Deposits are to protect against
    spam.

 3. The one-week vote period begins. The voting options are:
    
    * Yes: In favor.
    
    * No: Not in favor.
    
    * NoWithVeto: Not in favor, the deposit should be burned.
    
    * Abstain: Voter abstains.

 4. The votes are tallied. Proposals pass if they meet three conditions:
    
    * Quorum is met: at least 40% of all staked Luna must vote.
    
    * The total number of NoWithVeto votes is less than 33.4% of the total vote.
    
    * The number of Yes votes reaches a 50% majority. If the previous conditions
      are not met, the proposal is rejected.

 5. Accepted proposals get put into effect.

 6. Deposits get refunded or burned.

Once accepted, the changes described in a governance proposal are automatically
put into effect by the proposal handler. Generic proposals, such as a passed
TextProposal, must be reviewed by the Terra team and community, and they must be
manually implemented.


DEPOSITS#

Deposits protect against unnecessary proposals and spam. Users can veto any
proposal they deem to be spam by voting NoWithVeto.

Deposits get refunded if all of the following conditions are met:

 * The minimum deposit of 50 Luna is reached within the two-week deposit period.

 * Quorum is met: the number of total votes is greater than 40% of all staked
   Luna

 * The total number of NoWithVeto votes is less than 33.4% of the total vote.

 * A vote returns a majority of Yes or No votes.

Deposits are burned under any of the following conditions:

 * The minimum deposit of 50 Luna is not reached within the two-week deposit
   period.

 * Quorum is not met: the number of total votes after the one-week voting period
   is less than 40% of all staked Luna.

 * the number of NoWithVeto votes is above 33.4% of the total vote.

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