Decentralized stablecoin DAI is making headlines for the wrong reasons following MakerDAO’s Endgame tokenomics. Some even raised concerns by recreating links to the collapse of the Terra ecosystem and the UST unlink event.
Stablecoins, in general, have faced uncertainty from regulators around the world, especially decentralized stablecoins. If government authorities/regulators were to attack a decentralized stablecoin, it could be for any number of reasons.
Decentralized stablecoins, like other cryptocurrencies, operate outside of the traditional financial system. Regulators may be concerned about its potential impact on the economy or its use in illicit activities such as money laundering or terrorist financing.
Last year, MakerDAO co-founder Rune Christensen reiterated a similar scenario after the Tornado Cash sanctions. According to Christensen, it was only a matter of time before government authorities attacked MakerDAO as a decentralized stablecoin. Consequently, he proposed Endgame, a major restructuring plan to make MakerDAO and DAI more resistant to censorship.
Maker Endgame Documentation in 2023
MakerDAO is a decentralized finance (DeFi) platform that operates on the Ethereum blockchain and allows users to create and trade collateral-backed stablecoins in other cryptocurrencies. The MakerDAO Native Token (MKR) governs the platform and maintains its stability.
MakerDAO introduced a new feature called “Endgame tokenomics” that aims to stabilize the price of its stablecoin, DAI, and reduce liquidation risk. This new system proposes to divide the DAO into smaller units called MetaDAO. Each MetaDAO has unique tokens, each with specific goals, and introduces a 25% cap on centralized assets backing DAI in addition to negative interest rates.
The MakerDAO co-founder suggests that DAI holders can produce the new MetaDAO tokens as an added incentive. However, the launch of the proposal generated a lot of censorship and faced criticism.
Calling this movement
PaperImperium, a pseudonymous crypto Twitter account dedicated to happenings in decentralized finance, called attention to a portion of today’s paper. It reveals that users could borrow DAI in their delegated MKR tokens if the proposal is approved. MakerDAO risked repeating the mistakes of the last market cycle.
The commenter claimed that in the event of a liquidation spiral, the proxy tokens would re-circulate, sinking the value of MKR. This, in turn, could expose the protocol to attacks by malicious actors who can easily hijack governance, citing the Mango DAO attack.
This new system drew comparisons to other DeFi platforms like LUNA and UST. LUNA is the native token of the Terra blockchain, a DeFi platform that offers stablecoins backed by fiat currencies. UST is the stablecoin offered by Terra, pegged to the US dollar, which witnessed a massive fall from grace. BitMEX’s Arthur Hayes tweeted:
Another user turned to Twitter to echo the same scenario.
Like MakerDAO’s Endgame Tokenomics, the Terra platform used a mechanism called “seigniorage” to stabilize the price of its stablecoins. Seigniorage involves creating and destroying tokens in response to changes in demand, with new tokens being created when the cost of the stablecoin falls and devastated when the price rises.
Others described as a potential exit liquidity scam that allows users to exit the ecosystem via DAI without selling their MKR tokens while also having a say in the governance of the protocol.
What went wrong with the Terra ecosystem
Terra is a blockchain platform that aims to create a stablecoin ecosystem. One of its stablecoins, TerraUSD (UST), is backed by a pool of other cryptocurrencies, including the platform’s native token, LUNA. LUNA’s endorsement of UST is aimed at maintaining a stable peg to the US dollar.
To maintain the peg, Terra uses a mint and burn mechanism. When the price of UST exceeds $1, users can mint new UST by depositing collateral, such as LUNA, and receive UST in return. Conversely, when UST prices fall below $1, users can burn UST to obtain the underlying collateral.
However, the value of the UST fell below its parity with the US dollar, causing a death spiral in which users began selling their UST to avoid losses. This caused the value of UST to fall further, causing LUNA to be minted in excess as collateral to maintain parity.
As more and more LUNA was minted to support UST, the value of LUNA began to fall as well, exacerbating the problem. To address the situation, Terra implemented measures to stabilize the system, including burning excess UST and LUNA and introducing new mechanisms to maintain the linkage.
How significant is the risk? Should we be worried?
The incident highlighted the challenges and risks of maintaining a stable peg, particularly in volatile market conditions. He also underlined the importance of transparency and communication in managing such situations, and the need for strong risk management and contingency plans.
Conversely, not everyone saw this move as a negative. Frax Finance CEO and creator Sam Kazemian stated:
Another researcher highlighted the low-risk nature of the given development despite the uproar. Here, shedding light on the market cap disparity between DAI and MKR made the perceived risks to DAI small.
BeInCrypto has reached out to MakerDAO representatives for comment on the current situation, but has yet to receive a response.
What is the current situation?
Overall, the appeal of MakerDAO’s Endgame Tokenomics for platforms like LUNA and UST lies in its potential to reduce the risk of liquidations and stabilize the price of stablecoins. USDC currently backs DAI with 40.8% of all collateral. This adds stability and decreases the chance of a disengagement.
Other assets besides USDC and MKR can also be used as collateral. This reduces risk, but it’s still not a big move for MakerDAO. With this movement, MKR is linked to the minting process. By creating a buffer against price volatility and incentivizing users to keep stablecoins stable, these platforms can provide a more reliable and predictable environment for DeFi users.
As of this writing, DAI succumbed to some pressure, given the uncertainty within the community prior to the latest development.
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