Why Maker DAO is “tricky”

When I explain how Maker DAO works, people who are more knowledgeable about finance tend to have more nuanced reactions. (I have several relatives who work in finance, and their reactions were particularly nuanced and interesting.)Leaving aside the basic mechanism, let’s look at why these types of reactions are so common. The risk is unilaterally pushed onto CDP creators, with no return and with costs to be paid I think this is the biggest thing. If you try to create a stable coin without touching the dollar, someone has to take the risk.

Especially now, we have to deal with the risk of the ETH price falling. Who will take that risk? f course, it is the CDP creator and the Dai holder who have the potential to Liquidate. To be precise, the CDP creator takes the risk of a price drop until Liquidate and the risk of a 10% drop after Liquidate, and the rest is taken by the Dai holder.

Also, issuing a Stable coin can be considered an option in a sense. Who pays the cost of this option? That’s right. It’s the CDP creator. They pay the cost in the form of a Stability Fee. What? This Stability Fee goes to the MKR holders, not the Dai holders or the CDP creators. It’s a mystery. They are only taking on governance costs. In normal finance, this is realized in the form of a fee of less than a few percent, but this time it’s a whopping 16% annual interest!!!

In real options, the premium is also obtained by the seller of the option.

That’s crazy.

Also, the CDP creator takes (part of) the cost and risk. So I don’t understand why people would want a return even if they had to pay the cost of the Stability Fee. The reason people want Stable coins is because they don’t want to take risks. Therefore, it seems strange that CDP holders and Dai holders are the ones paying for the risk. One unavoidable aspect of this is that in order to stabilize the dollar without touching it, the cost of extreme price declines must be taken, but even so, the risk that CDP holders have to take is abnormal.

The only way to raise prices is to shrink the community.

What will happen if the price of Dai does not rise to $1? The supply will be reduced by raising the stability fee. The point is, everyone should stop using it. This is a far cry from common sense in internet business in general. The common sense of internet business (such as SNS) is that “increasing active users is the first priority.” However, this means that they are trying to achieve their goal by reducing the supply, i.e., reducing active users. In order to ensure the healthy operation of YouTube, it’s something like “anyone who watches an illegal video even once will be banned.” This is a flaw in the platform.

However, this does not mean that you cannot withdraw it; there is a concept called Set Withdrawal, which allows you to raise a certain number of stable coins in the market, exchange those stable coins for ETH, and withdraw the ETH at the same time, allowing you to withdraw that amount.

The gain will vary depending on when the stable coin was procured, but it is possible to withdraw it.

Advantages and disadvantages of this system

merit

The advantage is that there is a clear distinction between those who take risks and get returns (fee income) and those who reduce risks and pay costs. This clear distinction makes it possible for the financial system to work.

In addition, the fact that the interests are clear and pricing is easy also reduces governance risks compared to Maker DAO.

Disadvantages

It is powerless against a large drop in the ETH price. In this case, the risk taker’s collateral may be confiscated.

It is also important to note that this system will not function unless risk takers are paid proper returns to ensure liquidity throughout the system.

Important points yet to be decided

It is very important to decide on an algorithm for determining the price that publishers will pay.

This cost can be said to be an increasing function of the volatility of the ETH price, but how it is determined is very important.

Also, if you do not peg it to $1, you need to think about which variables to adjust to be efficient. At the moment, the exchange rate between stable coins and ETH is one example. (If the stable coin falls below $1, the exchange rate is raised, and if it exceeds $1, the exchange rate is lowered.)