According to whether they are isolated from centralized risks, stablecoins can be divided into centralized stablecoins and decentralized stablecoins. As long as they are not completely decentralized, stablecoins will definitely face the default risk brought by centralization.

In an era where the threat of centralized regulation is looming, decentralization is an important attribute of stablecoins.

Most stablecoins cannot become the base currency of the crypto world. Most stablecoins are just equivalent to commercial bills, which can perform the function of mainstream stablecoin lending through the exchange of trading pairs.

A stablecoin mechanism must include creating its own demand scenarios. It should not only be a general equivalent (which is difficult for small-scale stablecoins), but also consider some unique economic activities (liquidation, high-interest bonds).

The track of centralized stablecoins has almost been settled, and USDT and USDC are hard to distinguish. Although CrvUSD contains centralized risks, the stablecoin function module is complete and has certain potential. Decentralized stablecoins are almost a desert at present. There is underlying demand in this track, and there are potential development opportunities in the future.

preface

Since 2018, countless investment institutions and media have called stablecoins the holy grail of cryptocurrency.

Libra, a giant stablecoin project that started in 2018, has been constantly interfered with by state power since its inception and has died in the womb.

According to the Wall Street Journal, on July 20, 2021, Circle allocated $1,040 to reach a settlement with the SEC.

On October 15, 2021, Tether was fined US$41 million by the US government for false statements.

On February 13, 2023, in order to avoid prosecution by the SEC, Paxos stopped issuing BUSD.

I have no intention of discussing the right and wrong of these punishments and regulations. Listing these things only shows that all centralized stablecoins face the risk of centralization. Accepting centralization means accepting centralized interference. If stablecoins are faucets, and if the liquidity of the crypto world depends entirely on centralized stablecoins, then the asset pricing power of the crypto world is no longer within the crypto world. At present, the power of decentralization is in jeopardy in the stablecoin track, and no one wants the decentralized world to be held at a disadvantage by centralized power. But the current situation is contrary to expectations:

Centralized stablecoins such as USDT, USDC, and BUSD occupy the vast majority of the stablecoin market (91.6%), while among decentralized stablecoins, DAI and FRAX are still drinking poison to quench thirst and using centralized stablecoins as credit collateral.

Risk always obeys Murphy's Law.

The liquidation of BUSD once again proves the centralization risk of USD-mapped stablecoins. The current market value of BUSD is 15.7 billion. As Paxos announced that it would no longer issue BUSD, this 15.7 billion market space will be competed for by other stablecoins. Compared with similar stablecoins such as USDT and USDC, pure chain decentralized stablecoins have relatively better anti-censorship risk properties.

01

Why Stablecoins Need to Be Decentralized

Stablecoins do not have to be decentralized. Centralized stablecoins already exist and cannot be ignored. From USDC, USDT to DCEP, not only are they overwhelming in terms of scale and cost, but these centralized stablecoins will be empowered and guaranteed by the traditional world. 0xhankerster.eth believes that stablecoins can be divided into centralized stablecoins and decentralized stablecoins. In his classification, the definition of centralization and decentralization is aimed at the issuance mechanism of stablecoins. The division at that time focused on the form of centralization, not the essence of facing centralized risks. This article, starting from the centralized risk exposure, divides stablecoins into centralized and decentralized.

Like all other Web3 projects, we need to question our original intentions when we start the project. Why do we need decentralized stablecoins?

The feasibility of decentralized currency

Decentralized currency is the source of currency. Currency can be decentralized. In the long history of human beings, decentralized currency has appeared before. Whether it is the currency theory of barter or the theory of debt forming currency. Centralized credit is not involved in the currency generation process from the beginning.

Debt has been used as a means of payment throughout history. As early as 4000 BC, people in Mesopotamia invented clay tablets to record events. Important things would be recorded, such as debts. The record of debts included the content of the debt, the means of payment for repaying the debt, the penalties for overdue repayment, etc. And these debts can be used as a means of payment.

According to anthropologist David Graeber, from 3100 BC to 2686 BC, Egypt was an agricultural society where grain lending was common. People would return grains at the time of the new year's harvest. Grain lending information was recorded on clay tablets, including the borrower, quantity, time, etc. Such clay tablets were called "Henu". People used such clay tablets as currency in commodity circulation.

Whether it is gold, silver or debt, it is decentralized credit.

The necessity of decentralized stablecoins

The purpose of issuing currency is to increase credit, and centralized stablecoins do not have the right to mint coins. What we are striving for is the alchemy of the information age, hoping to create stable credit without centralized power. Crypto fundamentalists believe that the right to issue currency is stolen by centralized institutions. The party with the right to issue enjoys the seigniorage, and the issuer has enough motivation to issue or over-issue currency. Once centralized stablecoins are issued in a decentralized network, these centers that control the issuance of stablecoins are no different from the centers that issue currencies in the traditional world. If the right to mint coins cannot be seized from the government and the central bank, the issuer of stablecoins can only become a commercial financial institution that issues letters of credit.

Centralized stablecoins are under the threat of centralization. Centralized stablecoins are always threatened by centralization risks. The credit of stablecoins will be questioned due to the credit defects of the center, and the value of stablecoins will often be challenged. Trust in centralized stablecoins is not natural. Both USDC and USDT have faced runs due to market rumors and gossip. Behind them is the US financial regulatory system that endorses their credit. Centralized stablecoins are bound to be constrained by the US government. When Tornado Cash was treated unfairly by the US government, Circle marked the USDC that interacted with Tornado Cash without any democratic procedures. Similarly, power will undermine the rights and interests of any centralized stablecoin holder. Decentralized stablecoins are to give everyone another choice.

Decentralized stablecoins have an inherent market

Like other products, different products have their own target users. In traditional concepts, no organization is not centralized. Centralized risks may be hidden in other risks, such as single point damage risk in operational risks. Any organization will choose its own risk strategy based on its own risk preferences. Centralized risk is different from other traditionally defined risks. For users who are sensitive to centralized risk, other costs and risks are necessary costs.

02

Stablecoin: Wings of Ikaros

Since Adam Smith founded the religion, it seems natural to find money from national credit. Until Hayek came out of nowhere and explained the denationalization of money. Algorithmic stablecoins continue the path of BTC and continue to explore in the direction of decentralized credit. Unlike stablecoins such as USDT and USDC that are fully collateralized by fiat currency, algorithmic stablecoins have been hoping to replace the central bank's function of creating credit from the beginning. Algorithmic stablecoins will not help fiat currency capture the value created by the crypto world, and are in a competitive position with centralized stablecoins issued in equal amounts according to fiat currency. Therefore, it is difficult for algorithmic stablecoins not to conflict with the interests of centralized central banks or governments.

Stablecoin is a large-scale business

As a stablecoin, in the long run, it must break through certain scale limitations in order to achieve a positive cycle in the ecosystem.

In order to increase the usage rate of stablecoins, in addition to the stable price and no market risk, higher interest rates and lower transaction costs are also required. When the scale of a stablecoin is not large, the exchange of most non-stablecoins must be settled through other tokens.

The above table shows the algorithmic stablecoins ranked 3-5 in terms of scale, with DAI and FRAX ranking first. As can be seen from the table, the algorithmic stablecoins ranked 3-5 have a market size of only 200 million to 68 million, and some of these stablecoins are used for circulation and cannot be fully used to create trading pairs. Even if trading pairs are created, pegged trading pairs will absorb a large number of stablecoins. The credit that can be directly established with other risky assets is very limited. Not only are there few directly connected trading pairs, but the handling fees are high. Using stablecoins with low market size will also face higher transaction slippage, which is not conducive to the entry of whales. Taking the exchange of various stablecoins for WETH as an example, using 1inch's transaction routing, the slippage of LUSD worth 100,000 US dollars is 1.78%, the slippage of FRAX is 0.36%, and the slippage of DAI is 0.2%.

These scale disadvantages will increase the transaction costs of stablecoins. In order to offset the transaction costs, the project side needs to increase the project operating costs and give the stablecoin a higher rate of return. Therefore, stablecoins are a business with economies of scale.

When the stablecoin does not reach a certain scale, the income generated by the stablecoin (handling fees, interest, liquidation fees, derivative income) will not cover the cost of maintaining its scale. In this case, in the long run, the stablecoin will inevitably face a collapse.

Stablecoin is a business that is tabooed by traditional forces

If decentralized stablecoins want to scale, they will inevitably face the attention of traditional forces. However, the traditional world has always been hostile to cryptocurrencies. It is not just the US government that caused Libra to die in the womb. The International Monetary Fund has always been hostile to cryptocurrencies. When the DCEP led by central banks of various countries enters the market, who will be the ragtag army to be wiped out? On February 23, 2023, the IMF Board of Directors stated that cryptocurrencies should not be granted legal tender status. We have no way of knowing whether the scale advantage of stablecoins is lower than the domain of traditional forces.

Without scale, there is no economic sustainability, but with scale, there is the risk of interference from centralized power. This is the Icarus wing of stablecoins.

The way out for stablecoins is either to become a lackey of traditional forces, or to be prepared for decentralization and completely tear apart from the world.

03

The industrial structure of the stablecoin track

In the current stablecoin industry, USDT and USDC monopolize the vast majority of the market share, but there are hundreds of other stablecoins. So, what is the business model of stablecoins?

High-powered money and broad money

In macroeconomics, we divide currencies into different levels from M0 to M3 according to the liquidity of the currency. This liquidity difference is widely present in tokens. The liquidity of tokens itself is also an important part of the value of tokens. Users are more willing to hold highly liquid tokens and are willing to use highly liquid tokens as counterparties of trading pairs. Imagine that as the initiator of a project, if you want to price your own tokens, the first choice is of course USDC and DSDT. Who would use Alt-stablecoin with few holding accounts, large slippage, and a small number of tokens as the scale of pricing and trading objects? Compared with these small-scale stablecoins, BTC and ETH are more reliable.

The current situation is that, except for USDC and USDT, most stablecoins have a hard time getting the opportunity to "passively" establish trading pairs (here, "passive" means that other project parties other than the stablecoin project party provide liquidity and establish trading pairs). Therefore, most of these stablecoins must rely on first exchanging them into highly liquid tokens such as USDT, USDC, BTC, ETH, and then trading with the target token. This situation is like I have a fixed deposit in a bank and have a fixed deposit certificate. I can't use the fixed deposit certificate directly for consumption, but I can sell the deposit certificate in the secondary market and then use high-energy currency for consumption.

In this analogy, in fact, USDC and USDT have already occupied the position of high-powered currencies in the stablecoin world. Most stablecoins that rely on binding high-powered currencies to provide liquidity are actually just providing broad currencies similar to those in traditional financial markets.

Lending system?

The operation mechanism of creating liquidity for stablecoins of the broad money type is similar to that of lending. Many Alt-stablecoins do not actually have trading pairs with many tokens. According to traditional sayings, these Alt-stablecoins are not even general equivalents. Except for internal airdrop mining, the external benefits are almost zero. There are also costs for creating and lending the tokens. In addition to maintaining relative stability in debt valuation, these Alt-stablecoins have no value. Then the only way out for these Alt-stablecoins is to exchange them for mainstream trading currencies through trading pairs, and then participate in on-chain economic activities. In order to get the opportunity to be in on-chain activities, stablecoin projects have to incentivize Alt-stablecoin~Main stablecoin trading pairs. And this incentive is actually an interest rate subsidy for mainstream stablecoins.

Assuming that stablecoins cannot create their on-chain economic activities, the X stablecoins generated by users with the help of the stablecoin generation mechanism can only be exchanged for mainstream stablecoins with multiple on-chain activities through trading pairs, and then economic activities can be carried out. This process is equivalent to the mainstream stablecoin lending pool. From a functional perspective, Alt-stablecoin generation mechanism + trading pairs = over-collateralized lending.

If X stablecoin has unique economic activities, then X will be different from USDT and USDC. This will generate motivation to exchange USDC and USDT for X and participate in economic activities.

We can see from the trading pairs of many non-mainstream stablecoins and mainstream stablecoins on Curve that a large number of mainstream trading pairs are "borrowed".

Compared to obtaining mainstream stablecoins through lending pools, the liquidity cost is more stable and easier to control through the non-mainstream stablecoin generation mechanism + trading pairs. Compared with the lending pool, in the trading pair pool, in addition to mainstream stablecoins, non-mainstream stablecoins are also needed to form trading pairs. The capital efficiency of the system is reduced. If non-mainstream stablecoins have unique economic activities that can allow mainstream stablecoins to be reversed, it would be fine. Otherwise, the trading pair is a lending pool. At present, non-mainstream stablecoins such as FRAX continue to incentivize trading pairs, which is a disguised form of "interest subsidy".

04

The Stablecoin Landscape

Since USDT was created in the fall of 2014, stablecoin creators have made various stablecoin attempts.

The most mainstream method is still the centralized method. One dollar is deposited into a designated real account, and one dollar of stablecoin assets is issued online. As government supervision gradually improves, these centralized stablecoins are blocked from the risk of arbitrary inflation or insufficient liquidity of collateral assets from the perspective of supervision. The degree of disclosure is also gradually strengthened. [Muse labs] [Sam bourgi] However, the risk of centralization has always been there. Recently, due to the failure of the clearing bank Silvergate to submit a report to the SEC on time, people have once again raised concerns about whether the USDC issued by Circle will default.

As a result, attempts to use algorithms to create trust and stability have never ceased.

Stability creation method:

There are several ways to create price stability with algorithms:

Rebalancing Stablecoins

AmpleForth created a stablecoin with rebalanced issuance. The token has a target price and a market price. The amount of AMPL (the stable token of the AmpleForth project) will increase or decrease according to the difference between the target price and the market price. This method stabilizes the price of AMPL, and for AMPL borrowers, the value is the same when borrowing and repaying. However, assets denominated in AMPL in the user's asset portfolio are still subject to market risks. For this reason, AmpleForth designed layered derivatives for market risks, some derivatives bear greater risks, and some bear relatively smaller risks. The market feedback is a failure. (There is no liquidity in Buttonwood at all) This stability obtained through derivatives is no different from hedging market risks through futures.

The traditional rebalancing mechanism has long lost its market vitality. I haven't heard of any new stablecoin projects continuing to adopt the rebalancing mechanism. However, the recent inverse (3, 3) liquidity incentive strategy has given us some hope. Liquidity incentives are what all stablecoins need to do, and token deflation can effectively support the price of a single stablecoin. Is it possible to lock up stablecoins so that they are either in a lending environment or flow into the liquidity pool? In other cases, deflation is used to support stablecoins from being underwater.

Limiting the circulation of stablecoins

In 2018, cangulr90 discussed with others at Ethresear about restricting users from buying tokens when the price is higher than the target price, and restricting users from selling tokens when the price is lower than the target price. This idea was later transformed and used in the FEI system. Compared with mandatory restrictions, FEI adopts a gentle way of increasing costs, "soft knife" to restrict users from buying and selling. The failure of FEI cannot be simply attributed to restricting liquidity. Franz Oppenheimer believes that FEI's incentive and punishment mechanism violates market rules. When the price of FEI continues to be lower than the target price, what penalties will make stablecoins lose basic demand: after all, who would hold a stablecoin with extremely high transaction fees? The value of currency is reflected in circulation. Stabilizing the price of the currency but losing liquidity is not worth the loss. Judging from the liquidity of stablecoins such as USDC and DAI, FEI's daily transaction volume is only about 1/8 to 1/10 of other stablecoins.

Minting Stablecoins

If tokens are not controlled, they often have a volatility that exceeds that of real assets. In order to form a relative stability in the price of stablecoin assets and minimize market risks, some innovations adopt the method of asset risk stratification to substitute volatility tokens controlled by the system into the stablecoin system. Through the redemption of stablecoins and volatility coins, the price fluctuations of stablecoins caused by supply and demand are transmitted to volatility coins. There are many projects that have tried from this perspective. The most famous one is UST~Luna, which uses the method of destroying the underlying Terra of the blockchain in exchange for the equivalent stablecoin UST. Destroying UST can obtain the equivalent Terra. There are also some projects that can buy bond coins when the stablecoin is lower than the target value. When the price of the stablecoin is higher than the target value, the bond coins can be used to buy stablecoins at the target value and then sell them on the market. Most of these stablecoins eventually fail. In order to allow volatility tokens to absorb the potential volatility of stablecoins indefinitely, it is not easy to limit the issuance of volatility coins. The increased volatility of volatility coins will eventually undermine the confidence in stablecoins. At present, the only remaining project is the linkage between FRAX and FXS. And FRAX is the second largest algorithmic stablecoin. Its feature is the introduction of USDC as the majority of the credit collateral, which greatly increases the protocol control value PCV.

Despite its poor stability (most of these stablecoins have returned to zero), I still think this is the most crypto stablecoin design: the value of issuing tokens is not captured through a revenue-profit model, but as a medium for transferring system value, and the value of volatile tokens is positively correlated with the scale of stablecoins.

Overcollateralized stablecoins

Overcollateralized stablecoins are the most mainstream and most mature way of issuing stablecoins. Overcollateralized stablecoins represented by DAI and LUSD have been running well for a long time. Currently, a new batch of potential stablecoin competitors GHO and CrvUSD are also competing to adopt the overcollateralization method. Overcollateralized stablecoin projects are often classified as lending projects in the DeFi classification. The essence is to use user debt as the cornerstone of stablecoin issuance. Not only modern central banks use debt to issue currency, this way of issuing currency can stand the test of history.

The use of debt as a medium of payment and circulation has always existed. As early as 4000 BC, people on the Mesopotamian plain invented clay tablets to record events. Important things will be recorded, such as debts. The record of debts includes the content of the debt, the means of payment for repaying the debt, the penalties for overdue repayment, etc. And these debts can be used as a means of payment. According to anthropologist David Graeber, from 3100 to 2686 BC, Egypt was an agricultural society, and grain lending was common. People would return grains at the time of the new year's harvest. Grain lending information was recorded on mudstone tablets, including borrowers, quantities, time, etc. Such clay tablets are called "Henu". People use such clay tablets as currency in commodity circulation. The first paper currency issued by humans was Jiaozi in the Song Dynasty. The origin of this paper currency is also that people deposited iron money into commercial banks, which created debt certificates of commercial banks to consumers.

Debt will form the basic demand for stablecoins, allowing stablecoins to obtain value anchoring. In the short term, it will induce users to redeem additional issuance for arbitrage, and use interest rates to adjust the supply and demand of stablecoins to achieve the purpose of price stability. Overcollateralized stablecoins have a solid basic demand: if you don't pay back the stablecoins, you can't get back the overcollateralized assets, so they have good stability.

The shortcomings of the mechanism are also obvious. Once the liquidation price of the collateral is lower than the borrowed stablecoin, the user will no longer return the stablecoin. The project needs to actively liquidate the collateral at the necessary time, recover the borrowed stablecoin, and realize the closed loop of stablecoin circulation. Once the purchasing power of the liquidated collateral is not enough to repurchase the stablecoin, the platform will form a bad debt. Therefore, the over-collateralized stablecoin mechanism requires the collateral to have a broad value consensus and good market liquidity.

Selection of stable anchors

What the stablecoin should be anchored on is also a dimension of stablecoin exploration.

Anchored by the traditional world’s currency

Common stablecoins are anchored by fiat currencies. The underlying assumption is that the value of mainstream fiat currencies is relatively stable in the short term and is suitable for being a benchmark for value. In the long run, as long as the airdrops of symbolic interest are sufficient, the long-term stability of the value of stablecoin assets can be maintained. Gold, as the world currency of the previous era, has also been used as a benchmark for value. In this way, stablecoins can directly borrow the influence of traditional world currencies that have been developed over a long period of time, reducing the difficulty of promotion. At present, most stablecoins are tied to the US dollar, the euro or gold, and people believe more in the stability of the value of these currencies. The pain point of this algorithmic stablecoin is that it cannot do better than the centralized method. Compared with the small pond of on-chain assets, the traditional financial world is a vast ocean. A little liquidity can nourish the entire blockchain world. As long as the centralized power that has long ruled the world is willing to regulate, ordinary defaults and frauds will disappear. The centralized stablecoin camp supported by USDT, USDC and BUSD hardly gives stablecoins in the same track a way out. They are larger in scale, lower in cost, and in most cases, have better credit.

Another problem is that stablecoins anchored by traditional world currencies will lose the independence of monetary policy and become the shadow of legal tender. Borrowing the Mundell Impossible Triangle theory, exchange rate, free capital flow, and monetary policy independence cannot be achieved at the same time. On the blockchain, except for the self-destructive practice of restricting the circulation of stablecoins, the free flow of other stablecoins is not restricted. When stablecoins have determined the free flow of capital and exchange rates, such stablecoins can only become the shadow of the centralized legal tender in the traditional world.

Custom index as anchor

This type of stablecoin achieves differentiated competition with fiat currencies in terms of value anchoring. Because the infrastructure is still weak, it is difficult to collect prices off-chain widely, reliably, and cheaply. In addition to anchoring the prices of a basket of commodities in the world, index stablecoins also try to anchor the prices of assets on the chain, but only smooth the prices and reduce the volatility of assets. This type of index-anchored stablecoin is difficult to gain market consensus. Even RAI mentioned by Vitalik in his blog (which has in a sense obtained the legitimacy of ETH) is actually difficult to expand in scale and form scale advantages (today RAI has a market value of only 6.6 million).

05

Calculate the stability of the competition

A stable track with centralization risks

Under the pressure of the Fed's balance sheet reduction, the financing costs of the traditional financial world continue to rise. Capital has begun to withdraw from the crypto world in an orderly manner. The total amount of stablecoins has dropped from 246.2 billion to 135.1 billion. The crypto market lacks liquidity. From the centralized liquidity algorithm of AMM to margin and option trading, improving asset liquidity has always been a rigid demand for on-chain assets. The creation of stablecoins is to provide liquidity. As the DeFi industry gradually matures, many old DeFi institutions have also joined the competition with resources and brands. The catfish in the stablecoin blue ocean are Curve and AAVE.

Curve and AAVE are both kings in the DeFi industry. In the DeFi protocol, the TVL reached 502 million and 478 million respectively; from the perspective of TVL, they ranked 3rd to 4th in the DeFi protocol. The stablecoins that Curve and AAVE are currently making are over-collateralized stablecoins. The two protocols have such high protocol-controlled assets that as long as 30% can be converted, they can reach the TVL scale of FRAX, the second largest stablecoin. In addition, it is not known whether Curve and AAVE will make token incentive plans for their respective stablecoin projects separately. This is a condition that other stablecoin projects that grew up in the last cycle do not have.

The advantages brought by Curve and AAVE are more than that:

Curve itself is the largest stablecoin exchange on the chain. Curve is particularly good at building multiple stablecoins into a pool, and Curve's airdrop rights are also controlled by reCRV holders. By diverting traffic to its own stablecoins through its own exchange, sufficient liquidity can be quickly established. The core value of stablecoins lies in providing liquidity. Curve is a management tool for liquidity distribution and can directly empower CrvUSD. In addition, Curve's stablecoins will be cleared by liquidation interval rather than liquidation line. As a latecomer advantage, this will reduce the losses of lenders and protocols when liquidity is insufficient and eliminate liquidity risks. Finally, Curve will use its own oracle to quote collateral, which is more reliable than external oracle services.

Curve's business is to completely cover the credit generation and liquidity management of currencies. Among the stablecoins that have not completely gotten rid of the threat of centralization, I personally am most optimistic about Curve's business model. It is more flexible than USDT and USDC, and it can control the liquidity of other stablecoins in terms of exchanges. Because it has given up part of its pursuit of decentralization, it has certain advantages over fully decentralized stablecoins in terms of collateral selection, credit generation efficiency, and token stability.

AAVE has the top ten active users in DeFi. Because it has been engaged in lending business for a long time, AAVE has a deep understanding of collateral and risks. In the traditional lending business, AAVE grants excessively high lending quotas for the same collateral through governance restrictions. In clarifying the market risk and liquidity risk of collateral, the AAVE committee has no difference in the governance of traditional lending and stablecoin creation. And AAVE can generate stablecoins, which can greatly reduce the cost of AAVE. When designing GHO, it considered generating stablecoins in a variety of ways. This broadens the channels for stablecoin credit generation. As mentioned earlier, the stablecoin track has obvious scale advantages. If AAVE's blueprint can be realized, it will be very terrible. But from the blueprint, it can be seen that AAVE does not regard centralization as a risk, and its competitors will eventually be centralized stablecoins such as USDT and USDC.

Currently, for lending on AAVE, AAVE needs to pay a cost to its users for each token lent. AAVE only needs to pay a certain cost for liquidity. This will be a good deal. Some stablecoins only need to pay a fee of 0.5% to establish a stablecoin liquidity pool on Curve, which is much lower than the current lowest 1.23% - AAVE stablecoin deposit rate. There are many benefits to AAVE creating its own stablecoin GHO, such as not fearing liquidity runs. In the current AAVE interest rate design, when a token is borrowed in large quantities and approaches the limit, the interest rate will rise sharply. This is an obstacle set to prevent depositors from withdrawing without liquidity, and to encourage users to repay or deposit to provide liquidity. The lending of its own stablecoins is not limited by the size of the vault, nor will it affect the liquidity of other people's deposits.

As the old king of stablecoins, MakerDAO faces fierce competition. In the case of insufficient income, the opening of Spark to provide internal lending, savings and other application scenarios for DAI is also an attempt to actively break through the scale bottleneck. The disadvantages of DAI are very obvious: MakerDAO involves RWA. MakerDAO has purchased real US Treasury bonds. Whether it is restricted by the real world, or the off-chain behavior of purchasing Treasury bonds is not restricted by the blockchain, or there is a risk of default, the DAI provided by MakerDAO is no longer a trustless stablecoin like other centralized stablecoins. The segmented users of DAI are no different from those of USDT and USDC, and they are also users who are not sensitive to centralized risks. According to MakerDAO's own disclosure, the net loss in one year was 9.4 million US dollars.

The second-ranked stablecoin: FRAX, whose collateral assets are USDC and its derivative assets. FRAX's centralized risk is inherited from USDC. Not only has it not gotten rid of centralized stablecoins, but it also has the same risk as USDC. FRAX will issue 21,720,976 FXS in 2022. If the current market price is 9.78, then FXS is equivalent to raising 210 million US dollars from the market.

On the other hand, fully centralized stablecoins: According to Coinbase's fourth-quarter financial report, USDC's profit in one quarter of 2022 was as high as 292 million US dollars. Tether generated a profit of 700 million US dollars in the fourth quarter of 2022.

The risk of stablecoins is that either the collateral does not cover the liabilities and is completely decoupled, or the collateral can completely cover the liabilities and is pegged to the US dollar. As long as a stablecoin does not completely eliminate the centralization risk, it is completely exposed to the centralization risk. They also face centralization risks. On the one hand, the centralized stablecoins that do not abandon the algorithm lose money at high costs every year and are difficult to expand in scale; on the other hand, the completely centralized collateral stablecoins make profits every year and gradually eat into the market. The conclusion is obvious. The completely decentralized stablecoin has completely incomparable advantages in efficiency and business development. In the long run, the stablecoin products competing in the same track will only have a dead end.

Someone imitated the impossible triangle of blockchain to create a stablecoin trilemma for stablecoins. It contrasts overcollateralized stablecoins, centralized stablecoins, and algorithmic stablecoins. The author uses the minting of tokens as the boundary of the stablecoin system and divides stablecoins by the method of minting stablecoins. Its capital efficiency is only reflected in the collateral assets required to form stablecoins.

I agree with the basic framework of the stablecoin trilemma. Decentralization, security, and efficiency are always the pain points of decentralized products, corresponding to the unique characteristics of stablecoins: decentralization, stability, and capital efficiency. The difference is that as a stablecoin business, competing for the legitimacy of the currency and expanding the use scenarios of stablecoins are the due meaning of stablecoin projects. Capital efficiency must include these scenarios, which is why stablecoins often subsidize trading pairs. Considering the capital efficiency of a project requires a comprehensive consideration of costs and benefits. For example: the efficiency of using stETH as collateral is definitely higher than using ETH. Similarly, using Curve to establish stablecoin liquidity is more efficient than Uni V2. Finding a high-heat trading pair to establish liquidity is more conducive to achieving capital efficiency than establishing liquidity for an unpopular trading pair.

Complete decentralization is a stable track

Today, most stablecoins are tainted with centralized risks. Let’s take a look at the few remaining decentralized stablecoin projects:

Liquity, its collateral asset is only ETH, and its liquidity trading pairs are only for decentralized tokens such as WBTC and ETH. It is completely isolated from centralized interference. In terms of liquidation, it considers completing it through an automatic liquidation pool to prevent liquidation due to insufficient liquidity. However, Liquity has poor stability and lacks a mechanism to incentivize LUSD liquidity. The project does not understand that the liquidity of stablecoins is the core value provided by the project. The token distribution is nearing its end (91% of the tokens have been issued), but the market size still has not formed a monopoly advantage.

One of the highlights of Liquity's design is the creation of additional demand for LUSD: LUSD is an over-collateralized mechanism. When the collateral is liquidated, it is liquidated through the LUSD in the collateral pool. When liquidated, LUSD will obtain the collateral asset ETH at a discount. Historical data shows that this liquidation is beneficial to LUSD's mortgagees. In addition to LUSD mining LQTY, 66.8% of LUSD entered the collateral pool instead of being converted into other mainstream stablecoins through trading pairs. Therefore, in Curve's trading pool, LUSD does not have an "asset imbalance" like other small stablecoins.

Inverse.finance uses ETH and OETH decentralized assets as credit collateral to lend out the US dollar stablecoin DOLA. The method adopted is also over-collateralization. The price stabilization mechanism still relies on arbitrage and interest rate control. However, the DOLA minted by inverse.finance is still pegged to USD, which is a shadow of the US dollar. inverse.finance has specially designed a token DBR, using DBR as a tool for interest rate liquidation. The price of DBR reflects the interest rate level of borrowing DOLA. The emergence of DBR makes lending strategies more flexible and changeable. Pay attention to the openness and disclosure of information in product design. This kind of consideration is often only possessed by excellent large-scale projects.

DOLA has designed a bond model, where users can lock up DOLA at a discount and obtain INV, its platform currency.

DOLA's scale changes:

DOLA has obvious disadvantages. Its lending rate is as high as 4.92%, which is far higher than the interest rate offered by MakerDAO and higher than the so-called interest-free LUSD. Therefore, it is difficult to expand its scale.

RAI is a minted stablecoin anchored by a custom index. RAI uses the redemption rate to regulate the supply of stablecoins in the market, so that the price of RAI is close to the ideal price set by the system. RAI's anchor price has gotten rid of the shadow of the US dollar. However, the cost of establishing a consensus on prices is extremely high, and there must be a sufficiently large scale effect. In terms of the design of the stabilization mechanism, the over-collateralization mechanism generally accepted by the market is not adopted, which has gradually led to RAI's demise. However, as a radical explorer of decentralized stablecoins, if the blockchain world faces an increasingly urgent threat of centralization, RAI may still be revived.

06

in conclusion

To sum up, the stablecoin track, as long as it is not completely decentralized, faces complete centralization risks. In the stablecoin track that faces the risk of centralization, centralized stablecoins led by USDT and USDC dominate the market and have formed a mature monopoly industry structure. In decentralized stablecoins, first, the market share is small, and the market is still in the early stages of development. The road is bleak, but full of hope. Second, decentralized stablecoins have an inherent market. Third, any decentralized stablecoin does not have a monopoly scale advantage that deters competitors in segmented tracks.

references:

https://vitalik.ca/general/2022/05/25/stable.html

https://www.forbes.com/sites/jeffreydorfman/2017/05/17/bitcoin-is-an-asset-not-a-currency/?sh=73beeba42e5b

https://www.tuoluo.cn/article/detail-10093593.html

https://books.google.la/books?hl=en&lr=&id=wWHvAgAAQBAJ&oi=fnd&pg=PP1&dq=Ancient+Egyptian+Materials+and+Industries&ots=nWxhEHGfAt&sig=cmdQabDZg8xxO_GWoLk8GzOxw5U&redir_esc=y#v=onepage&q=Ancient Egyptian Materials and Industries&f=false

https://foresightnews.pro/article/detail/22514

https://cointelegraph.com/news/circle-discloses-full-breakdown-of-55-7b-usdc-reserves

https://ethresear.ch/t/who-is-the-moses-parting-the-red-sea-in-algo-stablecoin-after-fei-s-dilemma-gyroscope-or-titi/10246

https://docs.liquity.org/faq/stability-pool-and-liquidations

https://news.marsbit.co/20221212213954752574.html

Money in the Late Old Kingdom: A Study of the Types and Functions of Clay Tokens Used as Money in Ancient Egypt