Under the radar, stablecoins have experienced hypergrowth in 2021.
The total value of stablecoins on Ethereum network has now surpassed $60 billion. Besides,Centralized fiat stablecoins have mass adoption in the market. (e.g. USDT, USDC). The decentralized stablecoin — MakerDAO is regarded as the most reliable coin, which has 88 billion dollars in Total Value Locked (TVL). DAI is worth around to US $40 billion now. In addition to MakerDAO, other substitutes have other decentralized stablecoins(e.g. Algorithmic stablecoins and partially collateralized stablecoins). The reason is that MakerDAO(or Maker Decentralized Autonomous Organization)’s ingestion of centralized stablecoins to mint DAI. It exists without the authority of a centralized entity. This has been mentioned by users. However, many algorithmic stablecoins have not been stable. The mechanism is nominal price instability, but is more prone to volatility and more speculative than over-collateralized stablecoins such as MakerDAO and fiat stablecoins.
In the past half year, the price of many algorithmic stablecoins has experienced large fluctuation, it makes these coins cannot achieve their main stablecoins’ goal in the short term.
Therefore, many projects focus on collateralized stablecoins for adjusting different parameters and setting, trying to bring a better collateralized stablecoin in the market. This article explains the development path from Maker DAO, Liquity to Babel.
Stablecoins are crypto holy grail
Stablecoins are crypto holy grail, because stablecoins have own 3 different functions, such as the scale of price, exchange approach and hold value. Stablecoins consists of 4 types of Stablecoins: Fiat-Collateralized Stablecoins, Crypto-Collateralized Stablecoins, Non-Collateralized (Algorithmic) Stablecoins and partially collateralized stablecoins.
1. Fiat-Collateralized Stablecoins
Fiat-collateralized stablecoins are, as the name suggests, backed by sovereign currency such as the pound or the US dollar. It means that to issue a certain number of tokens of a given cryptocurrency, the issue must offer dollar reserves worth the same amount as collateral.
The reserves are often maintained by custodians that function independently and are audited for compliance on a regular basis. Cryptocurrencies that are backed by dollar deposits include Tether (USDT).
In addition, the fiat-collateralized stablecoin model becomes dangerous when there is a lack of trust in the central party’s ability to cover IOUs issued, as was the case with Tether earlier this year. Of course, these issues can be resolved if assets are auditable and there is sufficient data to show that the centralized entity has enough assets to cover outstanding IOUs.
2. Crypto-Collateralized Stablecoins
The value of crypto-collateralized stablecoins is pegged to that of other cryptocurrencies. Since the underlying asset, in this case, is also a cryptocurrency, it is not conventionally safe and may also be highly volatile.
The term used to refer to such kinds of stablecoins is “over-collateralization.” It means that a relatively large amount of reserve cryptocurrencies may be needed to issue even a small number of tokens.
Currently, MakerDao has evolved from a single collateralized ETH to support multiple collaterals such as ETH, wBTC, USDC, etc., while Liquity only supports ETH. Another problem of MakerDao is that the ultra-high mortgage rate reduces the user money utilization rate. Although Liquity has a low mortgage rate, it only supports ETH.
Recently, an news is worth to noticed that Tether has gradually altered from a USD-collateralized stablecoin to a Bitcoin-collateralized stablecoin. A half public business of Tether is to collect bitcoins pledged by customers and lend USDT to customers. The average mortgage rate of loans is around 130%. In other words, although DeFi and smart contracts are not applied, USDT is the over-collateralized stablecoin such as MakerDAO, and its mortgage rate is approximately higher than 130% in some extent.
3. Non-Collateralized (Algorithmic) Stablecoins
Non-collateralized stablecoins are those that do not involve the use of any reserve asset. Instead, their stability is derived from a working mechanism, such as that of a central bank.
For example, the cryptocurrency base coin uses a consensus mechanism to determine whether it should increase or decrease the supply of tokens on a need basis. This mechanism called rebasing. When a rebase occurs, the supply of the token is increased or decreased algorithmically, based on the current price of each token.
Take Ampleforth for example, you had 5% of the supply before the rebase, you should still have 5% after it, even if the number of coins in your wallet has changed. In essence, you retain your share of the network no matter what the price is. The idea is that your holdings proportional to the total supply haven’t changed with the rebase. Rebase is carried out in 24 hours, and oversee on address, which is reflected in the increase and decrease in the number of holder’s addresses.
At present, two popular mechanisms have stability issues, and there is no stable algorithmic stablecoin mechanism.
4. Partially collateralized stablecoins
FEI is the typical case to prove that partially collateralized stablecoins has not discovered suitable scenarios yet.
The development path of over-Collateralized stablecoins
Several improvements to MakerDAO mechanism as following:
The idea of MakerDAO is very clear, that relies on the over-collateralization high liquidity assets to synthesize a stablecoin anchored US dollars. Today, many people have found the following problems:
- Low capital efficiency, each vault required minimum 150% mortgage rate.
- Inactive Governance by platform coins too centralized.
- LOW liquidation is because of lack of integration between liquidation efficiency module and other DeFis.
- DAI coin is Only soft anchor without hard anchor.
As Maker project was launched, other DeFi projects had not live yet. It leads to some best designs of DeFi that have not been showed in MakerDAO, and some inherent shortcomings of DAI, which are becoming more and more in DeFi. Today, as the only native stablecoin of DeFi, DAI is at risk of being untrusted. In the Synthetix and Compound projects, there are proposals from community members requesting that DAI be removed from the Curve’s Pool:
Should DAI be Removed from the Curve Pool?
Due to recent concerns about the risk of having DAI included in the sUSD Curve pool, a discussion around removing DAI…
The risk of DAI does not lie in small-amount use and normal scenarios, on the contrary, the problem of DAI occurs in very large-amount use and extreme liquidation scenarios. For example, 312 scenario in 2020, DAI’s poor design makes the price of DAI as high as $1.2, and ETH mortgaged by the customer is basically liquidated at 10%.
The improvement of MakerDAO by Liquity and Babel
Liquity is a decentralized lending protocol on the Ethereum network. It uses the over-collateralization model as MakerDAO, mortgages ETH, and obtains LUSD loans. Unlike DAI, LUSD does not have a stability fee, instead charges a 0.5% fee. In Liquity, the minimum mortgage rate for a single user is 110%. This case, the LUSD liquidation pool is required to maintain liquidation capacity and higher mortgages from other customers.
Liquity emphasizes on
- Crypto-Collateralized Stablecoin
- Low mortgage rate — — 110%
- The policy of algorithmic currency
- Non-governance to reduce human error
- Lower price limit：LUSD can swap ETH at current price anytime
- The decentralized protocol
- Free Interest Rate
Babel.fi is a crypto lending protocol based on Binance Smart Chain to mint BNB to obtain loans without fees.
Loans is pegged by Stablecoin LAI with the minimum mortgage rate of 110%. Babel.fi designs are architected and forked based on Liquity project on Ethereum without changing smart contract coding and owner.
Liquity is an innovative project that surpass MakerDao. It has the lowest mortgage rate and higher liquidation efficiency, higher capital efficiency, and market cap is more stable. Moreover, the unalterable and non-governance of smart contract, Liquity is not easy influenced by human error and malicious governance attacks.
Babel.fi completely retained these features of Liquity without changing smart contract coding, and only burn the excessive tokens given to the Liquity’s team and investors.The idea of Babel.fi is “Fair Launch” to provide more incentives to users for supporting enlarge needs of native stablecoin assets on BSC ecosystem.
Key Features of Babel.fi:
- A crypto collateralized stablecoin — BNB
- Low mortgage rate -110%
- Algorithmic monetary policy
- Non-governance, reducing the risk of human error
- Lower price limit: LAI can be exchanged for BNB at current value any time
- Decentralized webpage
- 0 Interest rate
- Fair launch
The following table shows the comparison between the mechanism of Maker, Liquity and Babel.fi.
Liquity and Babel’s liquidation system
Comparing with MakerDao, Liquity and Babel has a lower mortgage rate. On a macro level, Liquity and Babel can release more liquidity than Maker. At the micro level, users can obtain high leverage and lower liquidation risk. So how to realize this low mortgage rate?
First of all, Maker are required ETH to provide 130/150% collateral because of liquidation mechanism. Assuming the long auction process, it has more time to swallow the value of collateral by price fluctuation. It means that extra collateral is the cache approach against price fluctuation risk. Besides, Liquity and Babel provides the function of liquidation. It doesn’t bear the risk as same as Maker. It has ability to reduce mortgage rate. The innovative liquidation mechanism integrates 3 layers of defense functions:
1. Stable Pool
Liquity and Babel does not refer the long liquidation mechanism of Maker and other lending protocol. The system supports automatic liquidation with stable pool. Stable pool aims to absorb and eliminate default debts. Once collateral is lower than 110%, all debts can be liquidated at once.Currently, in the Liquity system, more than 80% of LQTY are stored in the stable pool to obtain LQTY rewards.
2. Redistribution Mechanism
If stable pool does not have enough liquidity, redistribution mechanism will be activated in second phase. The redistribution mechanism can redistribute the remaining debt from all liquidation level. Under the circumstance, comparing with low collateralized level, high collateralized level will take more debt and gain more collaterals. In order to provide the extra layer of security in the system, liquid provider will have high collateral as reward, so as to get basic collateral after liquidation.
3. Recovery Mode
The system has a key mortgage rate=150%. When the total mortgage rate is less than 150%, the Recovery Mode will be triggered. At this time, the system will according to mortgage rate from low to high, regardless of whether your mortgage rate is greater than 110%. As long as it is less than 150%, it may be liquidated until the total mortgage rate of the system is 150%. For Vault, there will be no extra losses, which means that if your mortgage rate is 140% and liquidation is triggered, your Vault will be closed, 110% of the collateral will be liquidated, and 30% of the collateral will still be Claimable. Therefore, the net loss of the Vault is already 10%, but it reduces a lot of risky Vault for the system, thereby increasing the total mortgage rate of the system.
Liquity and Babel hard Anchor mechanism
DAI has no redemption mechanism, so it is not anchored to US dollar. It relies on governance to implement the currency policy for pushing the value of DAI to 1 dollar. On the other side, the anchoring of LUSD to dollars is the implicitly designed in the protocol.
- LAI and LUSD token can be returned to the protocol to swap ETH or BNB at any time, according to the price, CDP: USD and redemption fee.
- The redemption is very important, because the price of LAI and LUSD is lower than dollars. Investors can buy in LUSD and LAI, swap into ETH, sell ETH or BNB to gain dollars. Then, gain reward by staking.
- In addition, the process can improve the system’s operation. As redemption occurs, the supply of LAI and LUSD will decrease by low -collateralized borrowers. That is, the system uses the redeemed LAI and LUSD to repay the highest risk assets.
- On the other hand, the lowest mortgage rate is 110%, the price will up to 1.10 dollars by the market.
- When the LAI and LUSD:USD ratio exceeds 1.10, the borrower can make a profit by borrowing the maximum amount of collateral and selling scUSD for more than 1.10 USD.
The degree of decentralization, hard anchoring of USD, algorithm driven and non- governance protocol, free interest rate, high capital efficiency are unique combinations in the DeFi field. Liquity and Babel will worth to expect project in 2021. Hence, it provides a highly alternative proposal by Maker mechanism.
Babel is very important to the BSC DeFi ecosystem, because capital efficiency allows the greater liquidity of BNB for DeFi protocol to be unlocked and used.