Today Bennett Tomlin discusses the new Endgame Plan for MakerDAO and the effect it could have on DeFi.
This video was recorded on October 29th, 2022.
Other resources mentioned in this episode:
- Bennett’s article about The Endgame Plan
- Bennett’s article on MakerDAO purchasing treasuries
- Bennett’s article on how MakerDAO works
- Bennett’s newsletter on how RAI works
- Bennett’s newsletter on how MakerDAO handles ‘Real World Assets’
Where to find Crypto Critics’ Corner:
- Bennett’s Twitter
- Cas’ Twitter
- Bennett’s Newsletter
- Cas’ Blog
- Bennett’s Blog
- Bennett’s YouTube
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00:00:00:02 - 00:00:26:08 Bennett Tomlin Dai is the most important decentralized stablecoin with a market cap of $5.8 billion. Recently their founder Rune has announced a new direction for the protocol that fundamentally changes how it works. If they go through with this, they may no longer even really be stable and if they're no longer stable, they could break most of defi with them. Let me explain. 00:00:26:23 - 00:01:03:29 Bennett Tomlin First, what is Dai? The MakerDAO protocol issues the Dai Stablecoin Dai's issued when users put collateral like ether into vaults and then issued an over collateralized loan of Dai if the price of their collateral falls. They can be liquidated. Their position being sold in order to cover the value of Dai they had loaned to them. Things get a little messier though, because people can also put up Stablecoins as collateral and then it is much closer to a 1 to 1 swap between the Stablecoin and Dai. 00:01:04:15 - 00:01:31:28 Bennett Tomlin Each day is worth $1. Like most other stablecoins, I also have a couple of articles where have analyzed MakerDAO and Dai in detail and those will be linked in the description down below. So what's changing? Well, it starts in October of 2021, when Rune, the founder of Maker, announced the Clean Money Plan. So Dai has a problem and it's the fact that over 80% of Dai were minted against other stablecoins. 00:01:32:10 - 00:01:59:29 Bennett Tomlin Those stablecoins by issuers like Paxos and Circle represent a threat to MakerDAO's goal of being a censorship resistant protocol. You see, Paxos or Circle could freeze the Stablecoins that are currently used as collateral and make them effectively valueless in a single transaction. Now this sounds really bad considering that 80% of Dai were minted against these assets, but things may not be quite as bad as they seem at first glance. 00:02:00:13 - 00:02:27:00 Bennett Tomlin As I mentioned before, for the rest of the assets, like ether or other crypto assets, the positions need to be over collateralized. That means more needs to be deposited than they're getting out in Dai, which means the total collateral backing Dai, which includes all of those assets, is now 80% stablecoins currently. Easily sizable assets like those stablecoins make up about half of the total collateral. 00:02:27:23 - 00:02:55:07 Bennett Tomlin Still a really bad position for this protocol to be in. So how does this relate to the Clean Money Plan? Well, Rune, recognize this problem and wanted to find a way to take the billions of dollars of stablecoins they had sitting around and figure out a way that they could, within a year, allocate 3 billion or more of our USDC exposure into ESG corporate bonds protected by a world class trustee in the U.K. or another super country. 00:02:55:14 - 00:03:22:20 Bennett Tomlin Rune saw the threat to the protocol and saw the threat of climate change and thought it would be possible to earn the protocol extra income from the yields paid on the bond and diversify the assets. One year later, after this proposal was introduced, zero of the proposed $3 billion have been allocated in to these clean money assets. Clean money is not going as imagined. 00:03:23:06 - 00:03:58:23 Bennett Tomlin Which brings us to the more recent announcement of the end game plan for MakerDAO and how it might fundamentally alter Defi. So what is the endgame plan? It's a three phase attempt to fundamentally change MakerDAO. It starts with the pigeon stance. Yes, the pigeon stance, which is roughly where they are now. This phase is supposed to last three years and involves MakerDAO taking their assets, all these easily sizable stablecoins and stuff, and then finding ways to invest them that will earn them yield. 00:03:59:23 - 00:04:23:22 Bennett Tomlin These might be real world assets like the Clean Money Plan proposed. Or it could be a variety of other things, like the $500 million they're currently trying to invest into U.S. Treasuries. Supposed to be followed by another 500 million after that. Or it could be the USDC Stablecoin that they're currently studying or planning in custody with Coinbase to earn additional yield. 00:04:23:28 - 00:04:50:01 Bennett Tomlin The long term point of this plan is to earn all these extra funds that can be invested in decentralized assets like staked ether, which they hope will allow them to reduce their dependance on these easily sizable assets like these stablecoins. After the pigeon stance comes the eagle stance, and this is the stance where they're willing to break the peg, make it so Dai is no longer worth a dollar here. 00:04:50:14 - 00:05:16:01 Bennett Tomlin They want to limit these easily sizable assets like these stablecoins to 25% or less of their collateral. Remember, they're currently at about 50%. This could be a very meaningful change. The final phase is called Phenix stance, and this is where they tried to get rid of all of those easily sizable assets, selling them for whatever they can in order to get more staked ether. 00:05:16:19 - 00:05:43:06 Bennett Tomlin Now, besides these three phases, there are other important changes coming. One of these affects the maker token, the governance token from the MakerDAO protocol. Historically, this token was expected to serve as the backstop to help protect the value of Dai. The way it works now is if the price of your collateral you put up to get Dai starts to crash and it gets to a certain point that gets too close. 00:05:43:23 - 00:06:08:11 Bennett Tomlin The protocol automatically tries to liquidate it, tries to sell it into the marketplace. They do this because the most important thing is to protect the value of Dai when things go wrong like they did on Black Thursday back in March of 2020. The protocol then taps into what they call their surplus buffer, which are assets that have been earned by the protocol, by operating the protocol. 00:06:09:06 - 00:06:33:03 Bennett Tomlin These are then used to try to close the gap. If the vault cannot be liquidated in time and if the surplus buffer is not enough, what is expected to happen now is that more maker the token that governs MakerDAO will be minted and sold into the market to make up the gap. It's always been possible for the maker token holders to try to interrupt this process using governance and cancel it. 00:06:33:03 - 00:06:54:28 Bennett Tomlin But the expectation was that because they failed to set the risk parameters adequately, because they had not made the protocol ready for whatever was currently occurring, they were in this situation. They were the ones who should be diluted and lose their value in order to protect the holders of the Stablecoin out of Dai itself. That's not true anymore. 00:06:55:25 - 00:07:20:14 Bennett Tomlin They still have the option to do this, of course, but it will no longer be expected and is no longer the default. It is now explicitly made acceptable that they instead give a haircut to Dai token holders making those tokens worth less than a dollar. Besides these changes, there is another big one coming and it's they call them MetaDAOs. 00:07:20:21 - 00:07:42:14 Bennett Tomlin MetaDAOs are what you come up with when you look at your DAO and you say, this is too complex and you decide the solution to that complexity is to add a whole bunch of new sub organizations under the same banner and make those sub organizations try to negotiate between each other to get whatever they need. MetaDAOs will be charged with managing specific aspects of the maker community. 00:07:42:25 - 00:08:06:07 Bennett Tomlin They may run certain vaults. They may be in charge of being the interface to manage something like $1,000,000,000 investment in clean money bands. They will all have their own tokens and there's a complex system of token economics and yield farming, which is supposed to help their tokens be valuable and still drive value to the core Dell in the core maker token. 00:08:07:22 - 00:08:32:20 Bennett Tomlin What the MetaDAOs don't have is power. They each have their own treasury, but it's not under control of the MetaDAO. It's under control of the MakerDAO and maker token holders. MetaDAOs can vote to try to manage these specific things. They've been entrusted with, but their votes are just signaling votes and still need to be included by maker token holders in the core DAO. 00:08:33:06 - 00:08:58:26 Bennett Tomlin Despite the fact that there's no real power ruin still thinks that these MetaDAOs are going to be able to form self-sustaining communities and reduce the complexity of maker. I think that that is absurd. We will see who is right and we have to talk about what happens if the peg breaks. As I mentioned before, once Maker enters the ego stance, they are willing to break the peg. 00:08:59:10 - 00:09:25:13 Bennett Tomlin What does this mean? Dai will no longer be worth $1 and will instead be allowed to fluctuate. What this means is that any protocol that assumes Dai will be worth a dollar is going to break or have problems. Stable swaps in three pool, for curve will break places that allowed borrowing against it with poorly designed liquidation parameters will break, and then protocols that depend on those protocols could also break. 00:09:25:23 - 00:09:50:27 Bennett Tomlin Any protocol that integrates Dai needs to be actively preparing and hardening their protocol to manage this possibility, especially with MakerDAO explicitly signaling that this is on the table. Now there is another problem with breaking the peg, and that's quite simply that people want things pegged to the dollar and do not care about things that are not pegged to the dollar. 00:09:51:13 - 00:10:23:03 Bennett Tomlin Rai, run by the reflexer protocol is a fork of Dai that does not accept sizable collateral like USDC and allows its peg to float like MakerDAO is proposing. Doing it currently has a market cap that is less than one quarter of 1% of what Daiss people do not want to use it, so if MakerDAO goes through with this, they risk eliminating the demand for their token and breaking a bunch of defi along with it. 00:10:23:22 - 00:10:57:07 Bennett Tomlin I don't think they will though, because they think the plan is fundamentally flawed in Pigeon stance. The protocol is trying to earn as much yield as possible. This is why they're investing in treasuries and custody in USDC with Coinbase and maybe even someday investing in those ESG bonds that had run so excited a year ago. The stated goal of this is to accumulate enough value that they can use the accumulated value to then buy staked ether and reduce the amount of sizable assets you have before the time to switch to egal stance happens. 00:10:58:06 - 00:11:25:27 Bennett Tomlin However, all this extra income is going to primarily drive value to maker holders and its maker holders themselves who have the power to keep the protocol in pigeon stance and avoid moving to eagle stance. What's this mean? Rune is right that this threat to the protocol exists. I mean, he's late. I've been talking about it for a long time, but he's right. 00:11:25:29 - 00:12:01:11 Bennett Tomlin The problem is that the plan is designed in a way where it disincentivizes. Solving the problem because the people with the power to make the final go no go decision want to earn money because people want to earn money. And so they will delay and delay and delay leaving the protocol exposed. If this regulatory intervention ever comes, if people can get rich by not solving a problem, they will not solve the problem. 00:12:01:20 - 00:12:24:27 Bennett Tomlin So at the end, what does this all mean? One of the most important cryptocurrency protocols is signaling they want to change, but I don't think they're going to be able to. Which unfortunately means the Dai is going to continue to be in a vulnerable position where the U.S. government can pressure circle, can pressure Paxos, and in doing so, destroy, Dai.