Resolving DUSD’s peg at 1 USD once and for all to create a hybrid stablecoin

  1. What it takes to keep a stablecoin stable and why DUSD is not stable at the moment.
  2. The reason, why DUSD will NOT enter a death spiral like UST.
  3. What can be done to stabilize DUSD around 1 USD while keeping fluctuations under 1% — so, to make DUSD completely stable! YES!!

Stablecoin Basics

A stablecoin is a token on a blockchain that tracks the price of another asset. Most stablecoins track the USD, but others track gold, stocks, bonds, and other financial instruments. To trade closely to another asset’s price, a stablecoin’s value must, by definition, be closely related to the other asset’s price.

2021 — The Early Days: DUSD trading at a Premium

When DUSD was introduced in 2021, it started trading at a 30% premium over the USD. What was the reason for that? The reason was that it had a high utility in the DeFiChain ecosystem and many people wanted it. Back then, there was only one way to create DUSD, which was via cumbersome 150% crypto loans. This resulted in the DUSD price instantly rising to 1.30 USD.

First Half of 2022: DUSD’s 1 USD Peg

Throughout most of 2022, DUSD traded close to 1 USD almost all the time. When the price went up, people were able to create more, lowering the rarity and value. When the value of DUSD went down, the DeFiChain community added extra utility to it, which raised its value back up to 1 USD. As shown in the chart below, DUSD rarely traded above 101 cents or below 99 cents — just as a stablecoin should:

May 2022: DUSD losing the peg

As everything else crashed, DUSD, the stable counterpart to all the other cryptocurrencies, became less and less needed. Moreover, after so many DeFi projects failed, people became frightened, and left the sector to move their purchase power somewhere else. If we compare DUSD’s value pre-May to May, we see the following:

  • The utility and demand of the people were high before May; rarity was decreasing as a result.
  • Utility and people’s demand dropped in May; rarity remained the same.
  1. Stablecoins backed by fiat, such as USDT or USDC, can be arbitraged for their underlying assets. In this case, the USD stablecoin is purchased at a discount, thereby bringing up its price, and then exchanged for the actual Dollar. Although this is a proven method, you need to trust the centralized issuer. Furthermore, these types of stablecoins are likely to be subject to tighter regulations going forward.
  2. Crypto-backed stablecoins, such as Maker’s DAI, can be arbitraged for an underlying cryptocurrency. This involves buying USD stablecoins at a discount in order to raise the price, and exchanging them for a cryptocurrency that can then be exchanged for Dollars. These types of stablecoins don’t require a centralized issuer, but you do need to trust the blockchain’s smart contracts. Additionally, you risk not having enough liquidity when you try to sell the underlying cryptocurrency. The downside is that such stablecoins require more than 100% of cryptocurrency as backing, which makes them extremely expensive to create.
  3. Terra’s UST attempted to solve the rarity problem by allowing a 1:1 swap between LUNA and UST. When USD was above 1 USD, LUNA would be burned to create UST, which would decrease its rarity and price. When UST was priced below 1 USD, it could be burned for LUNA, increasing its rarity, and with it, its value. Compared with Maker DAI’s model, the significant advantage was that it required exactly 1 USD of cryptocurrency to create 1 USD of stablecoin, not 1.5 or even 2 USD as Maker did. Due to this fact, along with a yield model that some may describe as ponzi-like, UST’s demand skyrocketed, making it one of the leading stablecoins at the beginning of 2022. When people’s demand shrank for a short period of time, and they wanted to burn 1 UST for 1 USD worth of Luna, the algo-style-backing caused the price of LUNA to decrease, which required more and more LUNAs. In the end, this triggered LUNA’s and UST’s death spiral, which resulted in people losing over 40 billion dollars in May 2022.

Is DUSD doomed to the same fate as UST?

Now that DUSD is trading slightly under 1 USD, one wonders if we will see a similar death spiral for DeFiChain as we saw with Terra Luna. And, if not, why not, and how can we get DUSD back to 1 USD?

  1. The crypto market moves up, increasing the utility of the DUSD.
  2. More people are getting excited about DeFi again and interested in getting exposure to DUSD or dTokens such as dTSLA, etc.
  3. The existing DUSD burn mechanism can make DUSD rare enough for it to return to 1 USD.

Fast and Permanent ways to get DUSD to 1 USD

Based on the three factors that affect value, we can immediately see various ways to increase the price of DUSD:

  1. Like Maker DAI through overcollateralized loans. These so-called loan-backed-DUSD can be created and burned very quickly. The main disadvantage is that it takes a lot more USD in cryptocurrencies to create 1 USD of DUSD. Furthermore, if this was the only way to create DUSD, it would trade at a premium due to its strong utility, just as it did in 2021
  2. The second way is the same way Terra’s UST was created: By burning DFI. In contrast to Terra Luna, DUSD has the crucial difference of not having a DUSD for DFI burn, which would create a death spiral.
  3. The third way is via a futures swap from other dToken. Although this is not a commonly used path, the community could contemplate a suggestion to deactivate this path for now.
  1. Regardless of the fee, it indirectly increases DUSD’s utility. Its absence would result in DUSD’s price dropping by the fee’s percentage immediately. Without the fee, people believe they could still sell their DUSD for the price with the heightened utility, which is obviously not the case. Several complaints come from people who do not want a fee, but still want a high price — two things that are not possible at the same time. Nevertheless, if someone believes that another asset could go up more overtime than the DEX stabilization fee, he should sell DUSD now, help the community by burning some of their DUSD, and try to recover the losses elsewhere.
  2. More constructive suggestions target the fee amount. This fee is primarily designed to allow anyone to sell, while reducing the DUSD supply by burning part of it. Now, the question is one of game theory: Which fee percentage burns the most DUSD in total? Coming up with a good number isn’t easy. As long as the potential downsides are limited, any suggestion targeting this part of the DUSD mechanics is worth trying.

Confident!

I am 100% confident that the community will resolve the DUSD issue in the upcoming weeks. Once this is done, and once DefiMetaChain launches later this quarter, DeFiChain will be extremely well positioned to reach new heights. A thrilling road lies ahead!

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Julian Hosp

Julian Hosp

I build @CakeDeFi and I love @DeFiChain, EU Blockchain Advisor, Angel Investor, Washington Bureau Speaker, 5x Bestselling Author, Ex-Pro-Athlete, Ex-Medical-Doc