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🤔 What is Maker DAO ?

Maker DAO is a crypto lending platform that allows users to:

  • Lock up their crypto as collateral.
  • Take out loan in stablecoin, DAI.

🤔 What is DAI ?

DAI is a stablecoin designed to keep its value equal to 1 US dollar.

🤔 What is DAO ?

DAO stands for:

  • Decentralized: There is no leader, decisions are made in a bottom-up way.
  • Autonomous: DAO is a digital jurisdiction that bypasses political and national boundaries. Members of DAO vote on proposals to come to a common consensus. They can also pool in additional funds to sponsor a project.
  • Organization: Has rules and manages funds held in its treasury.

Here is a comparison of DAO to a typical company:

Maker DAO maintains and upgrades the protocol behind stablecoin DAI.

💡 What role does MKR token play ?

MKR token is used for:

  • Governance: MKR token grants voting rights to its holder. MKR holders propose and vote on updates to the protocol.
  • Recapitalization: The protocol will become insolvent in case the market crashes and the value of collateral deposited by the users falls below the loan amount. The loans will become under-collateralized and the value of DAI may fall below 1 US dollar. In that case, the protocol will mint new MKR tokens and sell them to raise money for recapitalizing the shortfall of funds. This keeps MKR holders accountable since bad governance decisions will result in their tokens being diluted.
  • Stability fees: Users taking out loan have to pay interest(called stability fees) in MKR tokens which is burned.
  • Penalty fees: Users whose collateral becomes under-collateralized pay 13% additional penalty fees in MKR tokens which is also burned.

📝 Origin of Maker DAO

  • Rune Christensen, founder of Maker DAO, first posted the idea of stable coin on Ethereum subreddit in 2015.
  • The project sold MKR tokens to early members and private venture capital funds to raise $54.5 million.
  • The project was launched on Etherium and the whitepaper was released in December 2017.
  • The protocol expanded to add other cryptocurrencies like BAT, USDC, wrapped BTC, etc in 2019.
  • The team decentralized the governance of the project to DAO in December 2019.

👴🏻 Rune Christensen - founder of Maker DAO

  • Rune was born in Denmark.
  • He studied:
    • Biochemistry at the University of Copenhagen.
    • International Business at the Copenhagen Business School
  • Rune moved to China when he was 18. He founded Try China in 2011, which recruited westerners to teach English in China.
  • After discovering Bitcoin in 2011:
    • He sold his business and invested the capital in Bitcoin.
    • Became interested in stable coins and founded Maker DAO in 2015.

😌 What problems does it solve ?

  • Take out loan:
    • None of the traditional banks issue loans against crypto.
    • Maker DAO allows users to take out loan against their crypto holdings.
    • Users do not have to sell their crypto holdings and incur capital gain tax. Instead, they can use it as collateral to borrow stablecoin DAI.
  • Flexible payment solutions:
    • No fixed payment schedules
    • No min payments
    • No credit history
    • Users pay at their own pace.
  • Medium of exchange: DAI stablecoin can be used to perform borderless transactions that settle within minutes without paying excessive fees.
  • Most banks in the world offer no interest on savings. People can choose to store their savings in DAI and earn DAI saving rate.
  • Other Defi apps can build on top of Maker DAO to extend its utility.

🤖 How does it work ?

Steps involved:

  • Users lock up their crypto to open a collateral debt position(CDP).
  • Users can withdraw up to  2/3rd of the value of crypto locked up in CDP.
  • User pays the principal amount and interest(called stability fees) to get their crypto collateral back.

How the peg(1 DAI = 1 USD) is maintained ?

Maker DAO uses following mechanisms to maintain the peg:

1. Stability fee

Users pay stability fees for borrowing DAI against their collateral. The protocol can increase/decrease the stability fees based on votes received from MKR token holders.

  • If 1 DAI < 1 USD: Then protocol can increase the stability fees. Many users will pay back their loan(DAI) because of increased stability fees. This will reduce the supply of DAI increasing its price to match the peg(= 1 USD).
  • If 1 DAI > 1 USD: Then protocol will decrease the stability fees. As a result, more people will take out loans. This will increase the supply of DAI, reducing its price.

2. DAI saving rate(DSR)

Users can deposit their DAI in DAI saving smart contract to earn DAI saving rate(DSR). MKR holders can vote to increase/reduce DSR to influence the supply of DAI:

  • If 1 DAI < 1 USD: Then the protocol can increase DSR, making it more attractive for the users to lock DAI in DAI saving smart contract. This will reduce the supply of DAI, increasing its price.
  • If 1 DAI > 1 USD: Then the protocol can reduce DSR, making it less attractive for users to lock up their DAI in DAI saving smart contract. This will increase the supply of DAI, reducing its price.

Safety measures:

The protocol has following safety measures to ensure that the protocol is never under collateralized:

1. Liquidation of loan

Cryptocurrencies are volatile. Hence, Maker protocol allows users to borrow only 66% of the value of collaterals. The collateral is liquidated in case the price of crypto falls below a certain threshold.

The user also has to pay 13% penalty fees in case his collateral is liquidated. Hence, the users are incentivised to maintain a healthy collateral ratio at all times.

2. Minting MKR token

In case of market crash, when the liquidation of loans is not sufficient to collateralize the protocol: The protocol mints new MKR tokens and sells them in the market to recapitalize the shortfall of funds.

3. Emergency shutdown

Emergency Shutdown is the last resort to protect the protocol against serious threats such as: hacks and security breaches. Emergency Shutdown is triggered when MKR holders deposit 50,000 MKR in Emergency Shutdown Module (ESM).

When emergency shutdown is initiated:

  • No new users can deposit collateral and draw DAI.
  • The price of all collateral is frozen (registered). DAI is valued at 1 USD.
  • Under collateralized CDP are liquidated.
  • Existing Users can withdraw their collateral at the frozen price.

The protocol is restarted once the issue(that caused emergency shutdown)is resolved.

⚙️ How to use Maker platform

🏛️ Governance model

The team decentralized the governance of protocol to DAO in December 2019.

MKR holders submit and vote on proposals to upgrade the protocol. The voting framework comprises 2 major components:

  • Governance polls: They are used to measure the opinion of MKR holders on issues concerning Maker protocol, eg setting up of community goals.
  • Executive polls: Executive votes “execute” technical changes to the Maker protocol, eg change stability fees.

MKR holders can also delegate their voting rights to other holders.

😨 Competitors

DAI has many competing stablecoin projects. They use different models to maintain peg to US dollar:

🤑 How much money does the project have for future development ?

  • The project raised $54.5 million from private sales.
  • MKR Foundation holds ~250,000 MKR tokens.
  • The protocol does not have any ongoing source of revenue.

👍 Tailwinds

  • Rising demand: Demand for stable coins is growing:
  • Maker DAO was one of the first projects to launch stablecoin.

😨 Risks and challenges

  • Market crash:
    • The value of crypto held as collateral crashes.
    • The protocol becomes under collateralized.
    • The protocol is unable to liquidate and users cannot add more collateral/payback loan because of congestion on the Etherium network.
  • DAI is pegged to US dollar. Although dollar seems to be stable, but has lost 97% of its purchasing power. It is even possible that the price of dollar collapses completely in the future.
  • Maker protocol depends on external price feeds to maintain collateral ratio and liquidate CDPs. It is possible that a hacker manipulates the price feed and benefits from an arbitrage opportunity.
  • Maker DAO is built on Etherium. This exposes the protocol to risks and issues outside its control:
    • Scaling issues
    • Gas fees, etc.
  • Competition: There are many crypto projects building stablecoins.
  • Maker DAO has sufficient funds, however, they do not have any ongoing source of revenue. Maker is a long-term project whose growth can be affected by lack of funds.

💰 Tokenomics

MKR token had an initial supply of 1 million MKR tokens:

MKR tokens are burned:

  • Stability fees: Users taking out loan have to pay interest(called stability fees) in MKR tokens which is burned.
  • Penalty fees: Users whose collateral becomes under-collateralized pay 13% additional penalty fees in MKR tokens, which is also burned.

Additional MKR tokens are minted:

  • Recapitalization: The protocol will become insolvent in case the market crashes and the value of collateral deposited by the users falls below the loan amount. The loans will become under-collateralized and the value of DAI may fall below 1 US dollar. In that case, the protocol will mint new MKR tokens and sell them to raise money for recapitalizing the shortfall of funds.

Demand pressure

Token’s price increases due to demand pressure.

Demand pressure on MKR token will come from:

  • Stability fees: User pay stability fees in MKR token which is burned.
  • Liquidation penalty: Users whose collateral becomes under-collateralized pay 13% additional penalty fees in MKR tokens, which is also burned.
  • Governance: Users will buy MKR tokens to take part in governance.
  • Speculators: They will buy MKR tokens to profit from future price appreciation.

Supply pressure

Supply pressure on a token decreases its price.

Supply pressure on MKR token will come from:

  • Early investors: They have made profit on their initial investment. Some of them will sell part of their holdings to realize gains.
  • Recapitalization: The protocol will become insolvent in case the market crashes and the value of collateral deposited by the users falls below the loan amount. The loans will become under-collateralized and the value of DAI may fall below 1 US dollar. In that case, the protocol will mint new MKR tokens and sell them to raise money for recapitalising the shortfall of funds.

🧐 Indicators to watch out for

  • Google trends: People searching for stable coin is growing.
  • Their YouTube channel is growing:
  • Their Twitter following is growing:
  • Supply of DAI is growing:
  • MKR token is being burned:
  • DAI has successfully maintained its peg:
DAIUSD Rates by TradingView

👋Final remarks

DAI stable coin deserves a higher market cap than centralized stablecoins like:

DAI market cap has tremendous room to grow given its present market cap and growth of overall stablecoins market.

MKR token will become more and more deflationary as the ecosystem grows(users paying stability fees which is burned). This should result in price appreciation of MKR token.

😊 Do further research

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