DeFi and the future of the global economy: Stablecoins and DAOs
This blog post is be split up into four sections:
Part 3: Stablecoins and DAOs
Now that we’ve looked at Decentralized Exchanges, a practical application of Decentralized Finance (DeFi), we can turn to a finance application that solves a major issue with cryptocurrencies: stablecoins.
Stablecoins are cryptocurrencies whose price is ‘pegged’ to the price of an external reference, usually a currency such as the USD. Cryptocurrencies have recently come under fire for the volatility in their price, which makes them suitable more for speculative purposes than as practical currencies. Imagine buying $10 worth of BTC and then trying to pay for your lunch, only to find that your bitcoin is now worth $5. Depending on the timeframe in which you purchase BTC, ETH, or some other non-stable currency, you assume a lot of price risk even if your use case is perfectly quotidian. In order for cryptocurrencies to gain wide adoption in our day-to-day lives, the expectation of a currency’s purchasing power must remain relatively stable in both the short and long-term.
Stablecoins such as DAI, Tether (USDT), USD Coin, and Digix Gold Tokens (DGX) are all attempts at creating cryptocurrencies with stable values. Stablecoins are a wide class of cryptocurrencies that vary by backing and implementation.
Fiat and Commodity-Backed Stablecoins
The first kinds of stablecoins out on the market are stablecoins backed by either a) commodities such as gold, or b) fiat currencies such as the USD.
These stablecoins are managed by third-party institutions that hold the appropriate amount of reserves necessary to ensure that any holders of the stablecoin can redeem their tokens for the real asset that is backing the coin.
DGX is a stablecoin whose worth is equal to 1 gram of gold, as advertised on their website. If I own DGX, theoretically at any point in time I can redeem it for the equivalent gold (minus a 1% recasting fee for this process). Digix, the company that manages DGX, will buy physical gold, store it in their regulated, insured vaults, and then mint the appropriate amount of DGX that the purchase corresponded to. Their purchases are 100% auditable on their website for full transparency. This means that I can be relatively secure in the knowledge that my DGX is actually worth something.
One question that should be popping up in your mind, however, is:
How do I trust these third parties? Wasn’t the point of cryptocurrencies to get rid of trusting in central third parties?
Decentralized Autonomous Organizations (DAOs)
DAOs are a new kind of entity that leverage the distributed, trustless nature of blockchain technologies. DAOs are businesses, organizations, corporations, or whatever new names they might take on. They are governed by smart contracts on the blockchain, meaning that you don’t need to trust that the managers of the organization are doing what they’re supposed to cause you can audit the smart contract at any time!
Governance: Most DAOs are governed by accepting or rejecting proposals that members of the DAO propose. Members that can make proposals are sometimes chosen at random every certain time period, or depending on meeting certain thresholds of how much stake in the DAO they have.
Stake: Anyone can become a member of a DAO by holding the DAO’s governance token. For example, Digix has its DGX stablecoin, but it also has a token called DigixDAO (DGD), which is the governance token. This governance token can be used to participate in the DAO and influence its decisions, or merely to “invest” in the DAO. This encourages early users to be evangelists and rewards them handsomely if the DAO takes off and the price of the governance token increases (as a signal that input into the operations of the DAO are more valuable). This has also been touted as a form of employee ownership of corporations, which allows the employees and developers of projects to benefit when the company does well.
DAOs are currently in murky legal waters. The first legal incorporation of a DAO in the US just took place, and it looks like there may be increasing regulatory support for them. Digix is incorporated in Singapore, which has more lenient crypto regulations. One of the benefits of DAOs, however, is that the lack of centralization means that there doesn’t necessarily need to be legal recognition unless the DAO needs to interface with the real world.
DAOs have a huge potential, however, with lots of DAOs emerging in the venture investing space (The LAO, Metacartel Ventures), grants to blockchain developers (Moloch DAO, YangDAO, CuraDAO), lending (Compound, Aave), exchanges (Uniswap, Sushi, Curve, 1inch), derivatives (Synthetix, Maker), robo-investing (Yearn, Badger, dHedge, Pie, Harvest). More information can be found at DeFi Pulse. Hopefully the next couple of years will see a big increase in the kinds of DAOs that arise, with lots of exciting opportunities with them.
Thanks for making it this far! If you haven’t seen the rest of the series, make sure to check out parts