Is Dai The Best Type of Stablecoin?
Ethereum’s stablecoin Dai has managed to maintain steady dollar valuation despite the waves of pressure from the markets. The recent upturn in market activity, of course, has helped the community as demand for cryptocurrencies increase. Favor for DAI has grown in recent times with the likes of Coinbase who launched the coin on its retail platforms.
Trade or Dai?
Dai is the first decentralized stablecoin on the Ethrereum blockchain. Its website claims that every Dai is backed in excess at all times. It has several use cases for individuals and businesses. Individuals can use Dai for hedging, payments, and prediction markets. Users who would like to reduce the pressure of volatile markets without exiting the crypto markets can use Dai as a store of value. It can also be used for payments at merchants. With the rise of prediction markets, more and more individuals have found use for Dai in reducing price risks. Dai reduces costs of supply chain and international trade while also providing a new medium to issue loans. These are but some of the factors which could ensure that demand for Dai is maintained in the long-term.
Unlike many other stablecoins, Dai is backed by Ethereum and not the dollar. MakerDAO, the company behind Dai devised a complex but effective system that keeps the price of Dai at a 1:1 ratio against the dollar. Individuals that interact with the MakerDAO system acquire Dai in exchange for their ETH, which is locked up. A user essentially enters into a collateralized debt position which is made possible by smart contracts on the network. The pool of Ethereum which users contribute to generates Dai. The price of Dai can be kept stable through risk management measures that take into account the value of Ethereum and the target price of Dai.
Risk Management and Voting Rights
If the price of Ethereum were to go down, Dai which it supports could effectively reduce. Where such a risk materializes, Maker liquidates its CDPs by selling the Ethereum that was locked up. Ethereum is sold until there is enough Dai to pay off the initial value made from the CDP.
The price of Dai changes according to the conventional laws of supply and demand. As demand for Dai rises and supply reduces, the value goes above the dollar threshold. Maker has a target rate feedback mechanism that influences the value of Dai, where periods of instability threaten the value of the stablecoin. Upon activation of the target rate feedback mechanism, the target price and target rate of Dai change to balance the supply and demand of Dai. User incentives for generating and holding Dai are automatically adjusted to achieve appropriate liquidity and price during times of demand shocks.
The MakerDAO system has a governance token which gives voting rights to holders. Coin holders vote on key issues which affect DAI, including the risk parameters and measures to be implemented into the system. Despite internal conflicts, the price of Dai, for the most part, has done its job-reduced the stress of investors in a highly dramatic cryptocurrency market.