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Ross Ulbricht, the brains behind the infamous Silk Road website, recently penned down a piece on the Maker Dao Protocol. Ross, who is currently serving a life sentence, coined the protocol as a ‘cool concept’ that provided the benefits of a cryptocurrency without the volatility usually associated with them.
In his Medium article, Ross acknowledged that he couldn’t have gotten all the details on Maker while behind bars. He, however, believed that he had read enough to give some suggestions that would help prevent another of the protocol’s crisis, as was seen earlier this year.
MakerDAO’s March Shutdown
In March of this year, both crypto and capital markets collapsed over 36 hours. Following the market collapse, prices of BTC and ETH plummeted, which caused more than 50% of the cryptocurrencies to be wiped off the market.
The collapse was followed by high chain congestion on the Ethereum network, which further led to transaction delays and failures.
Maker, Ethereum’s most significant DeFi application, was bound to take some hits. The price of DAI, Maker’s stable coin (tracks US dollar’s value), rose steeply to trade as high as $1.1264. This value is quite high, considering that DAI is supposed to maintain its soft peg to the US dollar.
The Loophole in Maker’s Protocol
According to Ross, the Maker protocol emulates the pre-modern central banking model. Banks used to print and lend fiat money, which was backed by gold in their vaults. The banks were supposed to have enough gold to back the currency in circulation. However, this was not the case, and they often turned to the government for a bailout in case a bank run occurred.
Similarly, vault owners in MakerDAO put up ether in their vaults as collateral for DAI. They then lend out the DAI backed by that ether. Besides the collateral (ether) backing the currency, the DAI has no value. In essence, vault owners, therefore, borrow DAI from the Maker protocol and use ether to back the loan.
Maker doesn’t have government backup, as in the case of banks. Instead, MakerDAO uses a smart contract that lets users lock in their DAI for an incentive in the form of a savings rate. A committee overseeing MakerDAO is in charge of adjusting the savings rate to maintain DAI’s price at par with the dollar. This is done by drawing DAI in and out of circulation to influence its price.
Ulbricht’s Redeeming Proposal
Ross Ulbricht speculates that under collateralization caused the mess in March. He further proposes that MakerDAO should do away with the savings contract and the stabilization fee. Instead, vault owners should receive a collateral rate, a reward for providing collateral. This rate would draw collateral into the system and would come from the DAI owners.
Better yet, vault owners would set their own rates. They would then compete for the lowest interest rates, which would ensure they remain low. Market forces would then automatically adjust these rates in the case of a collateral shortage. This would, in turn, discourage DAI hoarding, as was the case during the March crisis.
Ross concluded by reinforcing that Maker was a cool concept, but he feared that a similar crisis would occur if the issues weren’t addressed. He added that the consequences would be dire if this were to happen and that the previous crash should serve as a wake-up call.