The Holy Grail of Stablecoins: The Exploration of New Paths
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(roses, Van Gogh)
Cryptocurrency is extremely volatile. As far as the development stage is concerned, cryptocurrencies are in a very early stage, speculation is the main theme, and high volatility is inevitable. Like any other influential new thing in human history, speculation was the main feature in its early days, whether it was the birth of the stock market or the birth of the Internet.
In the process of cryptocurrencies or blockchains going mainstream, there is one cryptocurrency that plays a vital role. It's the holy grail of cryptocurrencies.
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Stable currency is the necessary path for the encrypted world to reach the mainstream
Let’s first look at the nature of money. The essence of currency is a value exchange medium, and it also functions as a value store and a unit of account. Money is inherently volatile because the economic value behind it is itself constantly changing. The so-called stability is relative, and it also fluctuates within a certain range. It feels stable because it is our unit of account for value exchange.
The essence of a stablecoin is to be that unit of account. Cryptocurrencies are no exception. But the vast majority of cryptocurrencies are highly volatile. If it is closely related to real-life scenarios, excessive volatility will make ordinary users uncomfortable. For example, you can't imagine buying a cup of coffee for 30 yuan yesterday morning, but it costs 60 yuan the next day. Because it is still denominated in legal currency in reality, volatile cryptocurrencies can be used as investment products, but they cannot be used as currencies for daily payments. This is true not only for consumers, but also for merchants. If they receive payment in cryptocurrency, merchants hope to quickly convert it into a relatively stable legal currency.
Not only in real scenarios, but also in many decentralized usage scenarios that require stable currencies, such as participating in predictions in decentralized prediction markets, lending in decentralized lending markets, and volatile cryptocurrencies are not suitable , Stable cryptocurrencies are more in line with users' psychological expectations.
Of course, not all fiat currencies are stable. In some countries, the annual inflation rate of fiat currency is very large, and some even exceed that of cryptocurrency. In some countries, the legal currency is relatively stable, which is not so obvious to everyone. And the inflation rate in many countries is far beyond imagination. For example, in 2018, Venezuela’s fiat currency inflation exceeded 1,000,000%, if it is a special case. Countries with an annual inflation rate exceeding 20% also include South Sudan, Sudan, Yemen, Argentina, Iran, Libya, Congo, Egypt, Angola, etc. The instability of legal currency is beyond everyone's imagination.
In the end, whether it is the encrypted world or the real world, without stability, it is not a suitable value exchange medium, and ordinary people will not adopt it. Only when the stability problem is solved, can the mainstream people use dApp or cryptocurrency for payment. In other words, stablecoins are an inevitable path for cryptocurrencies to reach the mainstream.
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Stablecoins are hot territory
Blue Fox Notes said a long time ago that blockchain projects should consider the dual-token mechanism. The essential reason is that if they want to reach the mainstream and allow more people to use it, dual-tokens are a must. One token represents the total value of the blockchain or dApp's economy, similar to the total valuation of a traditional company, and the token is similar to a share; the other token is a stable currency, representing the value of ordinary users in their economy. specific use. That is, one token represents the interests of investors, and one token represents the use of users. And this stable currency can be an internal stable currency or an external stable currency. From the current point of view, many Ethereum-based projects have begun to use DAI as the stable currency of their projects. Just like when you play CryptoKitties, you may prefer to denominate in DAI rather than ETH.Blue Fox Notes has published many articles on stablecoins before, such as "》《Stablecoins: The Holy Grail of the Crypto WorldFind a stable currency
" and other 10 articles, mainly speaking, there are three representative models before, one is to anchor fiat currency, such as the model of anchoring the US dollar, the typical ones are USDT, TUSD, USDC, etc. Coins are redeemable for $1. Not only the U.S. dollar, but other fiat currencies can also be used as anchors. The essence of these stablecoins is the tokenization of existing fiat currencies. It uses the blockchain to record the digital issuance of existing fiat currencies. Its advantage is 1:1 mortgage support, because it is linked to legal currency, such as the US dollar, so it also makes full use of the advantages of legal currency, making people feel stable, and it is an important safe haven in the encrypted world. But it also has a disadvantage, which is the problem of centralization. It requires the issuer to be able to guarantee callability. Previously, USDT had a problem that it could not be supported by 100% cash due to the seizure of funds. Other stablecoins also require third-party audits. As long as intermediaries such as third-party audits are involved, trustless disintermediation like cryptocurrencies cannot be achieved here.
The second model is the model of using digital currency over pledge, such as MakerDAO's stable currency model of over pledge with ETH. Of course, MakerDAO will also consider increasing the types of assets pledged in the future to better achieve the goal of stability. At present, there are more than 80 million DAI, and as a decentralized stable currency, it occupies a place among many centralized stable currencies. Of course, it's still early days and far from successful.
The last one is the mode of adjusting the circulation based on the algorithm, which is the previous Basis mode. It is similar to using the Federal Reserve to issue currency and use algorithms to adjust the supply to achieve stability. However, with the team abandoning the project, this model has not yet been truly implemented. Later, as the number of participants increases, there may be a hybrid model using this model.
What Blue Fox Notes describes today is a stablecoin model based on the asset pledge of the reserve pool. Reserve Protocol is a stable currency solution based on the asset pledge of the reserve pool to achieve stability. It has a gradual and progressive route, and has a mechanism different from other stablecoins, which deserves attention.
Reserve Stablecoin: A stablecoin based on 1:1 pledge of reserve pool assets
The Reserve stablecoin is a token based on the Reserve Protocol and is also an ERC20 token, which is backed by a reserve pool of assets called a vault for redeemable value. To understand the Reserve stablecoin, you must first understand that the Reserve Protocol network has three types of tokens: Reserve stablecoin, Reserve equity token (RSR) and pledged tokens.
Among them, the Reserve token is a stable currency, similar to the US dollar in real life, or the USDT anchored to the US dollar. The remaining two tokens, Reserve Equity Token (RSR) and Pledge Token, are mainly used to stabilize Reserve. The Reserve Equity Token (RSR) is the value-capturing token of the Reserve Protocol, and it is also the supporting token when the value of the Reserve stablecoin's vault assets falls, which will be described later.
The pledge token is mainly the reserve pool asset of the Reserve Protocol network. It is not the native token of the Reserve Protocol, but consists of a variety of tokenized assets. Pledge tokens are the assets used to back the Reserve stablecoin, which will be stored in smart contracts. According to the relationship between the U.S. dollar and gold before decoupling, the Reserve stablecoin is similar to the U.S. dollar, and the pledge token is similar to gold.
In the beginning, the Reserve stablecoin was defined as being pegged to the U.S. dollar. When the time is right, it will be decoupled from the U.S. dollar to achieve stability as a unit of account in the encrypted world.
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How does the Reserve stablecoin achieve stability?
The stability of USDT is supported by US dollar cash, which is to anchor the US dollar. Of course, recently it is supported by 74% cash plus some equity pledges. The stability of Dai is supported by overstaking ETH. So what is the Reserve stablecoin supported by?
The Reserve stablecoin is supported 1:1 by the pledged assets of the reserve pool, which is its vault assets. However, like all other stablecoin stability adjustment mechanisms, stablecoins are not absolutely fixed at $1. Just as we often see that USDT is sometimes $0.98 and sometimes $1.02, the same is true for DAI, which will also fluctuate slightly around $1. The Reserve stablecoin will also have similar fluctuations, but basically around $1.
In general, all stablecoins have the same principles. One is the fundamental value behind the stablecoins. The second is to maintain stability through arbitrage adjustment.
Let's first look at the fundamental value behind the stable currency. The essence of a stablecoin is to be that unit of account. At present, the value accounting unit of human beings is legal currency, such as the US dollar. What supports the fiat currency is the value of the economy, reflected in taxes. In this current state, fiat currency is absolutely dominant, because the support behind it is stronger than any other currency, and it is also stronger than the current stage of cryptocurrency. The reason is simple. Legal currency is not only supported by state actors, but also supported by taxation, as well as the network effect that people use. For cryptocurrencies, legal currency currently has a crushing advantage.
So, where are the fundamentals of cryptocurrency stablecoins? The fundamental of USDT is that it is pegged to the U.S. dollar and can be redeemed 1:1 with the U.S. dollar. This means that it is essentially the tokenization of legal currency, which makes full use of the advantages of existing legal currency, and at the same time achieves rapid circulation through the blockchain. Where are the fundamentals of DAI? The fundamentals of DAI lie in ETH, and DAI is supported by overstaking ETH. If there is a black swan event and the value of ETH drops sharply in a short period of time, the stability of DAI will be greatly challenged.
The fundamentals of the Reserve stablecoin lie in its vaults. A vault consists of a collection of tokenized assets. These tokenized assets are pledged assets, used to support the Reserve stablecoin, and can be redeemed 1:1 with the Reserve stablecoin. In other words, Reserve, like all stablecoins, is backed by its own fundamental value. Its fundamentals depend on the good management of its pledged assets.
In addition to the support of value fundamentals, the stability of stablecoins also needs to be adjusted through arbitrage by arbitrageurs based on their supply and demand relationship. The same is true for USDT and DAI, both of which require arbitrageurs to make the price of the stable currency tend to $1.
So, how does the Reserve stablecoin achieve stability through the adjustment of supply and demand?
When the demand for the Reserve stablecoin drops, its price will drop. Assuming that the redeemable price of the Reserve stablecoin is $1, if its price drops to $0.97, arbitrageurs have the incentive to buy the Reserve stablecoin and exchange it for $1 to make a profit. It is exchanged for $1 worth of assets that stake tokens in the smart contract. At this time, due to the purchase of arbitrageurs, the demand for the Reserve stablecoin increased, pushing its price back to $1.
On the surface, the Reserve stablecoin based on the Reserve Protocol is very simple, but in fact, a series of mechanisms are required to maintain stability. The following briefly introduces some of its operating mechanisms.
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The specific operating mechanism of the Reserve stablecoin
To understand the Reserve stablecoin, you must understand the Reserve Protocol. There are several key players in the Reserve Protocol. This key role includes Reserve stablecoin managers, vault managers, market information reporters, and auctioneers.
Let’s first look at the Reserve stablecoin managers. The Reserve stablecoin manager is responsible for managing the supply of the Reserve stablecoin to keep the price stable at $1. It is equivalent to the role of the Federal Reserve and is the manager of the money supply. Next is the vault manager. Inside the vault is a series of pledged assets, which are other asset portfolios that support the Reserve stablecoin. The vault is similar to the assets of the reserve pool. If the vaults of other dollar-anchored stablecoins are filled with US dollar cash, the vaults of Reserve stablecoins are filled with a series of tokenized assets, except for cryptocurrencies. In addition, tokenized commodities or equity assets may also be included.
Let's look again at the reporter of market information. Reporters of market information mainly submit to Reserve Protocol the market conditions of Reserve stablecoins and vault assets, such as prices, trading volumes, volatility, etc. This information is key to triggering the actions of Reserve stablecoin managers and vault managers. Finally there is the auctioneer. Auctioneers are primarily responsible for the execution of asset transactions. Reserve stablecoin managers and vault managers need to conduct frequent asset transactions to maintain the stability of Reserve stablecoins. These asset transactions are executed by auctioneers, who maintain public order books.
Specifically, how does it work?
Reserve Protocol manages two pools of value assets. One is the Reserve stablecoin, whose value was stable at $1 in the early days. The other one is the vault. Once there is a decline in the demand for Reserve stablecoins, it will use the assets in the vault to purchase Reserve stablecoins. Reserve Protocol needs to maintain at least 100% pledge asset support for the issued Reserve stable currency.
Reserve Protocol executes a set of smart contracts. Both the Reserve stablecoin and the Reserve Stake Token (RSR) are ERC20 tokens. The Reserve equity token (RSR) is used to maintain the stability of the Reserve stablecoin and participate in voting on governance proposals.
The goal of the Reserve stablecoin was to anchor at $1 in the early stage, so the definition of its stability is the value of $1. Once, the Reserve stablecoin falls below or above $1. Reserve stablecoin managers, vault managers, and auctioneers will all take action to maintain the Reserve stablecoin at $1.
1. When the Reserve stablecoin is below $1
When the market price of the Reserve stablecoin falls below $1, the Reserve stablecoin manager will use the vault assets to purchase the Reserve stablecoin at the market price and destroy them. These trades are executed by auctioneers, who have a maximum acceptable price and a maximum purchase quantity for a trade. The maximum acceptable purchase price is $1 and the maximum purchase quantities are as follows:
where r is the damping factor used to prevent short-term overreaction and the resulting price volatility.
2. When the Reserve stablecoin is higher than 1 USD
When the market price of the Reserve stable currency is higher than $1, the Reserve stable currency manager will auction some Reserve stable currency to increase the supply and reduce the price.
There are two situations here, one is normal auction and the other is priority sale. If there is an additional stablecoin pool, the Reserve stablecoin manager will sell the Reserve stablecoin to the holder of the Reserve Equity Token (RSR) at a price of $1 (purchased with the Reserve Equity Token (RSR)), so that This gives Reserve Equity Token (RSR) holders room to arbitrage, thereby pulling the price back to $1.
If there is no additional Reserve stablecoin pool, the Reserve stablecoin manager will issue new Reserve stablecoins and sell them in exchange for vault assets to support the Reserve stablecoin.
These operations are performed by the auctioneer, and the smart contract specifies a minimum acceptable price and maximum quantity. The maximum sellable quantity is:
3. The vault maintains the backing value of the Reserve stablecoin
To ensure the stability of the Reserve stablecoin, a solid fundamental value support is needed. This support is not dollar cash, but the asset portfolio of the vault, that is, the tokenized asset portfolio. It is the responsibility of the vault manager to manage this portfolio of tokenized assets.
The vault manager maintains the vault's asset level high enough to withstand the unexpected. The vault manager maintains the vault's asset level according to the vault's goals. The vault target is: 1 USD * Target Ratio * Number of Reserve Stablecoins.
The vault manager determines the current vault level. The value of each asset is equal to the amount of the asset in the vault * the real-time average market price of the asset, which is provided by the market information flow.
In the Reserve Protocol, the vault is composed of multiple assets, mainly to reduce risks and maintain stability. The assets include tokenized commodities, tokenized securities, and cryptocurrencies. In order to reduce the risk of a sudden drop in vault assets causing the vault level to fall below the vault target, the Reserve Protocol requires decentralized management, including diversification across asset classes, diversification across issuers, and diversification across jurisdictions , through these three methods to resist the downside risk of vault assets.
So, how did the vault assets come about? The assets of the vault mainly come from the sale of newly issued Reserve stablecoins, and all mined Reserve stablecoins are 100% deposited in the vault after they are sold.
In the early days, Reserve stablecoin vaults were over-collateralized to provide additional security. Once high-quality assets increase and a steady state is achieved, the vault ratio will gradually decrease to 1:1. In order to ensure the safety and landing of assets in the Reserve stablecoin project, the change of the vault rate and the vault asset portfolio is managed centrally at the beginning, and the project team proposes to upgrade the asset portfolio, including adding or removing assets and changing the goals of assets Distribution, and upgrading the vault rate, etc., which depend on the maturity of the system, will be gradually decentralized in the future.
The manager of the vault manages the portfolio of assets. Because of the volatility of assets, periodic regrouping is required. The regrouping is done by two mechanisms: by the Reserve stablecoin managers; quarterly regrouping of assets through governance resolutions.
First of all, Reserve stablecoin managers can add or remove Reserve stablecoins from circulation, the purpose is to maintain stable prices, that is, Reserve stablecoin managers can obtain pledged vault assets by issuing new stablecoins, Reserve stablecoins can also be bought back from the market using vault assets.
Vault assets also have instability issues. Maintaining the level of value of the vault assets is a core responsibility of the vault manager. For example, when the value level of a vault asset decreases, it needs to increase. When the value level of the vault assets is too high, it needs to increase the supply of Reserve stablecoins to reduce it.
When the vault asset value level falls, the vault asset value level may fall below the vault target level. If the Vault Asset Value level is significantly below the Vault Target and the Reserve Staking Token (RSR) price exceeds $10, the Vault Manager will need to increase the Vault Asset Value level to maintain the Vault Target level. At this point, the vault manager can issue (mine) new Reserve tokens (RSR) and auction them off to obtain more vault assets. The amount of issued tokens is: r*(vault asset value target-vault asset value level), where r is the damping coefficient.
When the vault asset value rises, the vault asset value level is above the vault target. At this time, the Reserve stablecoin manager will issue a new Reserve stablecoin, thereby reducing the value level of the vault assets and tending to the vault target.
Information is obtained from major exchanges off-chain, and this information is recorded on-chain, updated every 30 minutes. It is similar to an oracle system. The reliable information provider under the chain will collect and submit the information to the record book on the chain, and the record book will check the reliability of the data, etc. In the early stage, it will rely on its own submitters, and in the later stage, it will use a decentralized aggregation oracle solution such as ChainLink.
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How the Reserve Stablecoin Can Solve the "Bank Run" Problem
Since stablecoins are backed by U.S. dollars or other assets, they face the risk of a run on the currency. How does the Reserve stablecoin solve this problem?
First, it has a line of defense with its protocol token, the Reserve equity token. Since the Reserve equity token has arbitrage space, it has value and demand. If a Reserve equity token is worth more than $10, once the value of the vault assets falls below the target level, Reserve Protocol will first consider issuing a new Reserve equity token. , the assets obtained from the sale are used to support the pledged assets of the vault.
Secondly, if the pledged token assets in the vault shrink, and at the same time no one is willing to buy Reserve equity tokens (RSR), then this means that the pledge ratio of Reserve stablecoins will be lower than 1:1.
What should we do at this time? Reserve Protocol achieves stable prices and prevents runs by widening the limit of redeemable prices. For example, when the above situation occurs, such as the value of the pledged token asset drops by 5%, and no one is willing to buy the Reserve equity token (RSR), the temporary redemption price of the Reserve stablecoin is no longer $1 , but $0.95, while its purchase price rises to $1.05.
Since the assets in the pledged token pool are exchanged first and later, the ratio is the same, and the amount is also proportional, which can prevent the occurrence of a run. At the same time, this is not very attractive for speculative attacks, because Reserve stablecoins are backed by pledged tokens before all pledged tokens are exchanged. If you try to exchange a large amount, you will also face Reserve stability. The situation where the price of the currency rises and causes you to lose money.
As the value of pledged tokens recovers, token redemption and sale prices will shrink to around $1.
How does the Reserve Protocol capture value?
The Reserve stablecoin is a stablecoin that has no investment value in itself except for arbitrageurs. For investors, what is of great concern is how does Reserve Protocol capture value?
The value capture of the Reserve Protocol is realized through the Reserve Equity Token (RSR). Reserve Equity Token (RSR) is an ERC20 token used to maintain the stability of the Reserve stablecoin and participate in voting on governance proposals.
Reserve Protocol holds pledged tokens on smart contracts that back the Reserve stablecoin. Once new Reserve stablecoins are sold, the assets purchased for these Reserve stablecoins will be stored in smart contracts as collateral. In other words, even if there is an increase in the amount of Reserve stablecoins, the 1:1 ratio of reserve pledges can be guaranteed.
When Reserve Protocol seeks a higher pledge ratio than 1:1 and at the same time increases the supply of Reserve stablecoins, this means that additional assets are required for pledge. What should we do at this time? Reserve Protocol’s approach is to issue and sell its protocol token, the Reserve Equity Token (RSR), to obtain additional pledged assets.
The stability of the Reserve stablecoin is supported by the pledged tokens, so what if the value of the pledged tokens declines? Some projects use over-staking to maintain value stability, while Reserve Protocol uses the model of selling Reserve equity tokens (RSR) to obtain additional pledged tokens.
Why are people willing to buy Reserve equity tokens? Because there is arbitrage space for holding Reserve equity tokens.
When the vault asset value rises, the vault asset value level is above the vault target. At this time, the Reserve stablecoin manager will issue a new Reserve stablecoin. These newly minted Reserve stablecoins are purchased by holders of the Reserve Equity Token (RSR) for $1. There is room for arbitrage here, as the market price of the Reserve stablecoin is already above $1.
Therefore, in general, the value of Reserve Equity Token (RSR) lies in the size of its arbitrage space. The greater its arbitrage space, the greater its demand, and its value ultimately depends on the scale of this arbitrage space.
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Reserve Stablecoin Ultimate Goal
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epilogue
epilogue
There is no doubt that stablecoins are the holy grail of the crypto world. Its importance stems from the need for the crypto world to expand and move towards the mainstream.
If the crypto world can finally go mainstream, stablecoins are an inevitable tool. As a Holy Grail-level cryptocurrency field, there must be countless projects constantly exploring better models.
