The Hidden Concerns of MakerDao, Not Just Exposures to RWA

Endgame is not the ultimate goal of DeFi, it is just a wall and fog of MakerDAO.

Written by: Alex Xu

This issue of Clips focuses on MakerDAO, one of the leading RWA and DeFi blue-chip projects that has been receiving a lot of attention recently. The author attempts to analyze the internal and external factors driving the rise of MKR and evaluates its advantages, challenges, and long-term hidden dangers from the perspective of Maker’s business.

The following article reflects the author’s interim views as of the time of publication and may contain factual errors and biases. It is for discussion purposes only, and we look forward to feedback from other investment research colleagues.

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1. MKR Price Rebound: Result of Multiple Factors

Recently, the secondary market prices of older DeFi protocols have rebounded significantly, with Compound and MakerDAO showing the greatest increase. While Compound’s surge has a background of its founder Robert Leshner’s second entrepreneurship in the RWA track, this event has limited impact on Comp’s fundamentals, and its rise belongs more to “dry pull”, with little analytical value.

The rise of MKR has been driven by a combination of internal and external factors, with the logic of fundamental business reversal and the long-term vision of the Endgame plan gradually fermenting.

Specifically, the driving forces behind MKR’s recent rise include:

1. The protocol’s monthly expenses have decreased, with monthly expenditures dropping from as much as $5-6 million in the past to around $2 million in June.

Maker’s token transfer payment statistics, image source: https://makerburn.com/#/expenses/accounting

2. Shifting collateral from interest-free stablecoins to government bonds or stablecoin wealth management has significantly increased financial income expectations, reflected in the decline of the PE ratio. According to makerburn’s statistics, MakerDAO’s predicted annualized income from RWA alone is as high as nearly $71 million.

Maker’s RWA asset list, image source: https://makerburn.com/#/rundown

3. Founder Rune’s continuous repurchase of MKR for several months after selling other tokens such as LDO on the secondary market has given the market confidence.

4. By governance, the threshold for repurchasing system surplus pool funds has been reduced from $250 million to $50 million, and the available funds in the surplus pool are currently $70.25 million, with about $20 million in repurchase funds. However, according to Maker’s current repurchase mechanism, it has changed from repurchasing and destroying to “repurchasing market making,” so the actual amount of MKR repurchased is $20/2, and the remaining $10 million Dai will be used to provide liquidity for MKR on Uniswap v2 in the form of LPs, as a treasury asset.

Maker’s system surplus data, image source: https://makerburn.com/#/system-surplus

In addition, since Maker’s founder Rune Christensen proposed the Endgame Maker transformation plan last year, its grand vision on the narrative has also made many investors believe and buy in after the performance and currency price of MKR rebounded.

The ultimate goal of MakerDao’s Endgame is to realize its “world fair and stable currency” vision through optimizing the governance structure, funding sub-projects.

In addition, the recent narrative of RWA seems to be popular in the market. Although there are not many projects that have launched tokens around this business, the discussion has obviously increased, and it has been favored by many investment institutions.

In summary, the current rise of MKR is the result of a combination of internal and external factors, with internal factors being the main driver. As for the promotion of the RWA narrative, the author is more inclined to think that it is the MakerDao’s practice and phased good results of the RWA business that have promoted the development of the RWA narrative in the crypto market, rather than the other way around, where the causality has been reversed.

2. The essence of MakerDao’s business

So, how should we view the long-term impact of the above factors on MakerDao? Can these positive factors push Maker to the next level and achieve its grand vision of creating a “world fair and stable currency”?

I think it’s difficult, and this starts with the essence of MakerDao’s business.

MakerDao’s core business has never changed and is essentially the same as projects such as USDT, USDC, BUSD, etc., which is to obtain “seigniorage revenue” from the issuance and operation of stablecoins by promoting their own stablecoins.

The so-called seigniorage tax can be broadly understood as the income obtained by the currency issuer through currency issuance. Different stablecoin projects obtain seigniorage revenue in different ways. For example, Liquity, another decentralized stablecoin project, charges users a fee of 0.5% when they mint its stablecoin Lusd. For Tether users, a fee of 0.1% or $1000 is charged when depositing or withdrawing US dollars.

In addition, Tether will actively allocate the US dollars deposited by users to purchase treasuries, reverse repos, or money market funds with better liquidity to earn financial income on the asset side.

2. Network effects of stablecoins: People always tend to use the stablecoin with the largest network scale, the most users and scenarios, and the one they are most familiar with. In the sub-category of decentralized stablecoins, Dai’s network scale still leads its followers.

However, Dai’s main competitor is not Frax and Lusd (who are also in a difficult situation). When users and project parties choose stablecoins to use and cooperate with, they often compare them with USDT\USDC instead of Dai. Compared with them, Dai is obviously at a network disadvantage.

4. The real challenge of MakerDao

Although MakerDao has many short-term benefits, the author still holds a pessimistic attitude towards its future development. After discussing the business nature of Maker, which is stablecoin issuance and operation, and the competitive advantages of Dai, let’s face the real problems they face.

Problem 1: Dai’s scale continues to shrink, and the expansion of application scenarios has stagnated for a long time.

Data source: https://www.coingecko.com/en/coins/dai

Dai’s market value has fallen by nearly 56% from its previous high, and there is still no sign of a bottom. Even in a bear market, the market value of USDT has reached a new high.

Data source: https://www.coingecko.com/en/coins/tether

The previous growth of Dai came from the mining craze of DeFi summer, but where will the driving force for its next cycle of growth come from? It seems difficult to find a powerful scenario for Dai within the visible range.

Maker has thought and planned for how to expand the use cases of Dai to be more widely accepted. According to the design of Endgame, the first way is to introduce renewable energy projects as the underlying assets of Dai, making it a “green currency” (Clean money). In Endgame’s simulation, this will give Dai a mainstream-accepted brand element, and make the real-world administrative forces have higher “political costs” when trying to seize or confiscate clean energy projects with Dai. In my opinion, it is too naive to think that increasing the “green” content of the collateral will increase the acceptance of Dai. People may support environmental protection in thought or slogan, but when it comes to practical actions, they will still choose USDT or USDC with wider acceptance. In the web3 world that extremely advocates decentralization, it is still so difficult to promote decentralized stablecoins, so how can we expect residents in the real world to use Dai because of “environmental protection”?

The second means, and also the focus of Endgame, is incubated by Maker, and the community develops sub-projects around Dai. On the one hand, subDAO takes on the governance and coordination work that is currently concentrated on the MakerDao mainline in parallel and diversionary ways, turning centralized governance into segmented and project-based governance; on the other hand, subDAO can establish separate commercial projects to explore new sources of revenue and provide new demand scenarios for Dai. However, this is also the second important challenge facing Maker.

Problem 2: How can subDAO projects succeed in entrepreneurship while transfusing MKR and Dai?

In the future, many subDAOs incubated by Maker will use the subDAO’s own new tokens to incentivize Dai’s liquidity mining, in order to improve Dai’s usage. At the same time, MakerDao will also provide subDAO business projects with low-interest or zero-interest Dai loans to help the projects get off the ground. In addition to low-interest financial support, subDAO also inherits MakerDao’s brand credit and community, which is very important for the start-up period of DeFi. Compared to relying on environmental protection projects to improve Dai’s adoption, the subDAO solution sounds more executable, and there are also precedents in the DeFi field. For example, Frax has developed its own Fraxlend, which supports borrowing Frax with various collateral, providing usage scenarios for Frax.

Fraxlend’s asset lending list, image source: https://facts.frax.finance/fraxlend

However, the problem is that in the DeFi field, the “low-hanging fruit” has already been picked by entrepreneurs. It is not easy to develop a subDAO project that adapts to market demand. More importantly, these subDAOs also need to shoulder the responsibility of delivering value to Dai and MKR while developing projects, because they need to distribute additional project tokens to Dai, ETHD (the LST token in Endgame planned to be repackaged as collateral for Dai) and MKR as incentives. Given such a “tribute task,” it is not difficult to imagine the difficulty of completing the task of satisfying user needs and beating competitors while developing products. SBlockingrk, a lending product incubated and launched by MakerDao, currently has an actual TVL of only over 20 million after deducting the 20 million Dai directly minted and provided by MakerDao.

Rune is the main investor of Monetalis, picture source: https://monetalis.io/

Another similar example is that Maker pays its risk management service provider Block Analitica an annual service fee of nearly $5 million (Dai+MKR). What’s more amazing is that Block Analitica is not only the provider of risk management services, but also the evaluator of risk management services. This dual identity of athlete and referee has made Maker’s risk control services a lucrative monopoly. The remaining problem is probably how Block Analitica and the interest group that monopolizes the MKR governance rights share the rich benefits obtained from the Maker treasury. With the combination of various events and the grand plan of Endgame that even a16z shook their heads at, the circuitous loss of treasury funds in the future is likely to be further exacerbated. It’s just that with the dispersion and decentralization of organizations, the means by which interest groups empty the treasury and distribute profits may become more secretive and circuitous.

Source: coindesk

In addition, the stable fee of Dai has been raised from 1%+ to more than 3% recently, which further reduces the demand for users to borrow and lend through MakerDao, which is not conducive to the maintenance of Dai scale.

Finally, from Endgame to large-scale purchase of national debt and RWA, to the founder’s high-profile secondary market repurchase, and to the initiation of a vote to significantly lower the threshold for withdrawing repurchase funds from the treasury, a series of combinations have given MKR’s market value a clear short-term boost, but also left many hidden dangers:

1. The reserve of treasury surplus is insufficient, and the ability to cope with bad debt risk is declining.

2. The exposure to RWA has been radically increased, which increases the risk of assets being seized by centralized institutions and further magnifies the fragility of Dai.

3. The huge and complex, continuously modified Endgame plan has caused serious community division. In the Endgame phase one roadmap released by Rune Christensen in May, there are “AI governance,” the launch of a “new brand” stablecoin and governance token (retaining the original Dai and MKR), and MakerDao’s own chain and other “fantastic ideas.”

6. Endgame is not the end

In the comments section of Rune Christensen’s Endgame roadmap (The 5 phases of Endgame) released in May, in addition to the usual praise and questions that confuse other governors, two user comments are particularly eye-catching:

“(We) have wasted precious money and energy on funding useless people and rubbish, instead of investing in creating value for MKR and expanding the scale of Dai. All funds and research should be used to figure out how to make Dai and MKR run independently! Remove bloated personnel and complex governance, this is the right way.”

“Why do we think that a globally pre-planned ‘endgame plan’ will be better than solving current problems and gradually improving? This plan is always very specific about ‘what we do’ except for the blockchain part, and there is very little related to ‘why we do it’.”

For Web3 projects based on blockchain operation, they should use the efficiency brought by transparency and low trust costs, rather than building new high walls and fumigating new fog, renting for themselves behind the wall and in the fog.

Endgame is not the ending that DeFi deserves, it is just the wall and fog of MakerDao.

References and Acknowledgments

During the writing process of this article, the author discussed the topic of Maker with @DigiFTTech’s researcher @ryanciz233. Thanks to him for providing a lot of important information, and @ryanciz233’s research on Maker in the RWA part will also be released soon.

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MakerDao collateral data: https://makerburn.com/

MakerDao expenditure statistics: https://expenses.makerdao.network/

Dai-related data: https://daistats.com/#/

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