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What Are MKR and DAI? Introduction to Maker

Fiat currencies and traditional banks should be prepared to meet their maker.

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One of the biggest obstacles to crypto’s mainstream acceptance as currency is the volatile pricing. Bitcoin, for example, ranged in price from $6,000 to $17,000 in 2018 alone. Nobody wants to spend 10,000 seemingly worthless crypto tokens on a couple of pizzas one day, only to see the price jump to a value of over $100 million the next. The Maker DAI is a stablecoin meant to address this volatility.

Tether (USDT) is probably the most well-known stablecoin, but it’s at the center of a lot of controversy. Critics and regulators doubt it’s backed by fiat currency, as its creators claim, although a recent report (note: not an audit) provided proof that the coin was backed by dollars.

Either way, Tether lacks transparency, has a strong connection to the Bitfinex exchange, and was allegedly used to manipulate the price of Bitcoin (and the crypto industry) in 2017.

MakerDAO (founded by CEO Rune Christensen) uses a different approach to stabilize DAI using its proprietary MKR token. It’s an interesting approach that more closely follows fractional-reserve banking, in which a bank is only required to hold a fraction of its deposit liabilities.

Except the collateral backing DAI isn’t the US dollar or any other fiat currency – it’s Ethereum.

To understand the viability of Maker’s dual-token concept, we need to discuss the tokens themselves.

Breakdown of MKR and DAI

Maker has a market cap of $382,149,438 as of July 10, 2018. This is based on a circulating supply of 668,228 MKR (out of a total supply of 1,000,000) and an exchange rate of $571.89. Its max price was $1,687.86, which occurred on January 20, 2018.

MKR is an ERC-20 token on the Ethereum blockchain and can not be mined. It’s instead created/destroyed in response to DAI price fluctuations in order to keep it hovering around $1 USD. MKR is used to pay transaction fees on the Maker system, and it collateralizes the system.

Holding MKR comes with voting rights within Maker’s continuous approval voting system. Bad governance devalues MKR tokens, so holders are incentivized to vote for the good of the entire system.

Dai has a market cap of $52,051,768, based on a circulating supply of 52,612,937 DAI and an exchange rate of $0.989334. DAI is rarely worth exactly $1 – it typically hovers between $0.98 and $1.02. Instead of mining, it’s issued by purchasing a collateralized debt position (CDP), Maker’s smart contracts that act as a loan. Once the loan is paid off (along with MKR fees), the DAI is destroyed.

To purchase DAI, you need to convert your ETH to wrapped Ethereum (W-ETH). This is how decentralized exchanges like 0x enable exchanges between ETH and tokens on the Ethereum blockchain.

Converting between MKR, DAI, and ETH is done on Oasis Direct, MakerDAO’s decentralized token exchange platform that also supports other ERC20 tokens. Other exchanges like Radar Relay, HitBTC, Kyber, and Ethfinex also support DAI and MKR. Maker recently announced a partnership with AirSwap DEX too.

Both tokens can be stored in any wallet that supports ERC-20.

MakerDAO’s Competitive Advantages

The biggest difference between Maker and Tether is transparency. Internet research shows their connection and they shared c-suite executives such as Chief Strategy Officer Phil Potter (who stepped down from both in late June 2018).

By contrast, Maker is completely transparent about development of its blockchain project. For example, you can find over two years of semi-weekly meeting recordings on the MakerDAO SoundCloud page.

MakerDAO creates DAI using CDP smart contracts to collateralize the assets. This means it’s backed by ETH instead of fiat currency, and the CDPs ensure there’s always enough ETH assets on hand to cover the DAI supply. Essentially, CDP contracts hold ETH, and if a black swan event occurs, such as ETH crashing before anyone has a chance to react, MKR is liquidated on the open market to cover the losses.

Maker is also working hard throughout 2018 on crypto partnerships. It partnered with OmiseGO, Digix, Request Network, Tradeshift, and CargoX. The more partners Maker gathers, the more viable its stablecoin becomes.

What’s the Point of Stablecoins?

Value volatility is a relative concept among both cryptos and fiat currencies. The US dollar, for example, was worth 110.748 yen on July 9, 2018. On July 4, 2011, $1 was worth 80.64 yen, and on March 18, 1985, $1 was worth 255.65 yen.

These are major differences in exchange rates, and inflation within each country makes each currency worth different values even when compared to themselves. One USD in 1913 is worth the equivalent of $25.41 today, and even $1 in 1993 is worth the equivalent of $1.74 today.

Stablecoins don’t negate these basic economic principles of value. Instead, both Tether and Dai have values pegged to the U.S. dollar. This is done to stabilize the price for exactly the reason described in the introduction of this article.

While inflation and exchange rates can fluctuate and affect the price of a pizza over time, you’ll never pay $50 million for one. The most expensive pizza ever made was a $12,000 pizza created by Renato Viola in Salerno, Italy. It took 72 hours to create and was made with ingredients like Kaspia Beluga caviar, Norwegian lobster, organic Arabian flour, and hand-selected Murray River pink salt.

Even $12,000 in 1913 is only worth $304,955.15 today, after over a century of inflation. This is one of the reasons Laszlo Hanyecz’s 2010 Papa John’s pizza purchase maintained its legendary status over the years, aside from being the first recorded Bitcoin purchase. In less than a decade, the crypto experienced more ‘inflation’ than the US dollar ever has in its entire existence.

Not every price swing will be this drastic, but it does hinder the idea behind many crypto projects. Ethereum gas fees, for example, are much more expensive than when the network first launched in 2015. In three years it went from being worth a few dollars to a few hundred.

Now imagine you’re using a project like betting platform Augur, where you can participate in speculative markets such as “Will Dwayne Johnson Win the 2020 Democratic Presidential Nomination?

This market is open right now, and the outcome won’t be determined until the summer of 2020. If you were to bet one ETH or BTC on this market, their values will be drastically different two years from now. Just hodling either of those cryptos from now until then is a speculative gamble, with ‘analysts’ like John McAfee betting one BTC will be worth $1 million in 2020, while others think it’ll be worthless by then.

Gambling is just one use-case Maker is targeting. It can also stabilize investments in financial markets and international trade. Any case in which value is transferred can benefit from a stablecoin, although that doesn’t necessarily mean DAI will be the coin used for these purposes. That’s something the market will ultimately decide.

Maker Summary

MakerDAO is an ambitious project aimed at a decentralized future for cryptocurrencies. It took three years of development to launch on the Ethereum mainnet. Its developers are betting on its success through these major features.

  • Maker is a two-token system that includes both the MKR and DAI ERC-20 tokens. Both use ETH as a trading pair.
  • Maker uses the MKR token and CDP smart contracts to stabilize the DAI token at $1. It’s only soft-pegged to the US dollar and can be moved to another currency should the US economy collapse.
  • Maker is a decentralized platform focused on decentralized exchanges. It is supported by many top decentralized exchanges.
  • Voting rights on the Maker platform are held by MKR holders, who are the buyers of last resort for DAI and are thus incentivized to keep the platform running.

With these pieces in place, Maker is well positioned to overtake Tether as the stablecoin of choice in the crypto community, despite facing competition from numerous new stablecoins (and major projects in development).

 

The author is not invested in any cryptocurrency mentioned in this article.

 

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