Decrypting DeFi is Decrypt’s DeFi email newsletter. (art: Grant Kempster)
Although inflation finally appears to be on its way, interest rates are still rising.
This is painful for several reasons, but for crypto bros it basically means risky assets such as Bitcoin And Dogecoin are not as attractive as, for example, conservative bonds issued by the US government.
But it’s not a total wash.
In fact the DeFi sector-specific stablecoin providers are finding unique moves to make the most of the current high interest rate environment.
Yes folks, it’s the return of the interest-bearing stablecoin. This time, however, things look very different from Terra’s Anchor protocol.
From Maker’s DAI to Frax Finance’s sFRAX, the arena is becoming crowded with different flavors of this new variety of stablecoin.
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sDAI (the name of the interest-bearing version of the stablecoin) and sFRAX both generate their returns from T-Bills and other real asset investments, such as corporate bonds.
And with that ‘safe’ return of no less than 5% on those useless US dollars, investors are flooding in.
Spark Protocol, the project powering Maker’s sDAI push, just announced that the token has reached 1 billion in total circulation.
It’s not just the dollar coins either; Euro-pegged stablecoins like those from Angle Protocol are also getting in on the action. Angle’s agEUR earns a 4% return from its portfolio of real assets.
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Pablo Veyrat, the co-founder of Angle, told Decrypt: “You should worry about excessive returns if you don’t understand where the return comes from. A stablecoin is a Ponzi if it relies on endogenous collateral assets.”
In the case of agEUR, it generates its returns from a tokenized representation of a European government bond. In other words, it’s just boring government debt.
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And while some other stablecoins generate revenue via staked ETH, Veyrat says he’s not a fan.
“I don’t like mechanisms with returns on staked ETH, because there is hardly any value creation,” he told Decrypt. “And it often amounts to dumping the stETH proceeds to acquire another USD-denominated asset.”
Still, alternative designs – especially those that don’t rely on interest rates – could see a revival once the Fed starts cutting rates.
“Currently, interest-bearing stablecoins like sDAI, whose returns mainly come from US government bonds, will fall in parallel,” 21.co analyst Tom Wan told Decrypt. “However, others like eUSD, USDe, whose returns come from sETH, or other ETH LSTs will be able to maintain the level of interest for users.”
Until then, however, this product is currently enjoying quite good results from one of the most powerful central banks in the world.
The irony of this whole niche, of course, is that the industry now appears to benefit from centralized governments and their financial policies, a dynamic from which Bitcoin fans sought separation.
This also makes many of these stablecoins vulnerable to any changes in the monetary regime.
“When stablecoin issuers start offering interest, they become dependent on the interest rate market for the currency to which the stablecoin is pegged,” Monerium co-founder and CTO Gísli Kristjánsson told Decrypt. “The most influential factor in this market is the interest rate on overnight deposits with the Central Bank.”
And while Kristjánsson suggests there are clearly more risks involved compared to the more common, non-revenue-producing stablecoin variants, he is nonetheless aware of their “benefits.”
“One of the main benefits is the transparency of the assets and liabilities of these protocols, which can be audited,” he said. “Because the data exists in a standardized format on the blockchain, tools can be developed to monitor the health of the protocol in real time. This represents a significant improvement compared to the quarterly financial reports of traditional banks.”
And this is the most important conclusion.
Rather than a complete rejection of traditional finance, crypto is emerging as a rather dynamic new tool to make money better and more transparent, regardless of the market environment.
Of course, it is far from definitive. But it is certainly progress.
Decrypting DeFi is our DeFi newsletter, guided by this essay. Subscribers to our emails can read the essay before it hits the site. Subscribe here.