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Background

Token models have matured significantly since 2017. After the ICO craze of 2017/2018 spawned a generation of utility tokens for medium of exchange use cases and obscure means of value capture, the bear market of 2018/2019 killed off most of the speculative value from these tokens and challenged their raison d’être. Beginning in 2018, we saw two trends happening in parallel: 1) DeFi protocols started offering open, smart contract-based financial services; and 2) tokens that had well-defined, more traditional means of value capture saw their price climb as the activity on their protocols grew.

MakerDAO catalyzed both of these trends by offering useful decentralized financial services in the form of an automated lending desk and a permissionless stablecoin, as well as a governance token (MKR) that is burnt in proportion to the earnings of its lending desk. Known as the buy-and-burn model, MKR’s token model functions like a stock buyback, suggesting that investors can quantify the value of MKR based on assumptions about the interest rates and loans outstanding. While there are some notable differences — including that Maker does not pay out dividends and returns capital to token holders exclusively through buybacks — this model much more closely approximates that of equities. Over the last few years, MKR has been consistently valued in the hundreds of millions and has enabled the Maker Foundation to finance, develop and grow the Maker ecosystem. …


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From Promises Enforced by Law to Promises Enforced by Code

Blockchains are the first technology ever invented that gives software systems the ability — without trusted intermediaries — to make highly credible promises. These promises are enforced by a novel combination of technological innovations spanning peer-to-peer networking, encryption, and consensus mechanisms.

The first blockchain was created in 2009 by Satoshi Nakamoto as a solution to the long-standing problem of how to create a digital currency that operates outside of the control of banks and governments. This solution was named Bitcoin, and it successfully coordinated the establishment and maintenance of a new, independent system of money that is native to the internet. …


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Software and the internet have had a relatively low disruptive impact on the financial services industry. Sure — consumer expectations have changed, and banks are doing what they can to match the online experience of the highly customizable, on-demand internet services people have grown accustomed to — but businesses models have persisted.

This is in stark contrast to the complete disruption experienced by many other industries, from retail commerce to hospitality to media. The music industry provides the clearest example of what this looks like, illustrated by the following revenue breakdown from the past 17 years:


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Why Does Interoperability Matter?

Distributed systems have to make trade-offs to function effectively in an asynchronous environment like the internet — one without a global clock to define the ordering of events. Blockchain-based networks, designed to carry immense value, must also guard against malicious, or byzantine, actors. At the consensus level, these trade-offs can include limiting the number of participating nodes to provide consistent ordering of events between them (as in DPOS, PBFT algos), or adopting a probabilistic view of the ordering to ensure the continued functioning of the network (Nakamoto consensus). At the application level, trade-offs exist around the expressiveness of a blockchain network’s programming capabilities, as the size of its design space is correlated with the size of its attack surface. …


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Data on Tether (USDT) from Coin Metrics.

Background

2018 has been a big year for stablecoins. From concerns around Tether’s insolvency to a proliferation of transparency-oriented “Tether-killers”, to discussions around the viability of crypto-native stablecoins, the topic has found consistent mindshare in the crypto community. A considerable amount of research and writing has been dedicated to examining the stability mechanisms that each of these stablecoins employ (some great overviews here, here and here), so I’ll focus on an aspect that hasn’t received as much attention: the business behind stablecoins.

It turns out that stablecoin issuance can have significant upside across a range of mechanisms for capturing value. …

About

Aleks Larsen

Investments & research at Blockchain Capital

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