This post argues that MKR token holders are incentivised to keep the Dai Savings Rate (DSR) low or close to 0% and that the incentive to keep DSR low increases over time.
This argument relies on the following assumptions:
- DSR is for controlling the demand for Dai. Any increases or decreases in DSR are made to manipulate user demand for Dai.
- Users will realise the benefits of low switching costs. If service A offers 5% interest and service B offers 7% interest, users will quickly migrate fully over to service B.
- Many services will provide “risk-free” interest rates. Over time, many services are able to offer similar trust guarantees to MakerDAO. Successful crypto protocols approach risk-free rates as they mature.
- MKR burn equals cash flows. There have been arguments regarding whether burning MKR really is the equivalent of receiving cash flows as a MKR token holder. For what it’s worth, my opinion is that these arguments come from misunderstandings and MKR’s value is derived from its future cash flows.
The current MakerDAO Stability Fee means direct cash flows to MKR token holders. MakerDAO’s profits as a company are:
Annual Outstanding Dai x Stability Fee = Profit
Profit / 1,000,000 (MKR token supply)= Earnings per MKR (similar to traditional EPS)
Once Multi-Collateral DAI is released, the profit function is:
Annual Outstanding Dai x (Stability Fee — DSR)= Profit
Thus, any growth in DSR directly reduces the profits of MKR holders. Today, the MakerDAO Stability Fee is set at 9.5% and the Compound Supply APR is 7.4%. If DSR is meant to control demand for Dai, the market is already doing an adequate job at that.
If MKR holders decide to make DSR ~8.0%, then per the second assumption users will migrate their Dai to earn DSR instead of Compound’s interest. However, at these rates MKR holders would eat more than 80% of their own profits.
If DSR is lower than Compound’s rates, then the expectation is that no users will migrate. If the DSR is lower than for Compound and no users will migrate, then it may be better to keep DSR near 0% to maximise MKR token holder profits.
MakerDAO’s goal is to offer a “risk-free” interest rate, but per the third assumption other services should be able to offer similar trust guarantees. Compound and other competing services trend towards decentralisation over time.
Compound and other services have built their success with Dai as a core primitive. In addition to the 15 million Dai locked in Compound, there is over 3 million Dai locked in dYdX, and 1.5 million Dai locked in Nuo Network (per DefiPulse.com). If MakerDAO raised the DSR they would become competitors to complementary services.
Conclusion: MKR holders are incentivised to maximise profits by keeping the DSR at 0%.