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Stablecoin Spotlight on Aave’s GHO

GHO is an upcoming stablecoin proposed by the DeFi protocol Aave

The proposal is that GHO will be over-collateralized by a diverse set of crypto assets at users’ discretion. It will also provide an additional revenue stream for AaveDAO.

GHO Stablecoin Will Be Over-Collateralized by a Diverse Set of Crypto Assets Chosen at Users’ Discretion

GHO is an upcoming stablecoin proposed by the DeFi protocol Aave, which will be over-collateralized by a diverse set of crypto assets at users’ discretion with an aim to maintain a 1:1 peg with the US dollar. Unlike Circle’s USDC stablecoin (the world’s #2 largest stablecoin by market cap), which is backed by US Treasury securities or cash held at US regulated financial institutions, GHO stablecoin could be categorized as a commodity-backed stablecoin as it will maintain an over-collateralized portfolio of cryptocurrency assets backing the issued GHO tokens.

On 7/31/2022, Aave (one of the world’s largest decentralized lending and borrowing protocols with a total value locked of $9.6B as of 8/3/2022) through its decentralized autonomous organization (DAO) passed a proposal that will allow for the creation of GHO stablecoin. Out of a total ~501K Aave token holders, more than 99.9% of them voted in favor of the proposal.

Aave’s upcoming GHO stablecoin market will be bootstrapped on the Ethereum Mainnet, which will allow users to mint GHO stablecoin after supplying collateral in the form of other cryptocurrencies at a specific collateral ratio. During the minting phase, the users will be required to post cryptocurrency collateral more than the amount of GHO stablecoin they are minting.

For posting the collateral, users will have an option to choose from a diverse set of cryptocurrencies at their discretion. For example, a trader looking to protect his or her $100mm crypto portfolio having Bitcoin, Ethereum, and other major cryptocurrencies amid a market downturn can mint <$100mm worth of GHO stablecoin at a certain pre-specified collateral ratio.

The amount of over-collateralization required for high-risk and volatile cryptocurrencies will be higher than relatively less risky and less volatile cryptocurrencies. The minting of GHO stablecoins will essentially function like a borrowing transaction wherein the user will post cryptocurrency collateral for taking a stablecoin loan.

Furthermore, users minting GHO will also pay an interest on their stablecoin loan. Similarly, GHO stablecoins will be burned when users repay their borrowed positions or their positions are liquidated. The minting and burning mechanism of GHO stablecoin is more akin to the other major crypto-backed stablecoin called DAI and is far from the recently collapsed algorithmically-governed Terra stablecoin, which was not backed by any collateral and utilized a mechanism that burnt its sister token to mint the stablecoin token.

AaveDAO Should See New Revenue Stream in Form of Interest Payments through GHO Stablecoin

The ecosystem of GHO stablecoin will be fully governed and managed by AaveDAO, which will request the community to vote on major proposals. AaveDAO will also be responsible to approve facilitators for GHO, which are the entities entrusted with the ability to generate and burn GHO tokens.

The AaveDAO will also be responsible for determining borrowing rates for GHO, which will be kept stable for a specific period but will be altered based on market conditions. The GHO stablecoin model essentially revamps the DeFi lending model of Aave, with all the interest payments on the borrowed stablecoins going to AaveDAO treasury vs. the Aave platform, where a major portion of interest payments are earned by the users funding the loans.

GHO Should Further Strengthen the Aave Ecosystem while Also Driving Its Adoption on Layer-2 Blockchain Solutions

The GHO stablecoin will also help to secure the Aave protocol as it will allow holders of stkAAVE to mint GHO at a discount rate. stkAAVE represents a tokenized position of staked AAVE token held separately in a safety module that can be used to replenish deficit events on the Aave protocol. The safety module plays a vital role in protecting the protocol against unexpected loss of funds due to potential attacks, liquidity risks, and few other operational risks. It uses a portfolio of locked AAVE tokens to check these risks.

Apart from generating additional revenue for AaveDAO, the GHO tokens are also expected to make stablecoin markets more competitive while providing additional options for stablecoin users. Aave believes that there is an opportunity for GHO stablecoin on layer-2 blockchain solutions considering their low transaction fees and growing adoption. Layer-2 solutions are secondary protocols where blockchain transactions can take place independently of the main chain in an effort to reduce transaction costs and increase transaction speed. Aave plans to use grants and hackathons supported by AaveDAO to drive use cases of GHO in payments and for other mainstream adoption.

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Fundamental analysis on cryptocurrencies, digital assets and blockchain enabled financial products