Robert has reported for a variety of international publications including the Associated Press, The Guardian, Vice, and Decrypt. Current areas of interest include the political economy of technology, cryptocurrencies, and privacy. Robert has a Bachelor of Science from UCL, and a Master's degree from the University of Oxford's Internet Institute.
Cryptocurrencies are notoriously volatile; prices jump all over the place. Take Bitcoin: As of April 2021 the coin trades for $60,000. Last April, as the pandemic shook global markets, the same asset traded for below $7,000. Stablecoins address this weakness. They are cryptocurrencies that tie their value to some other asset, often the US Dollar, which means the cryptocurrency’s price fluctuates far less. One such stablecoin, DAI, is related to the Maker protocol (a protocol is a set of rules that allows data sharing between computers). Some special decentralized features make it part of a new wave of finance called decentralized finance, or DeFi.
DeFi refers to a variety of different financial tools that use blockchain to replace traditional intermediaries, such as banks, brokerages, or insurance companies. While some blockchain projects, such as Bitcoin, are used purely for transactions as a cryptocurrency, DeFi projects broaden blockchain by using it for non-custodial services such as lending, synthetic assets, or decentralized exchanges. Maker is one of these projects.Buy and Sell Bitcoin, Ethereum, and over a dozen other cryptocurrencies with Wealthsimple. Sign up and Trade here.
What is Maker?
Maker is a cryptocurrency that is used by the MakerDAO (DAO stands for decentralized autonomous organization). MakerDAO is built on Ethereum, which is a blockchain that allows developers to build different projects. MakerDAO is an application that is meant to make borrowing and lending cryptocurrencies easier, removing the need for a middle man such as an exchange or an ATM. It’s also got its own stablecoin, DAI.
All of this runs on Maker’s smart contracts. These are self-executing lines of code that do not require enforcement by a third party, such as a lawyer or a broker. Instead, the blockchain processes the contracts automatically, so long as the parties fulfill their end of the contract. If this obligation is not met, the first party is totally refunded. This ensures contracts cannot be broken while removing the need for a third party. This also removes the need for legal action, as the contract will be upheld without resorting to a court case.
Lending and borrowing crypto is not easy: prices move a lot, which means a loan issued in one cryptocurrency could require a radically different repayment (in its dollar value) compared to the amount loaned. This both deters lenders and borrowers. Would you borrow a cryptocurrency knowing your payment obligation could go up almost infinitely, or lend knowing you could receive basically nothing in return if the price skyrockets?
MakerDAO resolves these problems by integrating lending with its own stablecoins. These stablecoins maintain the same value, which means lenders and borrowers have a better idea of how much will be repaid. MakerDAO uses two distinct cryptocurrencies to facilitate lending. These are DAI and MKR. Both of these are from the same protocol, but they have radically different purposes.
The first of these, DAI, is the one you can use to borrow and lend different cryptocurrencies. It has a steady value of 1 US Dollar, so it would take a financial meltdown to seriously disrupt its value. DAI is an ERC20 token, which refers to a set of standards used by developers to make tokens on the Ethereum blockchain. If you take out a loan on the MakerDAO platform, the protocol creates DAI tokens. These are the tokens that users borrow and repay. Once borrowed, it can be used for online purchases similar to many other cryptocurrencies.
DAI can be stored on hardware or software wallets, so long as they are able to hold Ethereum tokens. Two of the market leaders in hardware wallets, Ledger and Trezor, both support DAI tokens. Hardware wallets have an upfront cost, but they are more secure than leaving your crypto on an exchange or in a software wallet. Most software wallets also support DAI, since it’s no different than any of the other ERC20 tokens.
While DAI are the frontend of the MakerDAO system, MKR is used to maintain the system, stabilizing the price of DAI and voting on the operation of the system. By holding MKR, a user has some say over how the MakerDAO system operates. MKR also counters fluctuations in the price of DAI. If the price of DAI falls too low, MKR is created, likewise, if it rises too high, MKR is destroyed.
To understand how this works, it’s necessary to understand how MakerDAO’s special type of loan works. MakerDAO’s smart contract loans are called Collateralized Debt Positions, or CDP for short. These CDP’s are bought with Ether, and in exchange a user receives DAI. The ETH that is paid acts as collateral for the loan. This means users can take out a loan against their ETH holdings. Upon repaying the loan, the issued DAI is destroyed. There are also MKR fees during this process. How does MKR save DAI from price fluctuations? If the price of DAI is too low then MKR can be produced and sold on the market to raise additional collateral and cover the debt obligation.
MKR holders also gain voting rights proportional to the amount of MKR they hold. MKR holders vote on features of MakerDAO such as the amount of collateral needed for a CDP. Participating in these votes isn’t just a way for users to influence the platform; voting gives rewards in the form of additional MKR tokens. These tokens could then be resold for profit or held and used to gain greater influence over MKR votes.
MKR isn’t the only safeguard for DAI borrowers. There is a further option, called a ‘global settlement’, in the event of the MakerDAO network’s collapse. A group of individuals have settlement keys to the system. These keys can be used to release the collateral held in CDP’s to users in the form of Ether.
How is Maker different from Bitcoin?
Maker is very different from Bitcoin. Bitcoin was created as a peer-to-peer payments network. This means that it can be used for online transactions. Its blockchain maintains a digital ledger that keeps track of how much Bitcoin individual users have and hides the identities of those users behind a complex combination of letters and numbers known as a public address. Bitcoin also functions as a store of value, not unlike gold. To mint a new Bitcoin, computers solve complex mathematical puzzles, using up a lot of memory and energy in the process. This is a process called mining. The energy used in mining costs money, as does the hardware needed to mine Bitcoin. Both these costs are seen as an investment that contributes to the perceived fundamental value of Bitcoin.
MakerDAO has two distinct cryptocurrencies, each of them different than Bitcoin in their own way. The first is DAI, the platform’s stablecoin. Tied in value to the US Dollar, this is radically different from Bitcoin, a currency known for its volatility. DAI also has a very different purpose than Bitcoin, as DAI is used for cryptocurrency lending. Bitcoin has no such functionality.
MKR, a so-called governance token, is even more radically different than Bitcoin. MKR has a number of different purposes on the MakerDAO platform. It is used to back up the value of DAI, preventing it from falling too low or rising too high. It also grants votes to holders of the platform, which means users can influence how MakerDAO itself is governed. New Bitcoins, on the other hand, come from miners solving difficult mathematical puzzles. These miners are then rewarded with freshly minted Bitcoin.
As an investment, Maker and Bitcoin are both very different propositions. A Bitcoin investor might have faith that Bitcoin will be used more and more as a payment system, or that it will take its place as a new gold. Maker, on the other hand, is linked to the DeFi movement, and its success depends upon the success of crypto as a whole. If there is a large demand for cryptocurrency loans, Maker should do well. The question is whether this demand will continue to grow.
How to buy and sell Maker
Both MKR and DAI can be bought on a good old fashioned cryptocurrency exchange. If a user wants to trade them against other cryptocurrencies or the US Dollar, this is the way to go. However, if a user wants to buy and hold them as a long term, secure investment, then a hardware or software wallet can be used. Hardware wallets are more secure, but they do cost money which could deter smaller investors. In contrast, software wallets are usually free. As a stablecoin, DAI will not change in value very much, so it makes more sense to buy MKR as an investment.
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