Conversations #11: Empowered crypto tribes
Stablecoins have been identified as the killer use case for crypto. This should be unsurprising as blockchain was always built as a medium for new currencies. The first few generations were uninspiring as they all lacked stability mechanisms and were prey to large volatility, thanks to the rampant speculation in the ecosystem.
The second generation, however, has found significant product market fit, with over 135 billion dollars of assets circulating, and multiple industry unicorns (Circle, Tether, Maker…). This is due to their addition of relentless peg management, mostly around the dollar, maintained via economic mechanisms like redeems, arbitrage or algorithmic operations. With over ten trillion of volume last year, saying stablecoins have found on product market fit to be a euphemism.
I happen to find these stablecoins extremely pragmatic and functional, but nevertheless uninspiring. While pushed to the brink of decentralization in setups like Liquity or crvUSD, they can offer a very good bridge between crypto assets and fiat, they still remain dependent on sovereign currencies’ main problem: their shadowy monetary policy. You can have your whole setup trustless, if you are dollar pegged, then you will inflate like the dollar does.
My goal here today is not to expand on my personal flavor of stablecoins, but instead share why I believe every single relatively large protocol will end up having their own currency, by which I specifically mean stablecoin, not another crypto-asset. To understand this, I would like to introduce my personal tier of currencies, ranked from most functional to garbage:
Functional sovereign currencies: legally enshrined and vouched by the full power of nation states. They have live institutions called central banks controlling their monetary policy (ie: dollar, euro, yuan…);
Functional protocol currencies: entirely decentralized and autonomous systems controlling the peg and the general monetary policy of its stablecoin (RAI, OHM v2);
Protocol mirroring sovereign currencies: companies or protocols controlling the supply but not the monetary policy of the asset, instead focusing on peg stability and liquidity (ie: USDC, LUSD, agEUR…);
Experimental currencies: New designs of backing and control of the supply / peg of the currency (ie: local currencies, unproven protocols like fETH)
Failed sovereign currencies: legally enshrined currencies devaluing at a rate which renders them unusable, forcing citizens to fall back on other currencies (ie: Argentinian peso, Turkish Lyra…).
I firmly believe one of the most important challenges in crypto is for protocol currencies to become better money than sovereign currencies over the next century. This can only happen progressively, by incremental experimentation and innovation. For this reason, it is extremely positive to see stablecoins pegged to the dollar and the euro being successful and finding product market fit. Thanks to these, we are financing research in the space of peg keeping, monetary policy and many other crucial tools in order to build currencies from scratch.
Even in a market where stablecoins are dominated by mirrors of sovereign currencies, we’re seeing a large proliferation of new stablecoins, despite USDC and USDT’s unfathoming dominance.
This persistence is due to three factors:
→ The first, is the scaling factor enabled by controlling your own currency, especially in lending. Aave, crypto’s largest lending venue is originating 3.5 billion $ of live loans, mostly in dollar pegged stablecoins, which need to be provided in the protocol to be borrowed in exchange of lending fees. This creates a chicken & egg problem limiting the scalability of the solution but also gating the speed at which competitors can become relevant when you have passed. Silo understood the power of such move very early on with $XAI, but downplayed the cost of liquidity to bootstrap it.
In general, creating your own stablecoin is the perfect leverage solution to your product as it allows clean rehypothecation of the assets in the protocol.
→ The second factor, very much linked to scaling, is the revenue potential of such implementation when done internally. Let’s come back to Aave’s example :
Courtesy of DeFiLlama on 03/02/24
If you introduce your own stablecoin ($GHO), you suddenly can mint and loan it effortlessly, enabling infinite scaling as long as you manage the risk properly (proper backing).
The revenue opportunities of such move are massive. In Aave’s case, if all loans switched to $GHO as borrowed asset, revenues would grow to around 200m$ annually with absolutely no actual growths in deposits or new loans. At current rates, GHO would prove to be 300% more profitable than Aave’s current model. A no-brainer.
→ Besides scaling or revenue, I am utterly convinced creating your own currency enables protocols to significantly enhance their user’s stickiness and product quality by introducing the concept of an ecosystem currency. By denominating everything (fees, salaries, transactions, etc…) in their specific currencies, they supercharge the network effects of their product and/or their community, thus creating an additional flywheel.
Let’s take the example of Balancer, who has no interest in building their own currency from the ground up. Instead, denominating everything in a StableBPT pool enables constant growth in the pool, which lets it trade larger volumes, generating more fees for the protocol, growing the pool in turn. Curve happened to have a similar playbook with the 3pool, which they pivoted from with the extremely lucrative crvUSD, now paired with most stablecoins. To be fully transparent, Curve would be better off in distributing crvUSD deposited in an omnipool.
In short, my thesis is that every moderately successful crypto project (10M$+ in revenue) not venturing into having their own currency is missing out on significant growth and stickiness. This has multiple consequences that I plan on coming back to in later articles, but in the meantime, the essential take-away here is that all of the new stablecoins cannot exist without liquidity, which they will source from Paladin, as dozens are already doing today. All roads lead to Paladin.