Weekly Narrative on MakerDAO – 19 March 2019
Last week, the community discussed the impact on the increased the stability fee change from the week prior. Since such time, the market response continued to consolidate the price* of DAI. We saw a slight increase in the price* above 0.991 but then returned slightly below to 0.975. A unique market response was noted as CDPs were continued to be opened and more DAI minted. The rate at which DAI is minted was almost the same rate as prior to the stability fee increase. This implies that the average CDP holder and even new CDP holders continue to be rate inelastic for now. It has been observed via trading desks that while overall the price* of DAI has started a recovery, too much liquidity remains in the market which is presenting a challenge to a sustained recovery. Too much liquidity can and will cause a systemic problem if unchecked as it directly indicates a loose economic policy and further exposes DAI to possible price drops as supply and demand have a perceived imbalance.
Further, in an efficient market we should see DAI being minted and burned at more or less the same rate. By derivative, the Maker “burner” wallet should be increasing at a somewhat constant rate based on the DAI outstanding and the stability fee. During the recent week, the number of open / closed CDPs were disproportionately high, even after a rate increase. This metric further points to too much outstanding DAI.
Given the observed impacts of the stability fee on the price, prudence and monitoring are advised. As the overall objective is to bring supply and demand into balance (which may be observed via the price* being as close to 1.0000 as possible), it is critically important to engage pragmatically and not overshoot any new rate change adjustments.
Observe the market price* and compare the supply numbers from Maker’s internal trade desk (and any other trade desks) for another week. In parallel, prepare the community for a continual series of 50bps rate increases to continue to tighten the perceived supply demand imbalance and to identify the rate sensitivity point in which CDP holders begin to close their CDPs at more or less the same rate as they are opened by others. Further, it is recommended to continue these rate increases on a predictable and well-communicated cadence until such time as we see the excess liquidity begins and continues to contract. The foregoing notwithstanding, such a contraction of excess supply may be viewed with a negative connotation by some. It is however an important balancing act to ensure the DAI in circulation remains well priced and not the byproduct of loose economic policy. Further, the question of “when will we know when sufficient DAI supply / liquidity has been contracted?” is and remains a perpetually valid question. In this regard, while the community has adopted to take the scientific path for decision making, this area remains much more of an art than science. Until such time as we can scientifically quantify the intentions of CDP holders and their DAI use cases (along with an attempt to compute the elasticity of demand), we will be forced to estimate and assess the liquidity based on market actions (e.g. minting and burning DAI).
As the current outstanding DAI is now above $95mm DAI, priority discussions should be underway now to raise the debt ceiling from $100mm DAI to some material number above where it stands today (e.g. $120mm DAI). The action of moving the stability fee is and should always be a balancing act. It is quite important to not have any forces that artificially cap supply or demand for a sustained and unknown period of time. Such sustained artificial limits may cause price harmonics that make balancing the stability fee that much more difficult.
* – price being determined by USD fiat offramp via USDC – DAI (at pro.coinbase.com)