The Dai crypto stablecoin and the Maker protocol are arguably the most powerful innovation to crypto. Without them, DeFi would not exist. As a result, cryptocurrency lending and borrowing is growing in popularity. In this guide, we’re going to discuss MakerDAO and its DAI crypto stablecoin.
KEY TAKEAWAYS
• DAI is a decentralized stablecoin issued by MakerDAO, designed to maintain a peg with the United States Dollar (USD).
• MakerDAO functions similarly to a decentralized reserve bank, managing the supply of the DAI stablecoin.
• The inclusion of real-world assets (RWAs) diversifies the backing of DAI from more than just crypto.
• The Dai Savings Rate (DSR) incentivizes holding DAI by offering interest, helping to control demand.
What is Dai crypto?
DAI is an ERC-20 stablecoin created by the MakerDAO protocol. It is the third largest stablecoin by market cap as of December 2024. The name DAI was derived from a Chinese word (dài), meaning to lend or loan, reflecting its nature as a loan-backed cryptocurrency.
MakerDAO is the world’s third largest stablecoin project and the largest decentralized stablecoin…The thing that makes Maker really unique is that because it’s a decentralized stablecoin, then the kind of value behind the stablecoin is protected and controlled through a blockchain-based system instead of like a company.
Rune Christensen, MakerDAO co-founder
Stablecoins are cryptocurrencies pegged to a fiat currency, most often the U.S. Dollar. Tether (USDT) is another example of a stablecoin, which is linked to the dollar. These assets make it easier for traders to participate in the crypto network of their choice.
Rune Christensen co-founded DAI and the MakerDAO protocol as a concept in 2014 and launched it on December 18, 2017, on Ethereum. Christensen created DAI because he recognized early on that for crypto to be widely adopted by the general public, it needed to have price stability, making stablecoins a natural solution.
How does DAI work?
DAI is the linchpin to the MakerDAO protocol; it ties everything together. Another important part of how DAI functions is its collateral and savings rate. These components create the plumbing for DAI and sustain the DAI stablecoin.
MakerDAO
MakerDAO is an Ethereum-based decentralized finance (DeFi) platform that facilitates the DAI crypto. It is often called a reserve bank because it functions similarly to a central bank by managing the supply of the DAI stablecoin.
When users deposit collateral (e.g., Ethereum or other cryptocurrencies) into MakerDAO, it generates DAI. The DAI that you receive is a loan (i.e. collateralized debt position) that must be repaid to the Maker protocol, in addition to a stability fee (interest), to retrieve the original collateral deposited. Once the DAI is repaid it is burnt.
As a result, lenders earn interest on their holdings once the borrower pays it back. Some of those rewards go toward the platform’s development. MakerDAO features another token as well, MKR. It is a governance token within the platform.
Users who hold this token can participate in the governance process and deliberate on changes and upgrades made to the network. The idea is to create a decentralized economy where users can convert their fiat to crypto while also borrowing and loaning said money.
DAI collateral
If you browse the MakerDAO website, you might see that the platform supports something called a collateralized debt position (CDP). A CDP is a type of loan in which the borrower provides an asset as collateral to secure the debt. If the borrower defaults on the loan (DAI), the lender (MakerDAO) has the right to seize the collateral (ETH, RWA, etc.) to recover the outstanding loan amount.
A CDP is essentially another word for a loan. The Maker CDP is a smart contract in which the user locks in Ether or other cryptocurrencies to generate and borrow DAI.
Originally, the DAI stablecoin only supported a single form of collateral, Ethereum (ETH). This was the original stablecoin created by MakerDAO called SAI or Single-Collateral DAI. In November 2019, Maker transitioned from SAI to multi-collateral DAI.
DAI crypto is crypto-collateralized because it’s backed by Ethereum and other cryptocurrencies. The ratio in which DAI is collateralized varies. Collateralization ratios vary but often range from 120-150%. This ratio is to cover any volatility within the crypto market and is adjusted by MakerDAO governance.
For example, if you get a $100 loan in DAI and deposit $150 ETH as collateral, and the price of this collateral drops to $125, your loan may be in danger of liquidation. If you were not liquidated and the price of ETH continued to drop (e.g. $50 worth of ETH collateral), it would be as if Maker gave you $100 in exchange for $50 worth of collateral.
RWA as collateral
As we have hinted at earlier, the types of collateral backing DAI have changed over time. The latest form of collateral that Maker has added to its roster is real-world assets (RWA).
Typically, the minimum collateralization ratio for low-risk assets like U.S. Treasury-backed tokens (e.g., RWA001-A) is 100%. As of August 23, 2024, over 37% of Maker revenue comes from RWAs.
The reasoning behind this is to diversify the asset type. At one point in time, DAI was majorly backed by other centralized, asset-backed stablecoins like USDC and USDT. This creates counterparty risk. If the companies issuing these stablecoins were to go bankrupt, that would leave a large portion of DAI unbacked.
Additionally, the volatility of the crypto market presents more risks for other forms of crypto collateral. Imagine a scenario where there is a crypto market downturn. This means that a lot of the collateral backing the DAI stablecoin could experience a price drop, causing a de-peg. This would drop the price of DAI to less than a dollar.
Using real-world assets as collateral not only diversifies the Maker collateral but also spreads the risk and opens up the door for institutions to use crypto.
Dai Savings Rate (DSR)
The DAI Savings Rate (DSR) is an interest rate offered to DAI holders who lock their tokens in a smart contract within the MakerDAO system. It serves a few purposes:
- Stabilizing DAI demand: By paying interest to DAI holders, the DSR can help increase demand, which helps keep DAI’s price stable at $1.
- Monetary policy tool: The DSR allows MakerDAO to influence the supply of DAI, similar to how central banks use interest rates to manage currency value.
This mechanism is essential for maintaining DAI’s peg to the U.S. Dollar and the overall stability of the Maker Protocol. The interest paid on the loans (via stability fees) is used to reward both the DAI holders (through the DSR) and pay lenders.
Like what you see? Join BeInCrypto Trading Community on Telegram with like-minded people: share your experience, discuss and read all the hottest news on Web3 and the Metaverse. Join us
DeFi and DAOs
Decentralized finance is essentially traditional financial applications, such as lending and borrowing apps, powered by the blockchain. Considering the blockchain omits the need for a third party, how do we make sure everyone on the network follows the rules? We utilize a decentralized autonomous organization (DAO).
Upon the creation of a blockchain platform, developers create a set of rules hard-coded into the network. In no way can those rules be broken. Since they’re built into the network, a DAO removes the possibility of human error when enforcing programmatic rules.
To facilitate network changes and upgrades, users vote on proposals, which are then implemented by the DAO. As mentioned previously, voters hold the MKR token to participate in this governance method.
How is DAI different from USDT?
| Features | Dai (DAI) | Tether (USDT |
|---|---|---|
| Issued | Ethereum | Ethereum, Tron, 11+ blockchains |
| Collateral type | Crypto and treasuries | Treasuries |
| Collateral ratio | Over-collateralized | Fully collateralized |
| Custody | Decentralized | Centralized |
While most stablecoins are tied to the value of a physical asset, DAI crypto is a little different. This stablecoin is generated by locking in crypto and sovereign debt (treasuries) and isn’t necessarily backed by dollars sitting in a bank.
Also, when locking in that collateral, one must over-collateralize the value of the loan in DAI they’ll actually receive, in most cases. The exception to the rule is real-world assets.
On the other hand, stablecoins like USDT hold cash and cash equivalent assets, presumably in a fully collateralized ratio. In other words, you can give $1 and receive 1 USDT, as opposed to depositing $1.50 to receive 1 DAI.
Additionally, DAI is issued on Ethereum. Tether, however, is officially issued on about 13 blockchains by the Tether organization, and unofficially used on even more.
Why use DAI?
What’s the point in using DAI for a loan instead of taking one out at a bank? Well, thanks to smart contracts replacing the need for a third party, interest rates are often lower for the borrower. In that same vein, more of that interest goes toward the lender, as there’s no bank to take a cut of the earned funds.
Utilizing DAI for a loan is beneficial for both parties and is fairly easy. A few exchanges support the asset, but you’re best off heading to the platform’s official Oasis decentralized exchange. There, you can acquire a DAI loan utilizing various ERC-20 assets as collateral.
There are several wallets that support the DAI crypto. The one you choose depends entirely on your desired level of security. For example, you can pick a hardware wallet like Trezor or Ledger for offline (cold) storage. Or, you can choose to store your DAI on a supported exchange like Coinbase, or simply in a web wallet like MetaMask.
Is DAI a good investment?
Many experts would claim that DAI crypto is a good investment. After all, the project is planning to build a massive DeFi ecosystem. As crypto becomes more mainstream, it’s possible DAI might be the project that takes off. Plus, if you can hold enough DAI to earn reasonable interest while lending, it might be worth considering.
Frequently Asked Questions
What is Dai (DAI)?
Is DAI safe?
What is DeFi?
What is a stablecoin?
What is a DAO?
Disclaimer
In line with the Trust Project guidelines, the educational content on this website is offered in good faith and for general information purposes only. BeInCrypto prioritizes providing high-quality information, taking the time to research and create informative content for readers. While partners may reward the company with commissions for placements in articles, these commissions do not influence the unbiased, honest, and helpful content creation process. Any action taken by the reader based on this information is strictly at their own risk. Please note that our Terms and Conditions, Privacy Policy, and Disclaimers have been updated.
