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Dai Savings Rate (DSR)
The Dai Savings Rate (DSR) allows DAI token holders to accrue interest on their holdings similar to a decentralized savings account.ADai holders can also deposit Dai into other DeFi loan dApps to earn yield. Currently, the annual percentage yield (APY) of the DSR stands at an impressive 5.00%. However, DeFi rates are typically highly variable based on current liquidity and demand, so that number has changed numerous times. To provide context, this rate has experienced noteworthy fluctuations in recent times:
- In 2022, the DSR was regularly 0%.
- By the beginning of Q2 2023, it had increased all the way to ~3.5%, aimed at propelling DAI demand.
- Soon after that (August 2023), it went to 8% before being adjusted down to the 5% enjoyed today.
What makes the DSR a bedrock feature is its contribution to MakerDAO’s profit buffer, derived from extra collateral and governance charges. The pool of funds accumulated is tactically redirected into investment ventures. A portion of the subsequent profits is then channeled back to users in the form of interest.
The technological backbone of the DSR is a smart contract, ensuring that returns are compounded. But beyond the realm of returns, the DSR’s real strategic importance lies in its role as a lever set for MakerDAO’s monetary governance. The rate adjustments act as a thermostat, influencing the temperature of the entire decentralized finance (DeFi) habitat.
In summation, the Dai Savings Rate doesn't merely serve as an interest-accruing feature but as an instrument of financial policy and strategy, showcasing the adaptability and foresight embedded within the MakerDAO system.
Target Rate Feedback Mechanism
Maker controls the Dai-USD peg with its Target Rate Feedback Mechanism (TRFM). The Target Rate determines the price changes needed for Dai to reach the Target Price of $1 during market volatility. For example, if Dai is trading at less than $1, the TRFM will increase, causing the price of Dai to increase, which then causes the generation of Dai through CDPs to become more expensive. This effect concurrently causes Dai holders to gain a profit which will increase the demand for Dai. This newly increased demand for Dai causes the price of Dai to be pushed back up to its Target Price.
The TRFM and Target Rate are determined by exogenous market supply and demand dynamics. However, MKR voters can dictate the Sensitivity Parameter of the TRFM. The Sensitivity Parameter determines how quickly and to what extent the response of the TRFM should be when the Dai price deviates from $1. This Sensitivity Parameter (and the limitations voted on by MKR voters) ensures there is an adequate amount of response time to trigger a global settlement in the event of a network attack.
Peg Stability Module (PSM)
MakerDAO creates DAI primarily when users deposit collateral to permissionless vaults at an overcollateralized ratio. However, the minting technique alone does not protect against price swings across DeFi and DEXs. MakerDAO uses a combination of interest rate policy (via the Dai Savings Rate, which is now 0.01 percent) and open market operations (termed Price Stability Mechanism) in order to peg DAI to USD.
Additionally, the Maker protocol offers a Peg Stability Module (PSM) that enables users to swap collateral directly for Dai at a fixed rate rather than borrowing Dai. The PSM was designed just like a regular vault but for stablecoin collateral. If users swap stablecoins for Dai, they experience no stability fee and a liquidation ratio of 100%. Unlike the case with regular vaults, users of PSM don't retain ownership of the asset and borrow Dai. Instead, they swap the asset directly for Dai. From the user perspective, the PSM is simply a DEX for swapping stablecoins at the best rates.
Via the Price Stability Mechanism, MakerDAO commits to swapping one unit of USD for one unit of DAI at a 1:1 ratio, allowing arbitrageurs to benefit if DAI moves above the peg. This algorithmic technique aims to dampen any excess demand for DAI by diluting the circulating supply. The strategy proved effective at limiting DAI's upside relative to the peg, while the downside is mostly managed through over-collateralization.
The PSM was designed to help keep the Dai peg close to $1 during times when Dai demand outstrips Dai supply. One other difference between a PSM versus a traditional vault is that the PSM allows Governance to collect fees on stablecoins at the point of the swap rather than over time. Another difference is the stablecoins deposited into the PSM by users as collateral are allocated in the same big liquidity pool i.e. no siloed vaults. This pool is known as PSM reserves. Essentially, a PSM is just a stablecoin vault type in the Maker Protocol and all the parameters that apply to vault types also apply to a PSM.
The PSM offers several advantages:
- Increased stability due to the instant arbitrage opportunity when the Dai price diverges from the price of the collateral type underlying the PSM
- Fees are taken upfront
- Because a PSM has no slippage (stablecoin to stablecoin), it attracts and executes significantly more volume than vaults
Maker requires oracles to provide real-time market price information to the system to adjust the Target Rate when needed. Oracles and Global Settlers are external actors and not native to the platform. Another key exogenous actor in the Maker ecosystem is Keepers. Keepers are independent entities, incentivized by profitable opportunities within the Maker system to contribute to the system. Keepers can also make a profit trading Dai and arbitraging the spread when Dai deviates from its $1 peg.
MakerDAO protocol, being an Ethereum dApp, is subject to the blockchain’s latency. The current block time of Ethereum’s blockchain is ~12 seconds with the network able to process ~25 transactions per second. Because Dai is an ERC-20 token that is built and exists on the Ethereum blockchain, and thus, Ethereum provides the infrastructure for consensus.