How does RWA driven by high returns inject decentralized innovation vitality into DeFi?

23-11-28 15:00

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Original Title: "How Real World Assets (RWA) Driven by High Yield Inject Decentralized Innovation into DeFi"

Original Author: Nelson

Until recently, stablecoins have been the only category of real-world assets (RWA) that have garnered attention. Stablecoins were introduced even before the establishment of Ethereum, replacing volatile cryptocurrencies as the standard transaction medium on the blockchain. Currently, USDT with a market value of $86.9 billion and USDC with a market value of $24 billion lead the way, accounting for 7.5% of the entire crypto market's $1.46 trillion market value.

In the past two years, when traditional finance abandoned zero interest rate policies and government bond yields exceeded native DeFi yields, people realized that the story of RWA is not just about stablecoins.

Let's examine the market structure of RWA, starting from the most stable aspect and gradually exploring its future development and trajectory towards returns and risks.

Types of RWA

Industry Development and Challenges

Stablecoin: The backbone of RWA

In the ever-changing world of cryptocurrency, stablecoins have become the unsung heroes. These digital currencies aim to maintain stability by pegging their value to traditional assets such as the US dollar, and have played a crucial role in injecting real-world capital into the crypto market. Here are a few observations on the stablecoin space.

Profitable and Stable Coin Ecosystem: Cryptocurrency's Money Tree

Stablecoins have proven to be a cash cow in the cryptocurrency industry, with clear product-market fit and significant monetization opportunities. In fact, they have become one of the most profitable areas in the crypto space.

For example, consider Tether (USDT) - in the first quarter of this year, its profit exceeded that of financial giant Blackstone Group. Tether achieved an impressive profit of $1.48 billion, while Blackstone Group had $1.16 billion. What's even more noteworthy is that Tether manages funds that are 120 times less than Blackstone Group. Tether manages $70 billion, while Blackstone Group manages $85 trillion. Most of Tether's revenue comes from reinvesting its fiat collateral, and recently, their balance sheet has leaned towards government bonds. Due to its network effect and customers' interest in stable products, Tether is able to capture 100% of the underlying yield, thus achieving amazing profits.

However, this also raises the first issue for existing stablecoin providers. Centralized stablecoins such as Tether and Circle have been criticized for privatizing profits and socializing losses, leading to fairness issues. In March of this year, the market suddenly realized that holding stablecoins is not risk-free, and holders will face losses if they encounter any issues related to collateral management, but they will not receive any compensation for the risks they take.

In addition, there are widespread issues of insufficient transparency and exposure to undisclosed risks, as seen during the Silicon Valley Bank bankruptcy. At the time of the bankruptcy, the market was unaware of any exposure Circle had to Silicon Valley Bank. On the other hand, while Tether has not been affected by recent bankruptcies of traditional banks, its balance sheet remains exposed to illiquid venture-style investments and lending operations. These are clearly not risks that USDT holders are willing to bear.

Circle and Tether are both designed based on the assumption that their collateral will not depreciate and is 100% liquid, but in reality, both of these assumptions are not true. This makes Circle and Tether vulnerable to bank runs during black swan events. It was only by luck that Circle avoided this situation after Silicon Valley Bank went bankrupt.

Native stablecoins in the encryption industry attempt to control the above risks. However, each design will ultimately encounter the "trilemma" of stablecoins, requiring the selection of two of the following three options:

·Exchange rate peg

·Decentralization

·Scalability

Connecting Traditional Finance with Decentralized Finance

RWA has been providing various products and protocols in the field for many years, but until recently, it has not received much attention except for the stablecoin mentioned earlier. Stablecoins in the cryptocurrency market are more like a safe haven than a financing tool. The recent important catalyst for its rise is the high interest rate policy.

The widening gap between native DeFi yields and traditional financial yields has sparked interest in solutions that can help bridge this gap. Once again, stablecoins are the protagonist, but this time it is the DeFi native stablecoin protocol - Maker DAO.

Specifically, MakerDAO is the third largest DeFi protocol in terms of Total Value Locked (TVL), and it has strategically shifted its asset management to significantly increase exposure to Real World Assets (RWAs). Essentially, Maker's governance is dissatisfied when there are productive and risk-free alternatives, and it holds non-productive and "risky" USDC on its balance sheet, which directly exposes Maker to national debt and requires a significant amount of off-chain infrastructure and legal means. Fortunately, Maker is one of the more resourceful DAOs and has managed to establish this bridge. So far, it has been successful. In the past year, nearly 65% of MakerDAO's revenue, reaching $130 million, has been generated by RWAs.

Allocating a portion of government bond yields to the DAI Savings Rate (DSR) module has caused a huge shift in the DeFi space, putting significant pressure on smaller competitors like Liquity's LUSD and AAVE's [GHO] who cannot keep up with the yield, and driving up overall interest rates in the stablecoin market.

Blast, the recently announced L2 solution, aims to allocate all stablecoins bridged to its rollup to DSR, indicating that Maker's RWA strategy may drive DAI demand and adoption in DeFi protocols.

However, despite the fact that the RWA strategy has helped Maker achieve scalability and optimize its finances, it has clearly moved it away from its position as a trustless DeFi protocol.