Dai: Everything to Know

By  Beluga Research July 6, 2023

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Summary

  • Dai is a stablecoin cryptocurrency that operates on the Ethereum blockchain and is maintained by the MakerDAO decentralized autonomous organization (DAO)
  • Dai cryptocurrency is designed to be pegged to the value of one US dollar
  • A stablecoin is designed to maintain a stable value, usually equal to one US dollar
  • Dai achieves its price stability by being collateralized with other cryptocurrencies, primarily ether (ETH)
  • Even with collateral, Dai is still vulnerable to market risk, despite its relative stability

Overview

Dai is a decentralized, stable cryptocurrency that operates on the Ethereum blockchain. It is created and governed by the MakerDAO decentralized autonomous organization (DAO). The key feature of Dai is its stability, as it is designed to maintain a 1:1 peg with the US dollar through overcollateralization of other cryptocurrencies. Dai is used for various purposes, including trading and remittances, as well as a reliable store of value within the decentralized finance (DeFi) ecosystem. Users can generate Dai by locking up collateral (like Ether) in smart contracts, providing a trustless and censorship-resistant stablecoin option in the world of cryptocurrencies.

The idea behind stablecoins is to provide the benefits of cryptocurrency, such as fast and cheap transactions without the volatility that is often associated with most cryptocurrencies.

A Brief History

Dai launched in December 2017 by the MakerDAO project, founded by Rune Christensen. It was one of the first decentralized stablecoins to gain significant traction in the emerging decentralized finance (DeFi) space. MakerDAO's goal was to create a stablecoin that was decentralized, transparent and resistant to censorship. The team behind MakerDAO believed that a stablecoin like Dai could help solve some of the problems that traditional cryptocurrencies faced, such as volatility and scalability.

The protocol initially struggled to maintain its 1:1 peg with the US dollar, facing challenges in its early days. However, through community efforts and improvements, Dai's stability improved over time, becoming a prominent stablecoin within the DeFi ecosystem. Dai's history showcases the resilience and adaptability of decentralized systems in achieving stability and usability as an essential component of the broader cryptocurrency landscape.

What is Dai?

Dai is created and maintained by the MakerDAO project, which is a DAO built on the Ethereum blockchain. Dai is created by locking up collateral, such as ether (ETH), in a smart contract, which then issues the equivalent value of Dai. The collateral is held in a pool called the "Maker Vault," and the amount of Dai that can be issued is determined by the value of the collateral in the pool.

One of the unique features of Dai is that it is decentralized and autonomous. Unlike other stablecoins that are issued by a central authority, Dai is created and maintained by a set of rules and algorithms. This means Dai is resistant to censorship and manipulation, and it can be used by anyone, anywhere in the world.

Another important feature of Dai is that it is collateralized. This means it is backed by real-world assets. Dai can be more stable than other cryptocurrencies, which are often subject to wild price swings. The collateral in the Maker Vault is over-collateralized, which means that there is more collateral in the pool than the value of the Dai that has been issued. This provides a buffer against price fluctuations and helps to maintain the stability of Dai.

Getting Started

To get started with Dai, a user must first set up a wallet that supports ERC-20 tokens, which is the standard for tokens on the Ethereum blockchain. Once a wallet is acquired, the user can purchase Dai on a cryptocurrency exchange or by converting other cryptocurrencies into Dai using a decentralized exchange (DEX) like Uniswap.

One of the unique aspects of Dai is that it is backed by collateral that is held in smart contracts on the Ethereum blockchain. This collateral is in the form of other cryptocurrencies, such as Ethereum or Basic Attention Token (BAT). The collateral is held in excess of the value of the Dai in circulation, which helps to ensure that the stablecoin maintains its value.

Unique Aspects

One of the key features of Dai is that it is decentralized and governed by the MakerDAO community. This means that the value of Dai is not controlled by any central authority, such as a government or a central bank. Instead, the value of Dai is determined by market demand and supply, which helps to ensure that it remains stable.

Another unique aspect of Dai is that it is collateralized, which means that it is backed by other cryptocurrencies that are held in smart contracts on the Ethereum blockchain. This collateral helps to ensure that Dai maintains its value, even in times of market volatility. If the value of the collateral falls below a certain threshold, the MakerDAO community can vote to liquidate the collateral to maintain the stability of Dai.

In addition to its stability, Dai is also programmable, which means that it can be used in a variety of decentralized applications (Dapps) on the Ethereum blockchain. For example, Dai can be used to pay transaction fees on the Ethereum network, or it can be used in decentralized lending platforms such as Aave or Compound.

Advantages

  • Stability . One of the main advantages of Dai is its stability. Unlike other cryptocurrencies, Dai is not subject to the volatility that is common in the cryptocurrency market. This makes it a more reliable store of value and a better option for those who are looking for a stable investment.
  • Decentralization . Dai is a decentralized cryptocurrency, which means that it is not controlled by any central authority. This gives users more control over their funds and reduces the risk of censorship or government intervention.
  • Transparency. The Dai system is transparent, meaning that all transactions are visible on the blockchain. This makes it easier for users to track their transactions and ensures that the system is operating as intended.
  • Accessibility . Dai is accessible to anyone with an internet connection, regardless of their location or financial status. This makes it a more inclusive financial system that is available to everyone.
  • Low Fees . The fees for using Dai are relatively low compared to traditional financial systems. This makes it a more affordable option for those who want to send money or make purchases without incurring high fees.

Disadvantages

  • Centralization Risk . While Dai is currently decentralized, there is a risk that it could become centralized in the future. This could happen if a single entity or group gains control over a significant portion of the Dai supply.
  • Limited Adoption . While Dai has gained a lot of attention in the cryptocurrency community, it is still not widely adopted outside of this niche market. This means that it may be difficult to use Dai for everyday transactions or to exchange it for other currencies.
  • Market Risk . While Dai is stable compared to other cryptocurrencies, it is still subject to market risk. If the value of the US dollar were to decrease significantly, the value of Dai would also decrease.
  • Smart Contract Risk . The Dai system relies on smart contracts, which can be subject to bugs or vulnerabilities. If a flaw were to be discovered in the Dai smart contract, it could put the entire system at risk.