Paper ID: 2410.21446 • Published Oct 28, 2024
Improving DeFi Mechanisms with Dynamic Games and Optimal Control: A Case Study in Stablecoins
Nicholas Strohmeyer, Sriram Vishwanath, David Fridovich-Keil
TL;DR
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Stablecoins are a class of cryptocurrencies which aim at providing
consistency and predictability, typically by pegging the token's value to that
of a real world asset. Designing resilient decentralized stablecoins is a
challenge, and prominent stablecoins today either (i) give up on
decentralization, or (ii) rely on user-owned cryptocurrencies as collateral,
exposing the token to exogenous price fluctuations. In this latter category, it
is increasingly common to employ algorithmic mechanisms to automate risk
management, helping maintain the peg. One example of this is Reflexer's RAI,
which adapts its system-internal exchange rate (redemption price) to secondary
market conditions according to a proportional control law. In this paper, we
take this idea of active management a step further, and introduce a new kind of
control scheme based on a Stackelberg game model between the token protocol and
its users. By doing so, we show that (i) we can mitigate adverse depeg events
that inevitably arise in a fixed-redemption scheme such as MakerDao's DAI and
(ii) generally outperform a simpler, adaptive-redemption scheme such as RAI in
the task of targeting a desired market price. We demonstrate these results
through extensive simulations over a range of market conditions.