Do Kwon, Founder & CEO of Terraform Labs – Interview Series
Do Kwon cofounded Terraform Labs to use blockchain technology to develop a more efficient payment system. Its eponymous price-stable cryptocurrency, or stablecoin, attracted 40 million users to work with the company at launch in January 2018. With the aim of building a blockchain-based payment system, Terra has raised $32 million from crypto-giants such as Binance, Arrington XRP and Polychain Capital, as well as assembling an alliance of commerce partners including Korean ticketing giant Ticketmonster and travel service Yanolja.
Why did you choose to focus on stablecoins when launching a blockchain company?
Stablecoins fulfill the currency mandate of cryptocurrencies and are one of the most compelling innovations in the entire industry. They offer significant advantages over fiat currencies derived from their shared infrastructure on blockchains, and are much easier to understand and serve as the basis for building user-friendly, outward-looking applications sourced from DeFi.
The demand for stablecoins on networks like Ethereum is aptly demonstrated by more than $100 billion in circulating stablecoins, as well as the idea that stablecoins are cannibalizing public blockchains as the preferred settlement medium (as opposed to volatile native tokens).
Terra stablecoins (e.g., UST), are fiat-pegged algorithmic stablecoins designed to be censorship-resistant, maintain robust peg assurances, and have a low cost of issuance. This makes Terra stablecoins an ideal inter-chain medium of exchange and value transfer that retains the primary advantages of the underlying blockchain.
Could you discuss how fiat-pegged stablecoins are collateralized by the network’s native token LUNA?
The Terra Protocol functions somewhat similar to a central bank. However, the policy is replaced by code and community-governed. At a high level, Terra relies on the supply elasticity of LUNA to absorb the price dislocation of stablecoins like UST.
The Terra Protocol is quite simple:
- When the supply of Terra stablecoins (like UST) goes up, the LUNA supply goes down.
- When the supply of Terra stablecoins goes down, the LUNA supply goes up.
The Terra protocol acts as a market maker with the on-chain swap mechanism using LUNA to make the market. Like central banks, Terra defends its peg with actions in the open market. But it does so indirectly via arbitrage incentives.
For example, the Terra Protocol always enables on-chain swaps at the target exchange rate baked into the protocol, which is 1 UST for $1 worth of LUNA. Anyone can go to the market (i.e., the on-chain swap mechanism) and swap 1 UST for $1 worth of LUNA and vice versa. The on-chain exchange rate is fixed.
This means that sizeable waves of minting/burning UST (expanding or contracting the outstanding liabilities), induces one of two scenarios:
- Seigniorage — Minting 1 UST requires burning $1 worth of LUNA — contracting the LUNA supply + expanding the UST supply.
- Contraction — Redeeming 1 LUNA requires burning 1 UST — contracting the UST supply + expanding the LUNA supply.
Arbitragers take advantage of price dislocations of Terra stablecoin on-chain vs. off-chain venues (like exchanges). For example, if TerraUSD (UST) is trading at a premium on KuCoin, then a trader can mint 1 UST for $1 worth of LUNA on-chain and sell the 1 UST for a profit on Kucoin, concurrently applying downward pressure on the peg to restore its $1 parity when replicated many times and at size by market participants.
Notably, LUNA does not explicitly collateralize the outstanding liabilities (e.g., UST) of the network. Instead, it functions as the “mining power” of the network that absorbs the short-term peg volatility of the stablecoins — meaning that LUNA can “collateralize” the outstanding liabilities of UST on a fractional reserve basis when necessary. The system simply finances Terra stablecoin price-making via LUNA, which is making the price for Terra at a fixed exchange rate based on the oracle price — the on-chain swap mechanism.
You can read more granular details about the protocol here.
What is Anchor Protocol precisely and how does it enable Terra stablecoin deposits to earn stable yield?
Anchor Protocol is a decentralized savings protocol and money market built on top of the Terra blockchain. Anchor offers UST depositors a stable 20% APY, which is sourced from the cash flows generated from yield-bearing staking derivatives used as collateral for UST-denominated loans on the borrower side.
Basically, borrowers deposit staking derivatives (or later, other yield-bearing assets) as collateral for loans denominated in UST. The yield from their collateral is passed onto borrowers based on the utilization ratio, where excess yield is drawn into the yield reserve to backstop the 20% APY deposit rate in case borrowing demand falls relative to deposit demand.
Anchor unlocks the potential of bonded staking capital of macro-entangled PoS blockchains, providing the benchmark, cross-chain reference rate for the formation of a DeFi-native interest rate curve.
The Anchor SDK enables projects and applications to easily integrate Anchor’s high-yield savings into their product in only a few lines of code, becoming the “Stripe for Savings” sourced from DeFi. With ETHAnchor, Anchor serves as a cross-chain locus of liquidity for high-yield savings where deposits in multiple stablecoins can capture yields better than the variable rates of most DeFi and centralized incumbents.
More information is available in the Anchor Docs.
In 2019, Terra announced a partnership with a payments company called Chai. Could you share the use cases for Chai, its current market adoption rate, and how this partnership works?
CHAI was incubated by Terraform Labs and is now a separate company that relies on Terra stablecoins for its settlement infrastructure. Currently, CHAI has over 2 million+ active users and processes more than $2 billion in yearly transaction volume. With CHAI top-up, users in South Korea don’t even need a bank account anymore.
CHAI recently raised $60 million in a Series B.
In 2020, Terra launched Mirror Protocol, a DeFi protocol that allows for the creation and trading of synthetic assets. Could you elaborate on what Mirror Protocol is specifically and how it enables users to capitalize on the price movement of real world assets?
Mirror Protocol is a synthetic assets protocol built on Terra that enables on-chain exposure to any asset. Users can mint, trade, and provide liquidity for US tech equities, commodities, crypto assets, ETFs, and more all within a single interface.
Mirror is controlled by the community of MIR holders, meaning that the mirrored assets (mAssets) are voted in by the community and parameters registered for trading. mAssets track the price of real-world assets, with incentives designed to help them maintain parity with their underlying asset.
Notably, although mAssets do not provide direct ownership of an asset like a US tech stock, they allow people in financially disenfranchised regions to participate in the wealth creation of global markets by offering them price exposure. Additionally, with Mirror V2 set to launch next week, mAsset composability means that using Anchor UST (aUST) as collateral for minting mAssets enables users to gain price exposure to real world assets while accruing 20% APY from Anchor on top of their position. Composability enables other creative features too, such as minting mAssets with MIR as collateral, building auto-rebalancing ETFs of mAssets, and on-chain asset management platforms built on top of Mirror (e.g., Spar Finance).
Mirror, as opposed to most TradFi exchanges, taps into a global pool of potential users rather than one restricted by geographic barriers due to political issues, onerous fee structures, or other impediments to investing.
How does Mirror differentiate itself from competing synthetic asset platforms?
Mirror deploys a different collateralization model than its primary competitor on Ethereum — Synthetix. For example, Mirror’s CDP positions for minting mAssets are siloed, meaning that the collateralization ratio can be lower (~150%) for UST deposits to mint mAssets. Additionally, Mirror is inter-chain, with mAssets exported beyond Terra to Ethereum, Binance Smart Chain, and soon to be several other chains.
What’s next on the agenda for Terraform Labs?
On the near-term horizon, we’re launching our next major mainnet upgrade, Columbus-5, as well as Pylon and Nebula Protocol.
Pylon is a yield-bearing investment gateway, savings, and payments platform built on Anchor Protocol that deploys an innovative “payments-in-cashflow” value exchange model.
Nebula Protocol is an auto-rebalancing ETF protocol for launching and issuing creative ETFs that can contain community-determined allocations to synthetics, crypto assets, and more based on dynamic market conditions.
Beyond that, there are currently dozens of projects building on the Terra network that we’re helping support in any way necessary.
Thank you for the great interview, readers who wish to learn more should visit Terraform Labs.