Note: DAO stands for Decentralized Autonomous Organization.
DeFi stands for Decentralized Finance.

MakerDAO is a decentralized derivative financial system built on Ethereum blockchain. It is positioned as an automated lending platform on Ethereum blockchain and is also the issuer of Dai stablecoin. MakerDAO’s main net was launched in December 2017 and in a short period of time, it has positioned itself as a leader in DeFi in terms of market share.

POFID stands for Privacy-Oriented Financial Instrument Distribution Framework & DAO. POFID is positioned as a blockchain-based tool that provides decentralized on-chain governance of assets.

POFID is a European organization of geeks that are building a technology that makes issuing digital assets easier based on the assets recorded on the blockchain. These digital assets can be used for private payments and as a mode of settlement in international trade. The POFID team considered using MakerDAO but later found out that the original intention of MakerDAO was to support Ethereum and ERC-20 standard tokens/assets. More importantly, the team wanted to launch assets that support private placements which eventually made them abandon the MakerDAO architecture and build their own application. After observing globally, they discovered the SERO blockchain based on which POFID was created, which is now known as the “Private Ethereum Blockchain”.

After more than a year of secret research and development, POFID released version 1.0, opened source at GitHub, and released a white paper. The author, who has been a user of MakerDAO, also appeared in POFID under the name of Novac.

Collateral

At present, MakerDAO supports four assets as collateral, including ETH, BAT, WBTC, USDC; as we can see, the ETH and the remaining three are ERC20 tokens issued on Ethereum blockchain. It is worth mentioning that the USDC is the US dollar-pegged stablecoin, issued by Circle (Circle is a one-stop blockchain financial service institution).

In addition to the USDC, which is backed by the Circle’s auditable US dollar reserves, MakerDAO also has the other digital assets, including ETH tokens, which are not backed by any physical assets. However, these three digital assets have a significant market value, and they are approved by the MakerDAO governance vote, as MakerDAO’s pledged assets.

In fact, we have been looking forward to MakerDAO supporting other assets as collateral, such as gold or other assets with comparatively low volatility, as it was mentioned before. However, from a technical point of view, MakerDAO does not yet support NFT assets (heterogeneous assets) defined by ERC721 standard. Later, NFT assets were also extended to ERC1155 and ERC998 standards.

At present, most of the tokens issued on ETH are based on ERC20 standard, which means only one token can be used to describe an asset. The ERC721 standard supports a custom data structure in the contract’s asset description. In reality, any assets from gold to in-game valuables/property/assets can be used in smart contracts; still, the ERC721 standard supports only one asset type. The ERC1155 standard is further expanded to enable smart contracts to support an unlimited number of replaceable and non-replaceable tokens so that the assets can be grouped into different categories in a smart contract and be accounted for in a unified manner. The ERC998 standard is even more powerful in that it can include and combine different NFT assets.

It can be considered that these ERC standards can basically describe any real assets. If MakerDAO can support any type of assets as collateral, technically, MakerDAO can already be used as a very powerful blockchain-based asset custody tool and has the opportunity to surpass the current lending business practices, where funds are used mainly as leverage for currency speculation. Unfortunately, at present, MakerDAO has not achieved this step.

Unlike ETH, in January 2019, when the Beta version of the SERO public chain main net was launched, it already supported two asset standards named Ticket and Package. Tickets can be understood as anonymous ERC721, the corresponding contract account and its assets are not available to anyone, but it can still be observed that the contract owns this Ticket asset. Package, on the other hand, supports any placement and combination of Ticket assets. And because Package can be a combination of any assets, so contract account with Package, in fact, does not disclose any asset information in the contract.

Although the SERO team created these two on-chain asset standards, in our opinion, we still haven’t fully realized the significance of the combination of blockchain and real assets, or, at least, haven’t really applied it in practice. The POFID’s asset pledge contract supports these two asset criteria standards, meaning that any real-world asset can be accurately described in POFID smart contract. So from a current technology implementation perspective, we have to admit that POFID is way ahead of the MakerDAO in the number of supported assets, which also means that POFID, in practice, can meet more requirements and have way more application scenarios than MakerDAO.

Privacy

Imagine a business case, when a bullish user pledges ETH on MakerDAO, lends 10,000 DAI, and then goes to an exchange to buy more ETH; he needs to pass the KYC process. Since ETH currently does not support anonymous transactions, it is easy for the exchange to know that the user ’s DAI comes from his pledge on MakerDAO, and it can even analyze the amount of ETH he pledged at the time and how much DAI he lent. We cannot be sure that the privacy of the user’s personal assets has not been compromised, and it cannot be considered right because of the limitations of the current technology, but it should be the other way around.

From another point of view, being positioned as a stablecoin, DAI has obvious payment attributes, and similar to USDT, it is dominant in payment. In terms of stability, we are more optimistic about DAI; however, speaking of privacy at the time of payment, DAI also does not solve this problem.

If MakerDAO wants to support more heterogeneous asset pledges, privacy issues will become more prominent. It can even be considered that this issue is the real culprit that hinders MakerDAO’s support for NFT assets. In reality, non-homogeneous assets generally have very private attributes, e.g. real estate, diamonds, or bonds. Due to the non-anonymity of Ethereum blockchain, especially even if Ethereum realizes the anonymity of ETH and other ERC20 asset transfers through contracts or sidechains, there is still no indication that Ethereum will support the anonymity of heterogeneous data such as ERC721 in smart contracts. In that case, MakerDAO may not be able to pass this level to meet the needs of various business scenarios, because everyone will have to take the risk of completely compromising the privacy of their personal assets when taking a loan from the chain.

Obviously this is also the most important point for the geeks who created POFID, and the reason why they chose the SERO as the underlying public chain. For a fully open source project, SERO has proven to be as reliable as Ethereum. For such a project, it doesn’t matter too much about the reputation of the underlying public chain but has more consideration of whether the underlying technology can maximize meeting the needs of the project. From the perspective of privacy protection of account assets and contract assets, SERO is almost perfect, and from the perspective of privacy security, the zero-knowledge proof technology used by SERO is more reliable than MimbleWimble, ring signatures, or other mixing currency technologies.

Stability guarantee and liquidation mechanism

MakerDAO adopts a dual-currency model, one is the stablecoin Dai, and the other is the equity token and management token MKR. Through the dual-currency mechanism, MakerDAO operates a decentralized system of pledged loans.

When users redeem the loaned ETH, they need to pay MKR as a stabilization fee, in which case MKR will be destroyed. As more and more people use DAI, there are more and more stabilization fees, more and more MKRs are destroyed, and MKRs become more and more valuable. In this sense, MKR can be viewed as a deflationary system, and the holders of MKR can benefit from the widespread use of DAI.

There is a situation that will cause the system to issue additional MKR: If the collateral price plunges within a short period of time and falls below the liquidation ratio, the loaned assets cannot support Dai ’s liquidity, the system will liquidate the asset and conduct an auction to repay the previously lent Dai (for the system, every Dai issued means a Dai in debt). So the system began to issue additional MKR, and sell MKR to buy Dai. Then, the system sells the loaned assets through a public auction and uses the raised Dai to repurchase and burn MKR.

In this case, the holders of MKR became the bottom of the last system. Holders of MKR enjoy the benefits of system success, and also bear the risk of a system crash.

In the plunging market, the lending principle of Dai is an over-collateralization, which means that you can only get $60 worth of Dai for $ 100 of ETH, which forms a cushion in the middle. The system stipulates that when ETH falls to $ 80, more ETH must be lent or liquidated. If liquidation is required, the lender will also need to pay a fine, which will be returned to the PETH pool to destroy PETH. If it falls below $ 60, this may lead to global liquidation, the operation and creation of lending/debt positions will be prohibited, and holders of Dai and CDP will receive convertible net asset value.

Overall, MakerDAO is still a healthy pledge loan market. However, on March 12, 2020, the global outbreak of COVID2019 has triggered a series of black swan events in the cryptocurrency market, and the entire market has collapsed.

MakerDAO, as one of the major projects of the DeFi ecosystem, suffered in the extreme market condition, resulting in a system debt of US $4 million. Under unavoidable circumstances, the system launched a debt auction, which will release MKR tokens for auction to make up for the debt losses of the entire system, and these losses have to be borne by all MKR holders.

According to Murphy’s Law, when a disaster has a theoretical possibility, no matter how small its probability is, it is likely to happen in the end. MakerDAO’s design of a liquidation mechanism was too simple, too dependent on the chain of operations, and ultimately led to the debt crisis.

In contrast, POFID has made some optimizations in the settlement mechanism. From these improvements, the design of POFID’s liquidation mechanism is likely to be inspired by the extreme market crash on March 12, 2020.

Regardless of the specific parameters such as the initial pledge rate, the main improvement mechanism is that when the asset depreciation and pledge rate reach the liquidation ratio (DAI in MakerDAO, while POFID supports lending of different general assets called AOC), the auction mechanism for the pledged assets in the DMW (called CDP in MakerDAO) is not adopted by using the loaned assets. Instead, they bid on a first-come, first-served basis to obtain ownership of assets in the DMW.

In order to ensure the stability of AOC, a security pad is also provided from the initial pledge rate to the liquidation rate, requiring Banker (called Keeper in MakerDAO) to increase the pledge assets. However, after reaching the liquidation rate, the auction method is to bid for control of the DMW-the bidder obtains control of the entire DMW by supplementing the DMW to reach the initial margin rate (premium bid). In the future when any DMW appreciation is beneficial to him, he can buy out the DMW at a constant price and form a huge risk-free profit.

In this mechanism, the contract will calculate the actual asset allocation quota of the DMW. In the end, the asset obtained by the winner who completed the exercise auction is equivalent to the return value of the asset redemption when he immediately repaid the AOC and his total investment (exercise auction bid plus the repaid AOC). For a user who completes the exercise auction, it is equivalent to obtaining a future option for this DMW asset. The auction bid is actually a competitive acquisition of control options for all DMWs, and with extremely high control of the risks and high return, it provides a competitive guarantee for the stability of AOC.

If the bidding mechanism is still unable to obtain an offer, it is marked by the POFID DAO’s clearing organization (SLC Clearing and Governance Committee) as disposable DMW assets. The SLC will be handled according to the minimum guarantee mechanism set by the DMW, so the SLC mark has the final guarantee for the value stability of the AOC. SLC will sell the POFID platform token in exchange for AOC to be destroyed on the POFID platform, and swap out the assets in the DMW to ensure that all AOCs circulating in the market can still maintain the asset pledge rate guarantee above the liquidation rate.

After the situation that happened on March 12th, the congestion of the Ethereum network has caused great uncertainty in the MakerDAO auction mechanism, and each auction below 100% pledge rate actually causes a loss of assets behind the DAI, and the MKR needs to be sold back to repurchase DAI and destroy it to obtain the stability of DAI. Therefore, the stability of DAI is too dependent on MKR. In this kind of extreme market, the POFID mechanism only requires one transaction to get the corresponding AOC to restore to the stability of the initial pledge rate, simple and reasonable.

Of course, it still needs time to prove whether these optimizations can withstand market tests and ensure the stability of POFID currency.

Summary

As mentioned in the article, not considering the reputation of the underlying public chain and the current popularity of the project, and judging from the perspective of technical capabilities and governance mechanism design, we think POFID is undoubtedly more competitive.

From the perspective of a DeFi tool, POFID has better scalability, especially in terms of abundance and extensibility of real asset support. In terms of stability and liquidation mechanism, POFID is likely to complement MakerDAO ’s biggest flaw, with better performance in extreme market conditions. The most important thing is that POFID can guarantee the stability of asset structure in most of the time. Also, POFID’s privacy mechanism adds a lot of strong points.

Unless it is being used to speculate on demand for ETH, in many scenarios, POFID will be a better or even the only choice, and the implementation of POFID is likely to bring opportunities for the rise of SERO public chain.

POFID DAO is a technology and governance framework based on Blockchain technology for the issuance and management of stable cryptographic and stable currencies.