If you’re unfamiliar, a decentralized autonomous organization (DAO) is a community with common interests that generally uses the blockchain and cryptocurrencies to govern itself. MakerDAO, for instance, consists of worldwide holders of its MKR token, and allows for governance of the DAO and continued development of the Maker Protocol according to the community’s directives.
The Maker Protocol represents a collection of smart contracts built on the Ethereum blockchain that enable the creation of DAI. Users can deposit cryptocurrencies into Maker Vaults to take out the loan in DAI, and return the DAI borrowed to reclaim their locked crypto. These smart contracts also employ several methods to help DAI maintain its peg to the US dollar.
MKR’s primary use is to facilitate voting in MakerDAO to changes that affect the protocol and the MakerDAO community. However, it is also used by Maker Protocol in various ways to maintain DAI’s peg, dynamically managing its supply to accommodate fluctuations in DAI’s own supply and price.
- MakerDAO is a decentralized autonomous organization (DAO) consisting of holders of the MKR token who guide development of the Maker Protocol.
- Maker Protocol is a collection of smart contracts on the Ethereum blockchain that maintains the multi- and over-collateralized DAI stablecoin.
- MKR is used in Maker Protocol to maintain DAI’s peg to the US dollar through a series of auctions addressing surpluses and deficits in the ecosystem, and it is used by its holders to vote on governance proposals to maintain the protocol itself.
How was MakerDAO developed?
MakerDAO was founded in 2014 by Danish businessman Rune Christensen along with Wouter Kampmann, and the two were eventually joined by smart contract developer and investor Mariano Conti.
The idea for the Dai stablecoin was originally explained in a blog post by Christensen in 2015 in which he referred to the concept of his stablecoin as the “eDollar.” In the same post, he referred to Maker as the “guardian” of this stablecoin.
In 2017, MakerDAO launched the Maker Protocol and its single-collateral stablecoin (meaning borrowers could only deposit one cryptocurrency, ETH, to mint DAI), which was originally called Sai. The stablecoin became “Dai” when the DAO changed the Maker Protocol to allow for collateralization using cryptocurrencies other than ETH in November 2019.
MakerDAO has received backing from multiple funding rounds since its inception. In 2017, venture capital firms Andreesen Horowitz, Polychain Capital, and others bought approximately $12 million of MKR from the MakerDAO Development fund. Following this, in September 2018 Andreesen Horowitz bought another 6% of MKR’s total supply for $15 million, valuing the project at approximately $250 million. Other VCs have been involved over the years as well, contributing to the development of the Maker Protocol by investing millions of dollars into this early DeFi application.
How do Maker Protocol and MakerDAO work?
Users who wish to generate DAI must deposit cryptocurrency as collateral into Maker Vaults. Vaults are non-custodial digital holdings of collateral that exceeds the equivalent value of Dai generated. In other words, the system is overcollateralized to ensure the stability of its $1 peg, even with fluctuations in the crypto market.
By depositing ETH, BAT, or other crypto into a Vault, users can then generate DAI tokens through Maker’s smart contracts. If a user then wants to retrieve their collateral, they have to pay down the debt using DAI. For this service, a small stability fee accrues in the Vault, which is added to the loan that the user holds. All of these activities are automated by smart contracts and recorded transparently on the Ethereum blockchain.
When the crypto economy is relatively stable, this system maintains a stable price of DAI tokens through specific users called Keepers who buy DAI when it is below its dollar peg and sell DAI when it is above its peg, also known as arbitrage. They also participate in three types of auctions that act as feedback mechanisms ensuring ecosystem stability:
- Surplus auctions: When there is a surplus of funds generated by stability fees, the protocol offers excess DAI that can be bought by users for MKR. The MKR tokens are subsequently burned, decreasing the total supply.
- Collateral auctions: When a user’s Vault doesn’t contain enough collateral to back their DAI loan (e.g. because their crypto decreased in value due to market conditions), the available collateral is liquidated. These funds are offered to other users of the system, minus a penalty, to cover the loaned funds.
- Debt auctions: When collateral auctions cannot cover the debt generated by a liquidated user, others can bid for the opportunity to pay back a loan and receive MKR that is newly minted by the protocol.
More information about the Dai stablecoin can be found in our “What is Dai? (DAI)” guide.
Voting on MakerDAO
Owners of the MKR token have the ability to vote on proposals that change the functions of the Maker Protocol. Put simply, to vote on proposals, owners must lock their MKR tokens in a Voting Contract, and the proposals that garner the most MKR are more likely to succeed and be executed.
There are two primary types of votes. Governance Polls, more commonly known as opinion polls, are weekly surveys sent to the community to gauge the sentiment for certain changes to the Maker Protocol. Executive Votes, on the other hand, propose a set of technical changes to the protocol which, when passed, go into effect.
Some of the changes voted on in MakerDAO include changing the protocol from a single-collateral system to a multi-collateral one (including which ERC-20 tokens can be accepted as collateral), adjustments of the stability fee, and what the penalty fee is for liquidation.
How is the MKR token used?
MKR is an Ethereum-based ERC-20 token that supports the Maker Protocol smart contracts and governance through MakerDAO. It is used by the governance community to vote in both Governance Polls and Executive Votes.
MKR is also used by the Maker Protocol smart contracts to stabilize the price of DAI to its dollar peg.
When MakerDAO launched, it generated an initial supply of 1 million MKR tokens. However, this supply has fluctuated over time according to supply and demand for the DAI stablecoin. Through the auction mechanisms listed above, MKR is burned when the protocol runs a surplus and new MKR is minted when it runs a deficit.
How to buy MKR
You can buy the Maker coin on Bitstamp. Sign up for a Bitstamp account and start trading MKR today!
Disclosure: Bitstamp is licensed to engage in virtual currency business activity by the New York State Department of Financial Services.