In dealing with decentralized finance and with any financial service in general, assets are the forefront aspect of the service. For legacy services like savings accounts and bonds, assets like cash must be available. Meanwhile in the DeFi world, tokens must be a fundamental part of an exchange. The biggest puzzle piece to exchanging one token for another however is liquidity. In all types of finance, liquidity refers to the ease of conversion of a particular asset given a certain timeframe and/or an available supply. Dafi Protocol is a very unique solution that may help resolve issues of liquidity and network inflation in DeFi.
A type of asset can be analyzed for liquidity depending on its ease of access, avenues of exchange, and the supply and demand of that asset. For example, cash in most national currencies are considered liquid in the country they reside in. On the other hand, real estate is much less liquid due to the slower rate at which they can be exchanged for another asset. Bartering for an item can also be considered illiquid if that item is uncommon or not in particular demand, meaning that the item can have a price up to negotiating.
DeFi Issues Surrounding Network Liquidity
Unfortunately, it isn’t easy to exchange in the real world from the above example because of fluctuation in markets, supply and demand, and little regulations in DeFi. For example, if a DeFi project wanted to launch and list a token, there are several choices that this project can take to determine the right token allocation and distribution. It’s not always easy to determine the right allocation and distribution; if a project creates a wrong method of allocation then you have issues like too much tokens that become locked and therefore the project risks being too liquid, yet if tokens are not locked and too many are given to team members – then tokens can also become illiquid.
This issue is magnified currently in the DeFi space with the arrival of IDOs where projects are basically forced to launch their immediate distribution of tokens on DEX apps like Uniswap. As a result, a large number of assets are exposed to the network and inflation can occur. This is known as the concept of network inflation.
Dafi Protocol Creates Liquidity Provisioning Tokens
The team behind Dafi Protocol has found a solution for these issues with liquidity and token inflation – synthetic token creation that are network-pegged and locked within a protocol. By taking the assets of these projects, hosting them on the Dafi Protocol which then creates a 1:1 peg of that token as a synthetic form, this addresses the issue and solves many problems regarding network inflation.
This helps projects in a number of ways:
- Early Adoption: a big issue with network inflation is a result of projects launching out of the gate, which can be troublesome depending on the amount of assets available in the open. Dafi Protocol can resolve this by locking the tokens and creating synthetic equivalents that can be sold, thereby preserving the liquidity for the community.
- Long Term Adoption: sometimes the difficulty in some projects is that overtime, they become illiquid which can make it worse for things like user adoption, especially if short term users want to remove their exposure and leave long term users out to dry. This feature by Dafi enables both the short term and long term users to thrive for their particular interest in the project involved.
- Scarcity: for things like supply and demand, Dafi Protocol can help synthetically maintain the project even if the demand gets too low and users cannot effectively participate in a project. This helps prevent network inflation in the event that demand gets reduced which allows scarcity instead, giving benefits for those users that are still involved in the project, by rewarding them later instead.
The way Dafi Protocol is able to do this is through dTokens. These tokens are network-pegged and any project can use Dafi Protocol in order to mint dTokens with synthetic equivalent value to the token used by that project. These synthetic tokens are not tradable and are burned upon redemption for the original token used to mint the dToken in the first place.
Liquidity is always a complex issue to fix, especially with the arrival of DeFi which has moved so fast and remains relatively new. Dafi Protocol attempts to solve these issues and presents a great method of approach in order to solve liquidity and network inflation. Pegged assets are a method that enables project tokens to be locked yet still exposed to a network pool, allowing liquidity to continue as one would expect. As DeFi keeps moving, it will be interesting to see how Dafi Protocol makes the ecosystem all the more robust.