In an effort to stabilize VST without impacting existing lenders via redemption, we propose phasing out redemption and introducing variable interest rate to the protocol.
VST is currently de-pegged downward due to strong supply growth but lack of demand. While we are working on demand sinks such as the new staking program, it is much more direct to control the peg via controlling supply.
Currently, the redemption mechanism is the main method that the protocol has to throttle supply, bringing the token back to supply and demand equilibrium. However, this is quite possibly one of the worst user experiences across all CDP protocols as it takes borrowers by surprise - it is not up to the borrowers on when they are redeemed against.
We propose that Vesta adds an interest rate on debt generated to help with throttling supply when needed. Charging an interest rate that is reactive to VST price would encourage some borrowers to pay back their VST debt, thus decreasing supply of VST.
Vesta will optimize for the security and the peg of the stablecoin, therefore interest rate will be determined by three factors:
- Each collateral’s risk - which is determined individually according to each assets’ own risk profile
- The collateral’s backing ratio - how much the stablecoin is backed by a particular collateral relative to the total supply
- How underpeg the token is - If the token is underpeg, the interest rate across all collateral should increase. This will decrease circulating VST as higher interest rates encourage people to close vaults
VST is ideally backed by high quality collateral as defined by our risk team. Therefore we will compare the current backing of VST with the ideal collateral backing percentages for each collateral and charge an interest on the ones with higher-than-ideal backing ratio. In Vesta v2 we’ll potentially support negative interest rate - where the interest accrued would be streamed to collateral vaults with lower-than-ideal backing ratio, encouraging VST to be backed by high quality collateral.
The definition of ideal backing ratio will be determined by Risk DAO. It will consider a variety of elements in determining the ratios, including liquidity depth, history of the project, future plan of the project, centralization risk, etc. We are working with Risk DAO in publishing a framework for evaluating the collateral backing ratios soon.
To help alleviate the issue of over-supply, the interest rate would be magnified depending on how under-peg the token is.
Where will the interest go?
Similar to all fees accrued to the system so far, the interest will go toward the ecosystem reserve. As mentioned above, v2 will potentially distribute interest rate to vaults with less-than-ideal backing ratio, facilitating a stablecoin that’s backed by healthier collaterals.
The interest rate will be calculated manually, and published three days ahead of implementation. Collateral backing ratio part of the interest rate will be calculated and refreshed every week Monday 12 PM ET, and the token peg part of the interest rate will be calculated and refreshed every day 12 PM ET.
The execution of disabling redemption and enabling interest rate will be implemented at the same time. As we hope to phase out redemption immediately, the features should be implemented upon passing of this proposal. A roughly timeline of two-week is to be expected.