LUSD PSM Concept

Summary

Approve a new LUSD Ballast and swapping of the underlying DAI from the DAI ballast to LUSD.

Background

baoUSD aims to be as decentralised as possible. DAI uses many centralised collaterals that compromise its decentralization including other centralised stable coins, wBTC and RWAs. We saw in recent months when USDC depegged, so did DAI, highlighting its reliance on centralization.

Bao has already switched its main baoUSD liquidity pool to baoUSD/LUSD on balancer and the next logical steps are to reduce reliance on DAI and other centralised stables further by using the most decentrlalized stable coin in our Protocol Stability Module (ballast)

Goals

The goal of this proposal is to improve the decentralization of baoUSD by reducing its reliance on collaterals that have centralised aspects. A stable coin can only be as decentralised as its backing

Proposed Solution

  • Deploy a new LUSD ballast
  • swap funds inside the DAI ballast to the LUSD ballast and make up any shortfall due to swap rates from the treasury.

Risks

LUSD stability is not typically as tight as the DAI peg has been due to its lack of PSM. Using only ETH as collateral means that the peg of LUSD is effected by the demand for borrowing compared to the demand for holding LUSD. In periods of volatility LUSD has traded as high as $1.06 and as low as $0.98.

A more volatile Ballast token will lead to a more volatile baoUSD peg and less predictable ballast reserves. For example when LUSD is trading below $1, arbitrageurs will be able to buy LUSD and sell it to the ballast for baoUSD then sell the baoUSD into a liquidity pool to profit, bringing their prices closer together. Similarly, when LUSD is trading above $1, arbitrageurs will be able to buy baoUSD from a liquidity pool and swap it in the ballast for the underlying LUSD and profit.

To mitigate this risk an appropriate swap fee can be implemented, giving some buffer for prices to change and generating revenue when there are swaps in and out of the ballast.

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