Non-collateralized
This model aims to ensure stability by adjusting supply. The first of this model for cryptocurrency, named seigniorage was proposed in 2014 by Robert Sams, where the monetary policy mandate is to trade at a specific USD price. When price is higher than that desired price, it suggests supply is too low, so the system mines more coins and auctions till price drops to required level. When the price is lower than the required level, the system buys up coins to return the price to the required level. If the reserve funds are lower than the amount of coins the system needs to buy, then seigniorage shares are issued that give the right to future profit earnings. Basis was intended to be an extension of this model and aimed to improve on seigniorage’s susceptibility to death spirals, where the price of shares is tied to recovery of demand for seigniorage coins. In the event that the coin’s demand doesn’t recover, the system risks collapse by issuing shares that will eventually be worthless.
Basis attempted to solve this problem by having bonds with an expiration tenure of 5 years. The bonds are redeemed on a first in first out basis on the bond queue. This automatically contracts supply of Basis coins. Expansion and contraction of Basis is by a three-token system which includes the Basis Coin, the Basis Bond and the Basis Share. The basis coin is the core of the system, and the supply is contracted or expanded in order to maintain the peg. The bond is auctioned by the blockchain at a discount when it needs to contract supply. The bonds are not pegged, but are always redeemed for 1 Basis at some point in the future given certain conditions. The share tokens have fixed supply and are created at the genesis of the blockchain. When demand for Basis expands, and the blockchain creates new Basis to match demand, shareholders receive these newly created Basis pro-rata after all outstanding bonds have been redeemed.
The design of the Basis protocol with the equity and bonds component meant it would have fallen under strict securities’ regulatory oversight, and thus, the project was discontinued. Variants of this model have, however, emerged, with Terra, Eco, Reserve and Celo notable amongst them, although most of them are more of hybrids of the fiat-collateralized and crypto-collateralized.
Advantages
- Decentralized and independent
- No collateralization
- Ability to liquidate quickly into other cryptocurrencies or fiat
Disadvantages
- There’s still the risk of a death spiral in the event that users don’t believe price will recover
- Basis bonds automatically defaults if recovery lasts more than 5 years, with incentive lost
- System responsiveness is uncertain as it banks on users to discover arbitrage opportunities and force the coins back to equilibrium.
- Subject to strict financial regulations