Aave and Maker Pull Back From Paxos Stablecoins

Top DeFi protocols Aave and MakerDAO are distancing themselves from Paxos-issued stablecoins after New York state’s Department of Financial Services ordered the firm to stop minting new BUSD tokens on Feb. 13.

On Sunday, members of Aave’s v2 network overwhelmingly approved a governance proposal to freeze the BUSD markets.

Cease Minting

Aave is the leading decentralized lending protocol with a total value locked of $5B, according to The Defiant Terminal. Its BUSD market, which allowed users to either borrow or earn interest on the stablecoin, was the largest BUSD liquidity pool on the Ethereum network with around $11M in total value locked (TVL).

The proposal noted that Paxos will cease minting new BUSD from Feb. 21, meaning the stablecoin’s supply will trend towards zero over time. The news came as Paxos sought to expand Binance USD’s reach, with BUSD launching on Optimism, an Ethereum Layer 2 network, on Feb. 2.

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“As there’s no real prospect of growth and the inability to mint new BUSD might hurt peg arbitrage opportunity and asset peg… it seems that the most reasonable path for Aave is to freeze this reserve and invite users to switch to another stablecoin among the diversity present in Aave,” the Aave proposal said.

On Feb. 13, Marc Zeller, Aave’s integrations lead, published the proposal on Aave’s governance forum. It was elevated to a formal on-chain vote on Feb. 16 after receiving community support on the forum.

The regulatory risks associated with Paxos also appear to have soured a potential deal with MakerDAO, the No. 2 DeFi protocol and the issuer of leading decentralized stablecoin, DAI.

On Jan 20, Paxos proposed a partnership with MakerDAO. The proposal, which was negotiated with Maker’s Strategic Finance and Growth core units, advocated for Maker increasing the debt ceiling for the Paxos-issued USDP stablecoin to $1.5B in Maker’s Peg Stability Module, which is used to maintain the peg of Maker’s DAI stablecoin by facilitating one-to-one swaps between DAI and other stable tokens.

In exchange, Paxos offered to pay 45% of the current U.S. benchmark interest rate as a “marketing fee” to Maker. Paxos estimated that Maker could earn an additional $29M in annual revenue through the deal in its proposal.

Tricky Situation

But the proposal has not moved from the forum discussion to a formal on-chain vote, with MakerDAO now appearing hesitant to pursue the deal, despite USDP comprising a separate stablecoin to BUSD issued by Paxos.

“We really are exploring the tricky situation here,” Doo_StableLab, a MakerDAO delegate, posted to the forum on Feb. 14. The comment was accompanied by a link to a news story reporting that the U.S. Securities and Exchange Commission intends to sue Paxos over BUSD.

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The fallout shows the impact of regulatory actions that are targeting areas of crypto once deemed safe, such as stablecoins. In the past few weeks, the SEC has broadly defined cryptocurrencies as securities or investment contracts that must be registered before they are sold to investors. Now leading protocols are reacting by curtailing their exposure to potential regulatory moves.

0xApollo, the marketing lead for Thena, BNB Chain’s No.3 DEX with a $149M TVL, told The Defiant that the BUSD situation is already impacting Thena, sharing data showing that liquidity in its USDC/BUSD pool has crashed from $10M to $6M since the BUSD crackdown was announced.

Thena USDC/BUSD TVL. Source: Thena Analytics

“The day it became public news we were in touch with the BNB Chain team and got a recommendation to diversify into other stablecoins,” 0xApollo said. “We have started that process but we’re not in a rush. It’s going to be a gradual one.”

They added that Thena has already launched USDT pools, and is exploring other decentralized stablecoins including FRAX.

Redemptions

Data from DeFi Llama suggests the sum of BUSD on Alpaca has since fallen 16% to 65M, while BiSwap is down 14% at 41M — a 19M drop across just two protocols. Data for BUSD was not available for PancakeSwap, but its TVL is down $200M, or 8%, in the past week.

“For now, it hasn’t had much of an impact on us,” Gabriel, the global brand director and head of online marketing at Alpaca, told The Defiant. “BUSD supply dropped in our lending markets, with some shifting to USDT or USDC, but because of our […] interest rate model, the borrowing interest for BUSD has not risen and still has a lot of cushion. As for what happens to BUSD long-term, it will depend how Binance responds.”

As for Paxos, it will maintain BUSD and service redemptions for at least two years after ceasing new token mints.

BUSD’s market cap peaked on Feb. 15 at $23.5B. Nearly 47% of its supply has since been redeemed, with BUSD’s capitalization now sitting at $13.2B, according to CoinGecko.

Tether, the top centralized stablecoin by capitalization, appears to be the leading beneficiary from BUSD’s demise. USDT’s market cap is up nearly $2B since the NYDFS took action against Paxos.

Regulatory Storm

But Ethereum-based protocols may have an easier time weathering the BUSD regulatory storm than projects that are native to Binance’s BNB Chain.

“On Ethereum, BUSD withering away won’t have much [of] an impact on DeFi — just $11 milly on Aave, for instance,” tweeted Andrew Thurman of on-chain analytics provider, Nansen. “On BNB, meanwhile, a whole ecosystem will have to pivot to a new source of liquidity.”

On Feb 13, BSC News reported that BNB Chain-based protocols held more than 670M BUSD in their smart contracts. PancakeSwap was the largest with 334M BUSD, followed by Alpaca Finance with 77M BUSD, and BiSwap with 48M BUSD.

Updated on Feb. 22 with comments from Gabriel, global brand director at Alpaca.