Stablecoins Adoption on AAVE Polygon - Reading between the chains
Humans have always desired for a standard medium(s) of exchange which apart from being valuable maintains a stable value over the course of time. A ‘desire for stability’ – is a defensive evolutionary human trait to minimize risks accrued by future events. In a financial market like that of cryptocurrencies, future events involve a whole lot of volatility. Either you get rich, or you get margin calls. And therefore, in such turbulent times, it’s always necessary to have a trustworthy ‘stable system’ to rely on.
Stablecoins are cryptocurrencies either pegged to ‘fiat’ currencies like USD or EUR (ex USDT, USDC etc.), or to cryptocurrencies like ETH (ex DAI) and other volatile assets. Sometimes this peg is also maintained by algorithms functioning purely on ‘market demand’ (ex FRAX, UST etc.). These stablecoins just like ‘fiat’ are used to participate in crypto stock and money markets to generate returns/yield. In this article, we shall talk about one such money market ‘AAVE’ in context of stablecoin adoption w.r.t different blockchains. We shall try to elucidate how Polygon PoS provides an edge to users in this whole process.
AAVE is a non-custodial liquidity protocol where interest rates can be earned on deposits and borrowing assets. It has a market size of $13.7B on Ethereum (launched Nov ’17) versus a market size of $5.8B on Polygon and $5B on Avalanche where it was launched less than a year ago. In a world where rising income gap is a major issue, concepts like ‘adoption’ of a decentralized protocol – ‘accessibility’ shall always weigh higher than measures like market-cap. But how can we really measure this accessibility, and what synergistic factors are involved in making this process more efficient?
In a system where earnings depend on the dynamics of borrowing and lending, various aspects of interest rates should be studied in order to have a better understanding. Deposit index is one of the many factors we can start with. So, in a DeFi protocol like AAVE, yield generated from deposits not only include organic deposits by users but also the fees accrued from flash loans and liquidations. Deposit index is a term used to define such an aggregated yield. Although the trend in deposit index for all stablecoins on all chains is pretty much the same (fig. 2), APYs on Polygon are higher (for DAI - 4.01% and for USDT - 6.89%) when compared to AAVE v2 and Avalanche (table 1). Only in case of USDC, we see AAVE v2 having a lead by very narrow margin as compared to polygon. So, by depositing your stablecoins on polygon, you would have definitely outperformed anyone doing it on other chains by a significant margin.
Now, what if we take only organic deposits into consideration. What we get here is ‘deposit rate’ which is the “base yield awarded to depositors per second recalculated as an annual rate”.
The figure above (fig. 3) clearly illustrates the advantage of depositing your stablecoins on AAVE Polygon instead of AAVE v2 or AAVE Avalanche. Apart from having a higher deposit rate, the frequency of higher interest rates in last 6 months is much higher on polygon compared to other chains. Now, as we have established the profitability of depositing your stables on polygon, you may ask what about adoption? So, let’s back to the point before moving onto other parameters.
Statistics (fig. 4) clearly show a sharp increment in ‘deposit’ transactions after October ’21 which has been pretty constant till now with little deviations. A net increase in deposit volume when the market has been going through a lot of turbulence shows the trust users have over polygon. Another parameter which shouldn’t be ignored here is ‘borrow volume’. Without complicating it, I would say – one always borrows against their valuable assets from someone they have a lot of trust on!
Now, as we have pumped some credibility in the argument, let’s see what other evidence do we have with us? One of the major factors which affects borrowing capacity of any user is the interest rate which has to be paid against it. Interest rates depend on the market conditions and can be pretty volatile. Therefore, just like traditional banks, AAVE provides you with variable and stable borrow interest rates. While variable interest rates depend on market demand at AAVE, stable borrowing rates usually are fixed interest rates - constant over a period of time (unless until a major perturbance in the market is felt). Though borrowing on variable interest rate from AAVE Polygon can be a little expensive compared to other chains, borrowing with stable interest rates could prove to be cheaper when compared to AAVE v2. But again, these factors shouldn’t be considered in isolation as they don’t really provide a fair picture.
So, in order to understand this phenomenon better, we shall take utilization rates into consideration. Utilization rate for any currency pool/reserve is defined as the ratio of total borrowed volume to total liquidity in the pool. Therefore, a higher utilization rate hints either at growing demand or a shallow depth of the reserve. Looking at the historical data (fig. 7), utilization rates for DAI and USDT on polygon have been pretty high along with being constant when compared to other chains, while current rates have been highest of all. This indicates a higher demand of the capital from pools deployed on AAVE Polygon. Higher the demand, higher the interest rates you got to pay. It can very well be argued that pools on polygon have lesser liquidity compared to AAVE v2 (fig. 9). In a highly competitive space like crypto where the wars have been going on to capture liquidity – polygon’s recent magnificent growth in market size surely deserves some praise. This has helped reduced the frequency of fluctuations in interest rates drastically over last few months (fig. 5, 6 & 8). As the market gets deeper and stable, issues like growing interest rates can be taken care of easily, which shall again favor the stablecoin adoption on Polygon.
In conclusion, it really becomes clear how adoption for a protocol on any chain is a multi-factorial phenomenon and hence should be treated as such. Apart from all other technicalities, one of the major factors in adoption of any asset is its ‘accessibility to masses’ as mentioned in the beginning of this article. Though this accessibility is impacted/amplified by various factors, one of the major factors is the ‘cost’ associated with it (how ‘cheap’ it really is?). In a world plagued by huge income inequalities – everyone can’t afford to pay hundreds of dollars in ‘gas’. Polygon on the other hand solves this problem very efficiently as only a fraction of $MATIC is required for gas which is mostly less than 10 cents. So, a robust blockchain with growing market sizes and attractive yields for its users at just a thousandth fraction in gas surely provides an efficient medium for high demand protocols like AAVE to thrive!
References:
Aavescan.com (Fig. 2-3, 5-9; Table 1)
https://dune.xyz/aavegrantsdao/Aave-Polygon-Growth-WIP (Fig. 4)
Author is a Decentralized Finance (DeFi) researcher and analyst at Polygon with special emphasis on fundamentals, on-chain activity and social-media narratives. Their other interests include studying Attention Economy, Rumor Networks and Cognitive Design of Cryptocurrency Protocols. They like to do gardening, scroll twitter and explore different movie genres in their free time. They can be reached on twitter at ZeroK