[ARC] Risk Parameter Updates for Ethereum Aave v2 Market

Risk General
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[ARC] Risk Parameter Updates for Ethereum Aave v2 Market

author: @MarcZeller @MatthewGraham @Llamaxyz
created: 20-08-2022

Simple Summary

In response to Tribe DAO’s proposal to enter a terminal state, this ARC proposes disabling Deposits, disabling Borrowing and route 100% of the interest paid by FEI borrowers to the Reserve Factor.

Abstract

Tribe DAO is dissolving the DAO’s assets and TRIBE governance token. As a result, FEI will become backed 1:1 with DAI and redeemable 1FEI:1DAI. With Tribe DAO transitioning into a terminal state, the FEI stablecoin will overtime be redeemed for DAI.

As FEI is redeemed for DAI, over time FEI’s circulating supply and liquidity will also fall away. Without sufficient liquidity, liquidations can not be performed efficiently which creates a risk for the Ethereum Aave v2 market.

In response to recent events, this ARC proposes disabling Deposits, disabling Borrowing and route 100% of the interest paid by borrowers to the Reserve Factor. A separate forum post will emerge that recommends all aFEI be redeemed for FEI and swapped for DAI via the contracts deployed by Tribe DAO.

This proposal is to disable lending and borrowing of FEI whilst enabling existing debt to be repaid and collateral to be withdrawn.

Motivation

With the emergence of news that Tribe DAO intends to dissolve FEI and the Protocol Controlled Value (PCV) backing the stablecoin, there is a need to amend the FEI lending market in preparation of the risks to emerge with transition Tribe DAO to a terminal state.

The details around how Tribe DAO will transition from current state to terminal state can be found here.

As FEI will be redeemed for DAI, the stablecoin will suffer diminishing liquidity and diminishing supply. This renders the FEI stablecoin not suitable as a supported asset on Aave markets.

Specification

The recommendation is to disabling Deposits, disabling Borrowing and route 100% of the interest paid by borrowers to the Reserve Factor.

Risk Parameters:

Freeze the FEI market which will:

Borrowing Enabled → Disable
Lending Enabled → Disable

Also,

Reserve Factor 20% → 100%

Next Steps

The next step for this ARC is after a period of discussion of at least 5 days to publish a governance snapshot vote at the earliest 24th August 2022, with YAE / NAY / ABSTAIN options and in the case of YAE majority publish an AIP to modify FEI risk parameters as outlined above at the earliest possible date 29th August 2022.

Copyright

Copyright and related rights waived via CC0.

8 Likes
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Strongly in favor of this proposal,

removed my version of it as this one is better imho.

4 Likes
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Thanks, @MatthewGraham, for the proposal. Below we offer thoughts and tradeoffs to help the community decide on how to deprecate the FEI market:

  • Should Aave deprecate the FEI market?
    • Yes, FEI should be deprecated in light of Tribe DAO’s proposal to enter a terminal state.
  • How should the community deprecate FEI?
    • Option 1: Freeze the FEI market and set the liquidation threshold and liquidation penalty to 0%
      • Most effective way to force unwind the position
      • Users with only FEI collateral can be liquidated (or forced to unwind) without penalty. However, the incentive for liquidating these positions is unknown
      • Users with FEI and other collaterals are likely to be liquidated with a penalty since liquidators can potentially pick another collateral with a non-zero liquidation incentive to liquidate the position
      • Users need to top up the positions to avoid potential liquidations
    • Option 2: Freeze the FEI market, set the reserve factor to 100%, and slowly lower the liquidation threshold
      • Less aggressive way to unwind the market
      • If RF is 100%, FEI supply interest will be 0%. FEI suppliers are thus incentivized to withdraw the FEI collateral
      • No immediate action is needed from users
  • The optimal strategy that balances the effectiveness of unwinding with the impact on users depends on how users use the collateral, especially in this case where the FEI team provided 90%+ of the liquidity to the pool.
2 Likes
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Hi @Pauljlei,

Thank you for the feedabck.

The Tribe team intends to withdraw all there liquidity from the market which currently exceeds the available liquidity in the pool.

We amended the proposal to reflect the suggestions, as detailed below:

Freeze the FEI market which will:
Borrowing Enabled → Disable
Lending Enabled → Disable
and we intend to increase the Reserve Factor 20% → 100%.

All interest generate on FEI will go to the Aave DAO’s Ethereum Reserve Factor.

Matthew Graham