[ARFC] PYUSD Reserve Configuration Update & Incentive Campaign

[karpatkey_TokenLogic]

---

title: [ARFC] PYUSD Reserve Configuration Update & Incentive Campaign
author: @karpatkey_TokenLogic
created: 2024-10-23

---

Summary

This publication proposes amendments to the PYUSD Reserve in preparation for an upcoming incentive campaign.

Additionally, a co-incentive campaign is to be implemented to improve the PYUSD and GHO liquidity.

Motivation

Trident Digital with support from PayPal, presents the Aave DAO with an opportunity to promote the adoption of PYUSD on Aave Protocol and PYUSD/GHO liquidity on Balancer for an initial 6 month period.

Eligible Aave Protocol users are expected to receive up to 4.00% APR in Liquidity Mining (LM) rewards made available by Trident Digital on behalf of PayPal.

The incentive program seeks to increase PYUSD deposits into Aave Protocol, targeting total deposits of 75M units. After achieving 75M units of aEthPYUSD circulating supply, the rewards budget is to be distributed pro-rata.

To prevent undesired rewards farming, an eligibility requirement is to be applied to discourage undesired behaviour.

Rewards are to be distributed as aEthPYUSD on a monthly basis via a merkle contract administered by the ACI team.

PYUSD Rewards

PYUSD rewards are to be distributed at a fixed rate of 4.00% to eligible user on Aave v3 on Ethereum up to a threshold of 75M aEthPYUSD. After this threshold is achieved, rewards are to be distributed pro-rata to eligible users.

Eligible users can expect to earn the following rewards:

• Deposit Yield from Aave Protocol
• Additional 4.00% of aEthPYUSD

Users actions are tracked with users to receive 4.00% APR x Eligible Holding

Note: This incentive program differs from others projects that measure Net PYUSD (deposits - debt) by inclusion of all aEthPYUSD in circulating supply.

Eligibility Criteria

Users are subject to the following eligibility criteria:

Eligible Holding = PYUSD aToken Holding - Undesired Debt Token Holding / PYUSD Liquidation Threshold

Undesired Debt Token(s):

• variableDebtEthPYUSD

Users who hold both the aEthPYUSD deposit receipt token and the variableDebtEthPYUSD will be adversley affected as determine by the formula shown above.

Upon launch of the program, the only Undesired Debt Token Holding is the PYUSD variable debt token.

Rewards Amendments

Trident Digital and PayPal reserve the right to amend the list of Undesired Debt Token(s). If any change is made, a comment will be shared below in the comments section informing users of the amendment to the rewards program.

Updates can only be made during the last week of each calendar month and are effective from the start of the following month.

Distribution of Rewards

During the first week of each new month, the @ACI team will distribute aEthPYUSD rewards via a Merkle contract. This approach follows the same rational as the Merit program.

PYUSD Reserve Parameter Adjustments

To streamline communication, any risk or borrow rate parameter adjustment affecting the PYUSD reserve are to be agreed ahead of any change being implemented. Trident Digital is to represent PayPal’s interest in providing the incentive budget.

Aave DAO’s Risk Service Providers remain the ultimate decision maker(s) as to if the DAO supports any proposed amendment.

PYUSD/GHO Liquidity

As part of the PYUSD growth iniative, a 8M PYUSD/GHO Elliptic Liquidity Pool (ECLP) with an asymmetric concentrated liquidity profile will be used on Balancer.

The pool will be funded and supported for an initial 6 month period.

Budget

The 8M of liquidity is expected to cost ~14% APR. This cost is to be split 50/50 with the Aave DAO to provide up to 300k GHO.

Early discussions with prospective Liquidity Provider(s) (LP) has indicated a preference for direct payment outside of the Balancer and Aura Gauges. Some prospective LPs are considering holding GHO debt whilst providing liquidity. If this was to occur the net cost to Aave DAO would be less than otherwise.

This proposal requests an additional 300k GHO be made available to the ALC and for payments to be made directly to LP(s).

Key Performance Indicator

This proposal intends to attract PYUSD deposits on Aave Protocol, measured by aEthPYUSD circulating supply.

Aave Protocol Phase I

Detail	Amount
Target	75M aEthPYUSD Circ. Supply
Rewards	aEthPYUSD
Emission Rate	4% APR, when 0 < aEthPYUSD Circ. Sup.< 75M
Emission Rate	250k/month pro-rata, when aEthPYUSD Circ. Sup. >75M,
Duration	6 months

Note: 75M x 4.00% is equivalent to 250k monthly budget.

PYUSD/GHO Liquidity Phase I

Detail	Amount
Target	8M USD
DEX	Balancer
Pool Type	ECLP by Gyroscope
Rewards	Direct payment nominated GHO and PYUSD

Specification

The following PYUSD Reserve parameters are to be updated:

Parameter	PYUSD
Borrowable	Yes
Collateral	Yes
Borrow Cap	15M
LTV	75.00%
LT	78.00%
Liquidation Penalty	7.50%
Liquidation Protocol Fee	10.00%

Create 300k GHO Allowance for the ALC SAFE.

ALC SAFE: 0xA1c93D2687f7014Aaf588c764E3Ce80aF016229b
GHO: 0x40D16FC0246aD3160Ccc09B8D0D3A2cD28aE6C2f

Whilst not expected to be needed, in case aEthPYUSD Liquidity Mining rewards are to be distributed across Aave v3, the ACI is to be granted sufficient permission to do so.

EMISSION_MANAGER.setEmissionAdmin(aEthPYUSD,ACI Treasury)

aEthPYUSD: 0x0C0d01AbF3e6aDfcA0989eBbA9d6e85dD58EaB1E
ACI Treasury: 0xac140648435d03f784879cd789130F22Ef588Fcd

Disclosure

TokenLogic and karpatkey receive no payment for this proposal.

Next Steps

1. Gather feedback from the community.
2. If consensus is reached on this ARFC, escalate this proposal to the Snapshot stage.
3. If Snapshot outcome is YAE, an AIP will be submitted to implement the proposal.

Copyright

Copyright and related rights waived via CC0.

[ChaosLabs]

Chaos Labs supports the above proposal for the following reasons:

• Enhanced Liquidity: The incentive program aims to increase PYUSD deposits to 75M PYUSD, boosting liquidity on the Aave Protocol, as the PYUSD market on Ethereum Main Market has shrunk in recent months.

• Controlled Incentives: Capping rewards at 4% APR up to the 75M PYUSD threshold and distributing them pro-rata thereafter provides a reasonable milestone for the protocol to reach, after which growth may be expected to slow.
• Anti-Farming Measures: The eligibility criteria penalize holding undesired debt tokens, discouraging reward farming through PYUSD-PYUSD looping and ensuring rewards go to organic liquidity providers, increasing the stickiness of deposits. We note that Trident Digital and PayPal have reserved the right to amend the list of Undesired Debt Tokens; we find that this does not materially increase risk related to this proposal. However, in the case that a large supplier is borrowing a non-PYUSD token against their PYUSD deposit, and Trident/PayPal decide to add the borrowed token to the Undesired list, the supplier may withdraw and create rate volatility.
• Risk Parameters Adjustments: Any further adjustments to risk or borrow rates will be approved by Aave DAO’s Risk Service Providers. The collateral parameters in this ARFC are appropriate for PYUSD, a stablecoin with strong peg adherence.

PYUSD volatility relative to USD

• Cost Sharing: Splitting the 14% APR cost of the PYUSD/GHO Elliptic Liquidity Pool with Trident Digital reduces the financial burden on the Aave DAO. If liquidity providers hold GHO debt, the net cost to the DAO could decrease further.
• Defined Duration and Metrics: A clear six-month timeline and specific performance targets allow for better straightforward assessment of the program’s performance.

Disclaimer

Chaos Labs has not been compensated by any third party for publishing this post.

[LlamaRisk]

Summary

LlamaRisk supports this proposal. Our review of the proposed incentive structure reveals no additional risks beyond the standard smart contract, implementation, and opportunity cost concerns.

A notable point of concern is the PYUSD multisig configuration controlling upgradeability, which uses an unusually high number of signers (20) with a low threshold (3). This presents an elevated operational risk, as the attack surface for social engineering and other threats is considerably larger than typical implementations. We want to engage with Paxos to address this. Beyond this concern, PYUSD presents minimal risk as collateral, demonstrating reasonable regulatory/governance risk profiles and limited architectural and market risk exposure.

Our detailed collateral risk assessment follows for community review.

Click to unveil our detailed assessment

PYUSD Collateral Risk Assessment

1. Asset Fundamental Characteristics

PayPal USD is a US dollar-denominated stablecoin launched in August 2023 in partnership with Trident Digital. Paxos, who hold an NYDFS license to maintain stablecoins, issue this stablecoin. This makes it identical to its partner USDP. It is deployed to Ethereum Mainnet and Solana and has a public GitHub maintained by Paxos.

PYUSD reserves are almost entirely US debt with cash on hand. This stablecoin is overcollateralized.

1.1 Asset

PYUSD is a familiar asset to the Aave protocol as a stablecoin with reputable reserves. Its architecture results in the asset being bankruptcy remote. Reserves are deposited with multiple banks, including BMO Harris Bank, Customers Bank, and State Street Bank & Trust Company, diversifying default risk. Reserves are bankruptcy remote, meaning should Paxos Trust face insolvency, reserves will be distributed to owners based on company records (though this may not necessarily mean PYUSD holders).

It is ERC20 compliant with 352M tokens on the Ethereum mainnet. As such, incremental collateralization risk is low.

1.2 Architecture

Source: LlamaRisk

This is a simple ERC20 stablecoin asset managed by Paxos Trust. Users can mint or burn additional PYUSD through a PayPal account (which requires KYC and compliance with a wide range of terms and conditions). Once purchased inside PayPal’s web app, it may be bridged onto Mainnet or Solana. In the same way, it may be sent back to PayPal’s web app to be sold for fiat. The ERC20 implementation has a variety of permissions (more in Section 4.2).

It is designed for both on-chain activities as well as day-to-day commerce. Significant development efforts have been directed at making this asset suitable for micropayments.

There is no governance for this asset - Paxos Trust entirely handles it. Trident assists with liquidity initiatives , such as the one proposed in the body.

1.3 Tokenomics

As a stablecoin, PYUSD tokenomics is very simple. For each PYUSD minted, more than 1 USD exists in US Government Debt or cash. The last third party attestation noted a ratio of 0.97 PYUSD (704,883,091) for each 1 USD held in a US bank as either debt or fiat ($720,152,403).

2. Market Risk

2.1 Liquidity

Source: DeFiLlama, October 25th, 2024

Onchain liquidity for this asset is good, with a $10M trade facilitated before any price impact occurs. The relative ease of access further compounds this user can enjoy through the PayPal website for additional liquidity.

2.2 Volatility

Source: Coingecko, October 25th, 2024
PYUSD has maintained a tight peg (after a brief, unsustained depeg on launch) with $1.

2.3 Exchanges

Source: Coingecko, October 25th, 2024
PayPal USD is available on a wide variety of centralized and decentralized exchanges. Of note is a partnership between PayPal, Paxos, and Crypto.com to integrate the stablecoin into CEXs further.

2.4 Growth

Source: Coingecko, October 25th, 2024
This asset has enjoyed relatively stable growth with some variation. It is currently experiencing a downtrend from $1B to roughly $600M, though that is from an all-time high.

3. Technological Risk

3.1 Smart Contract Risk

Source: Trail of Bits

PYUSD has been audited by Trail of Bits, a top-tier auditor. No major vulnerabilities were discovered. This asset has already been onboarded to the protocol, so incremental smart contract risk is low.

3.2 Price Feed Risk

A Chainlink Price Feed on mainnet is integrated to provide accurate and secure market data. Price feed risk is low.

3.3 Dependency Risk

PYUSD is fully dependent on Paxos. As an NYDFS-regulated entity, this risk is somewhat mitigated. This will be fully examined in Section 4.1.

PYUSD is also significantly dependent on PayPal. While they are a reputable, regulated entity with a long history of compliant business activity, they have a documented tendency to freeze user funds arbitrarily. This has resulted in class action lawsuits against the business in which plaintiffs cite PayPal’s inability even to explain why the funds were frozen. This presents a significant risk if a user has to exit a PYUSD position through PayPal’s web app only to have their funds frozen.

Dependency risk is, therefore, considerable.

4. Counterparty Risk

4.1 Governance and Regulatory Risk

Paxos Trust LTD entirely controls the governance of PYUSD.

This presents significant risk, especially given the regulatory regime for firms based in New York State. There are two main verticals for governance (management) and regulatory risk for PYUSD:

1. Reserves Management: Reserves are clearly documented by first and third party attestations. The funds are held in FDIC-insured banks or value-guaranteed US government debt instruments. This is good reserve management and presents limited incremental risk.
2. Regulation: As a Trust regulated by the New York State Department of Financial Services (NYDFS), the Issuer of PYUSD will have to comply with many regulations. These include but are not limited to KYC/AML checks, restrictions on illegal use, bankruptcy remoteness, and sanctions compliance. Given the United States’ unclear position on decentralized finance and additional uncertainty stemming from an upcoming election, regulatory risk is certainly present. Further regulatory clarity would reduce this particular angle of risk.

While governance risk for PYUSD may be managed by robust state-level regulation, unclear federal regulation results in regulatory risk. This is exacerbated by an upcoming election in which candidates have not stated clear regulatory priorities.

4.2 Access Control Risk

PYUSD has significant access control risk stemming from significant contract permissions:

• A freeze function on specific addresses
• A global pause function
• A function to modify which address may issue new PYUSD
• A function to increase spend approvals by any address

This contract is owned by a 3/20 multisig. This is a significant risk. While only limited in incremental risk (given the asset is already borrowable), making this asset collateral would further entrench significant access control risk.

Note: This assessment follows the LLR-Aave Framework, a comprehensive methodology for asset onboarding and parameterization in Aave V3. This framework is continuously updated and available here.

5. Aave V3 Specific Parameters

We are aligned with TokenLogic’s suggested parameters, given sufficient on-chain liquidity both now and after the eCLP pool is life.

6. Price feed

LLamaRisk recommends continuing to use the Chainlink Oracle for this asset.

Disclaimer

This review was independently prepared by LlamaRisk, a community-led non-profit decentralized organization funded in part by the Aave DAO. LlamaRisk is not directly affiliated with the protocol(s) reviewed in this assessment and did not receive any compensation from the protocol(s) or their affiliated entities for this work.

The information provided should not be construed as legal, financial, tax, or professional advice.