title:[ARFC] Supply Cap increase - LSTs on Polygon V3 author: Alice Rozengarden @Alice - Aave-chan initiative date: 2023-08-30
Summary:
This proposal seeks to increase the supply cap for the wstETH and stMatic tokens on the AAVE Polygon V3 markets.
This proposal is compatible with the Direct-to-AIP framework.
Motivation:
On the AAVE Polygon V3 market, the utilization of the supply cap reached 95% for stMatic and 100% for the wstETH, preventing the deposit of more assets for the latter. By augmenting those caps we would be helping the ecosystems that have been built around those products and increasing the user experience of the AAVE users, resulting in higher TVL and protocol revenue through the borrowing of WMatic and WETH.
The total supplies of those assets increased recently, which allows the adjustement of those caps while staying below 75% of the total supplies.
Specification:
The following parameters would be modified for the stMatic and wstETH tokens:
Our methodology does not support the supply cap increase for WSTETH. Our LST methodology does not support increases in supply cap beyond 50% circulating supply until the killswitch is implemented. If the community wishes to proceed with WSTETH they should move towards AIP.
However, Gauntlet recommends against increasing STMATIC supply cap, because it adds excess risk to the protocol. STMATIC on Polygon v3. is already > 60% of the total circulating supply. Despite CSPA improvements, liquidity remains a big risk factor for STMATIC due to the significant amount of non-emode borrows STMATIC supports.
STMATIC liquidity has decreased due to Balancer pool vulnerabilities (the historical largest STMATIC pool is no longer processing swaps), and is low relative to the supply cap.
The STMATIC-WMATIC recursive borrowing strategy is not profitable. STMATIC yields are currently 4.2%, WMATIC borrowing cost is 5.4% with 0.4% incentives.
The 2023.08.30 influx in STMATIC cap usage has not contributed to material additional WMATIC borrowing, likely due to the unprofitability.
As a result, additional STMATIC supply cap may facilitate risky stablecoin borrowing rather than less risky emode-borrowing. Stablecoin borrowing is riskier than WMATIC emode borrowing, due to the significant differences in correlation with STMATIC.
If the goal is to facilitate greater WMATIC borrowing, the IR curve for WMATIC should be lowered to reduce borrowing costs, which we have proposed here and discuss more in detail about the above risks. This both promotes significant increased revenue via emode borrowing and helps reduce liquidity risk factors associated with STMATIC.
Thanks for the proposal @Alice. In general we’re supportive of increasing caps but always factoring risks.
Here we are aligned with @Gauntlet especially after the decreasing liquidity on Balancer pools. Thus we would prefer to wait for the killswitch implementation.
While we are supportive of allowing more users to supply LSTs to Aave, it is important that this is done in a safe manner, therefore under the circumstances, we are aligned with @Gauntlet in not supporting the increase of the supply caps to this proportion until the Killswitch is implemented.
