On August 30th, Brian Armstrong; the CEO of Coinbase, tweeted a video sharing 10 ideas that interested him in the crypto space currently. The first of those ideas was a topic that has recently been getting more attention in the space given the FED events of the past 2 years. It was the idea of a “Flatcoin”.
He said “...knowing the inherent risks in stablecoins…thus, the flatcoin should track CPI. We want our money to preserve its purchasing power against inflation +/- 2%. It should be decentralized and inflation-resistant…”.
As grand as his idea is, the origination of this idea can be traced all the way back to Balaji’s tweet on June 7th 2021, where he said…
Nearly two months later, he expanded on his initial idea.
He said “The more I think about it, the more I realize that the flatcoin is the true unlock. If you can actually achieve price flatness for a representative basket of goods without the use of fiat currency, the crypto economy becomes fully independent of all legacy states…it's a difficult technical and economic problem to solve because to maintain the flatness of the flatcoin vs. different assets at once might require some kind of smart contract with a budget placing buy and sell orders across K order books. Perhaps the budget is from fees…”
Thus, his main thesis was that “many fiatcoins will abandon price stability due to inflation this decade.”
Examining the ideas put forth by both Brian and Balaji, a key theme emerges: money should ideally function as a stable benchmark that allows people to preserve their standard of living over time.
This is difficult with conventional currencies such as the dollar, which are subject to inflationary pressures. Hence, the case for a cryptocurrency like 'Flatcoin,' designed to anchor its value to the Consumer Price Index (CPI) within a range of plus or minus 2%, thereby resisting the erosion of its purchasing power."
The Consumer Price Index (CPI) is a widely used economic indicator that measures the average change over time in the prices paid by urban consumers for a basket of goods and services. It is a key metric for assessing inflation and helps to gauge the purchasing power of a currency.
The CPI is calculated by collecting price data for a diverse set of items, including food, rental costs, clothing, transportation, medical care, and more. These items represent typical expenditures for an average household. The prices of these goods and services are then tracked over time, and the CPI is used to determine the percentage increase or decrease in the cost of this "basket" of goods and services compared to a base period.
Upon examining the link between the U.S. dollar and the Consumer Price Index (CPI), it becomes apparent that the dollar is only weakly anchored to the CPI. The CPI itself has experienced fluctuations, averaging an inflation rate of about 2.5%. While some costs like housing and education have surged well beyond the CPI, the price of electronic goods has more or less kept pace. As a result, holding onto dollars may suffice for buying electronics over the years, but it falls short when it comes to other significant expenses.
Money should provide a stable reference point and should not drastically change one's standard of living over time. This is in contrast to investments, which are expected to significantly improve one's financial situation. Money, should be constant and serve as the standard unit of value.
Since stablecoins are meant to be pegged to the dollar, the dollar itself is a victim of inflation, the a need for a better solution that effectively tracks changes in the cost of living.
How will we achieve a coin that is truly stable if fiat-backed stablecoins actually turn into inflation coins (which are not so stable)?
To my knowledge, Frax Finance is the only project that has built a working answer to most of these questions.
The Frax Price Index (FPI) stands as the crypto world's definitive answer to the traditional Consumer Price Index (CPI). Anchored to a carefully selected basket of real-world consumer goods and informed by the U.S. CPI-U, the FPI ensures that its value evolves parallel to the purchasing power of these goods.
FPI revolutionizes our understanding of value in the crypto ecosystem. Primarily designed as a stablecoin, it facilitates transactions, valuations, and debt management. More than that, it provides a robust metric to gauge how on-chain economic growth aligns with inflationary trends.
The FPI relies on AMOs and a Chainlink oracle to continuously fetch and apply the CPI-U unadjusted 12-month inflation rate, publicly released by the US Federal Government, to update the redemption price of the stablecoin in real time.
Holding FPI isn't just akin to having a dollar-backed stablecoin; it's superior. With FPI, the yield isn't separate—it's built right into the peg, eliminating the need for additional staking to achieve yield.
When it comes to holding and saving value in your in a wallet, choosing to save in FPI is often a better choice than just holding vanilla dollar-pegged stablecoins.
But if you’re an average user, stablecoins like FRAX remains important because it’s utility in DeFi, whether it’s used for things like taking out loans, participating in Curve pools, or executing yield-bearing strategies. These activities have interest rates and rewards that can potentially offset the inflation protection provided by the FPI peg.
Now, could FPI's value ever drop below one, especially if the Federal Reserve tweaks interest rates to induce a recession? Theoretically, yes. If the dollar experiences genuine deflation, improving its purchasing power against consumer items, FPI's price could decline relative to the dollar. While this scenario is currently highly unlikely, it remains within the realm of possibility for the future.
The FPI ecosystem
To ensure the stability and growth of the FPI stablecoin, FPIS comes into play.
FPIS is the governance token that stabilizes FPI’s peg so that FXS does not need to stabilize two pegs at once since that would make FRAX's dollar peg riskier. To achieve this, FPIS employs a unique mechanism that involves the burning and buyback of a specific amount of FXS tokens based on the growth of the FPI stablecoin. This accomplishes 2 very specific things:
- Critical separation of risk where the FPI peg doesn't hurt FRAX's dollar peg since FXS is used to stabilize that
- FXS still accruing value at the bottom layer as the FPI stablecoin supply increases
The interplay between FXS and FPIS is intriguing. FXS tends to appreciate in value as the entire Frax ecosystem grows, while FPIS aligns with the growth trajectory of the FPI stablecoin. Their relationship with FPI can be summarized as follows:
1. FRAX serves as collateral to underpin the value of FPI, meaning that individuals seeking to create or maintain FPI tokens must lock up FRAX tokens as collateral.
2. The system is designed to ensure that regardless of whether FPI is backed primarily by FRAX or other assets, FXS holders will benefit. Increased demand for FPI enhances the market capitalization of FRAX, thereby benefiting FXS holders.
3. FPI and FRAX will have separate monetary policies. They do not interfere with each other's stability. This separation ensures that the stability of one token won't be compromised for the sake of the other.
4. The Frax protocol will also sell FPIS to make sure the product remains solvent in the event that on-chain yields are ever insufficiently high to support the peg and the FPI treasury runs out of excess capital. The fundamental premise underlying FPIS's profitability is that the yield the protocol generates will consistently outpace inflationary growth.
Revenue and Profits
FPI has a fully transparent balance sheet that updates every minute. It was the first fully public and transparent balance sheet ever posted for an asset in DeFi.
FPI has consistently produced revenue. In August alone, its revenue reached $122,813, yielding a profit of $72,214. Since its inception, FPI has accumulated an excess value of over $6 million.
Future plans for FPI?
Frax currently has plans to launch its own L2 in Q4 2023 called Fraxchain.
Fraxchain will possibly use FPI as one of the gas tokens on the chain, rather than only ETH, like its counterparts.
Frax is also about to launch sFRAX to offer single-sided yield for depositors. sFRAX is similar to the DSR (Dai Savings Rate). It's a zero-duration yield vault where anyone can deposit $FRAX into an ERC-4626 smart contract and earn 5-10%.
It’s all part of Frax’s RWA strategy, and it's very easy to understand.
- Users deposit their FRAX tokens to get sFRAX.
- The DAO chooses the best option where to earn yield based on current market conditions.
- If no good yield sources exist on chain, Frax’s RWA partner FinRes takes the FRAX tokens deposited in sFRAX and converts them into USDC.
- The USDC obtained from the conversion is invested in US Treasuries.
Currently, FPI offers a 3.3% yield.
That is quite healthy, but with a potential 5% - 10% APR on sFRAX, what becomes of FPI? Why hold FPI if sFRAX yield will be higher?
Since sFRAX offers a yield of 5%-10%, it may attract non-POL (non-Protocol Owned Liquidity) FRAX tokens from other places within the Frax ecosystem. As a result, POL FRAX tokens in other parts of the ecosystem might begin to earn a higher yield. This in turn might be reflected in liquidity pools which FPI holders can still benefit from.
The FPI is not just a de facto inflation hedge, it is a leader movement!