The Decentralization Ratio (DR) is the ratio of collateral value that is decentralized over the total stablecoin supply backed for those assets. It is a function that measures the proportion of an asset’s value that comes from decentralized sources. It, therefore, helps to assess the riskiness of an asset. The DR takes into account every underlying component of collateral that a protocol has claims on, not just what is inside its system contracts.
The DR can be used to compute any stablecoin’s excessive off-chain risk. Collateral with excessive off-chain risk (e.g. fiatcoins, securities, and custodial assets, such as gold or oil) are counted as 0% decentralized. Off-chain risks may include government entities freezing or interfering with assets or forced KYC. An example of this could be the SEC prohibiting the transfer of USDC to non-KYC'd entities. It also includes risks attributable to the base currency underlying those assets, such as US Dollar inflation for USDC. In contrast, Ethereum and reward tokens like CVX and CRV would be considered 100% decentralized.
Take an instance of calculating the DR of the FRAX3CRV LP token. FRAX3CRV LP is made up of 50% FRAX and 50% 3CRV. Since FRAX cannot back itself, that half is not taken into account. The other half is 3CRV which is 33% USDC, 33% USDT, and 33% DAI. USDC, USDT and DAI are made up of 100%, 100%, and 60% fiatcoins respectively. So each $1 of FRAX3CRV LP token has around $0.066 ($1 x 0.5 x 0.33 x 0.4) or 6.6% worth of value coming from decentralized sources.
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