Thread by @terra_money

As @mirror_protocol gains traction, it’s important to denote the mutually beneficial relationship between Terra, LUNA stakers, and Mirror’s adoption. Rather than purely being a synthetic assets protocol, Mirror’s adoption accrues value to LUNA stakers.

How does it? Let’s follow UST, Terra’s USD-pegged stablecoin. At a high level, Terra’s LUNA collateralizes its cadre of stablecoins, including UST.

When UST is trading above $1, arbitrageurs can burn $1 of LUNA to mint 1 UST and sell UST on the open market for a profit. When UST trades below $1, then arbitrageurs can buy UST on the market at a discount, and swap it for $1 worth of LUNA.

This functionality is built directly into the Terra protocol. The basic idea is that when demand for a stablecoin like UST increases, the supply of LUNA contracts.

However, the efficiency of on-chain swaps between UST/LUNA has a theoretical upper bound for the amount of UST that can be minted daily when demand for UST is high.

Due to a design for consensus protection, this equates to roughly $400K UST per day, something Terra CEO @d0h0k1 recently alluded to in a Twitter thread.

https://twitter.com/d0h0k1/status/1357307589676027906?s=19

However, Jump Trading made a surprise governance proposal that would significantly increase the swap ceiling to roughly $10 million per day. This is powerful.

agora.terra.money/t/terra-on-cha…

With an increased minting/burning ceiling for UST/LUNA, it can relieve the recent premium for UST on the open market. But where did that demand for UST that caused the recent peg premium come from? Mirror.

Mirrored assets are derived from UST since UST serves as the primary collateral for opening a CDP and mining new mAssets. Consequently, increasing demand for mAssets correlates to a progressively larger demand for the underlying collateral -- UST.

On Mirror, the primary value accrual mechanism (besides demand for governance) is the 1.5 percent fee charged to minters when they close their CDP, concurrently burning the minted mAssets. The collected fees are converted to UST to buy MIR, then dispersed to MIR stakers.

So where does the increased value accrual for LUNA stakers come from?

First, a progressively larger set of users willing to mint mAssets, which corresponds to more demand for UST to open CDPs and mint mAssets. More demand for UST = contraction of the LUNA supply.

More circulating UST equates to more transaction fees for stablecoins on Terra (the network tax -- currently 0.607 percent with a cap of 1 UST), which accrues to LUNA stakers.

Second, Terraswap (Terra’s version of Uniswap) is subject to Terra’s transaction tax when one of the network’s cadre of stablecoins is used. Again, Terra transaction taxes are distributed to LUNA stakers.

As a result, increasing volumes of mAssets traded on TerraSwap aggregate more fees to LUNA stakers.

With the liquidity of mAssets and UST pairs on the Terra side of Mirror sitting under $100 million following a December launch, this bodes well for cash flows accrued to LUNA stakers in the long-term.

The icing on top is that Jump Trading’s proposal will ameliorate UST’s volatility, which will also reduce the premiums for many mAssets right now (resulting from a UST premium), making trading mAssets even more appealing.

In summary, Mirror’s rapid adoption is leading to a surge in demand for UST, whose supply expansion was recently constricted by the on-chain mint/burn mechanism between UST/LUNA. That constriction is now alleviated significantly.

In fact, demand for UST (in large part a function of Mirror) is expected to hit $200 million in February, which would lead to a sizeable chunk of LUNA’s supply being burned.

https://twitter.com/d0h0k1/status/1357307598064607232?s=19

With more demand for UST from Mirror and a much larger issuance of UST to meet demand now possible, LUNA stakers stand to benefit the most. There’s never been a better time to stake $LUNA.