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We designed a multi-faceted approach to ensuring the stability of the zETH peg. Here's how each element contributes to this:
Arbitrage: By allowing users to exploit price differences between zETH and ETH, we create an opportunity for arbitrage and therefore demand for zETH. When the price of zETH is less than the price of ETH, users can acquire zETH and use the Valve to convert it 1:1 to ETH. If the price of zETH fell below that of ETH, anyone can acquire zETH at a discount and deposit it in ZeroLiquid to receive the same amount of ETH, pocketing the difference in value. This market mechanism helps to maintain the peg by creating demand for zETH whenever its price falls below that of ETH.
Deep, incentivized liquidity: We provide strong incentives for users to supply liquidity to zETH/ETH pools. Initially, the incentives will come in the form of $ZERO tokens but will later be sustained by protocol revenue. This deep liquidity ensures that even large transactions don't significantly impact the peg, making it more stable and resistant to price fluctuations.
The Zero Fund: The Zero Fund is a reserve designed to support the zETH/ETH peg during periods of extreme market volatility. By using the Zero Fund to intervene when necessary via governance, we can help maintain the peg and ensure the stability of our ecosystem.
Borrowing caps: We implement borrowing caps to ensure the steady growth of TVL, to avoid putting excessive sell pressure on zETH liquidity. By gradually increasing the caps, we can scale the protocol in a controlled manner while maintaining the peg.
Protocol-owned liquidity: ZeroLiquid owns the vast majority of the ZERO/ETH on Uniswap v3. The ETH generated from LP fees in this pool will be used to bolster zETH/ETH liquidity. This approach not only keeps the peg secure but also ensures that the fees generated are reinvested into the platform for the benefit of the entire community. Any LP fees earned via ZeroLiquid's zETH/ETH liquidity will also be reinvested in the protocol to help further protect the peg. In summary, ZeroLiquid employs a comprehensive and well-thought-out strategy to scale the protocol and maintain the zETH/ETH peg. By using a combination of arbitrage, incentivized liquidity, the Zero Fund, protocol revenue, borrowing caps, and protocol-owned liquidity, we're confident in our ability to offer a stable and secure DeFi experience to all users.