Given that there are many cryptocurrency exchanges (both centralized and decentralized) and a limited number of high quality market makers, liquidity is quite fragmented across the industry. Exchanges, therefore, must attract high quality market makers to their platform with a variety of incentives. Often, these incentives come in the form of credit lines on centralized exchanges. As an example, individual market makers can receive millions of dollars worth of “free credit” on centralized exchanges, meaning they can add more liquidity to their strategies without committing all of the capital from their own balance sheet.

Since dYdX functions as a central limit order book (CLOB), it needs to compete with centralized exchanges to attract standing liquidity. The Liquidity Staking Pool, therefore, functions as a similar form of incentive that market makers are used to from centralized exchanges: interest free, uncollateralized credit lines to be used solely on the dYdX Layer 2 perpetuals protocol. Market makers can therefore use this pool as a line of credit, and immediately add liquidity across multiple markets on the exchange. Additionally, since dYdX offers cross margining, market makers can easily leverage this capital to boost their liquidity, essentially meaning that each dollar of capital utilized from the pool can result in multiples of dollars of liquidity on dYdX. Traders, in turn, will benefit from tighter spreads and more depth across all markets.

How it works

$$2.5%$$ of the DYDX token supply ($$25M$$ DYDX) will be distributed to users who stake $USDC to the liquidity staking pool. Community-approved liquidity providers will use the staked $USDC to make markets on the dYdX Layer 2 Protocol, furthering the liquidity available across the markets. Liquidity providers are restricted from using borrowed funds outside of the dYdX Layer 2 Protocol.

Stakers will earn DYDX rewards for staking $USDC. DYDX rewards will be distributed continuously according to each staker’s portion of the total $USDC in the pool.

A staker must request to withdraw $USDC at least 14 days (Blackout Window) before the end of an epoch in order to be able to withdraw the staker's $USDC after the end of that epoch. If stakers do not request to withdraw, their staked $USDC is rolled over into the next epoch. Withdrawals cannot be requested during the Blackout Window.

Risks

If a borrower fails to repay an owed balance back to the pool by the end of the epoch, it is considered to be in default and is disallowed from borrowing further $USDC until the debt is repaid. Stakers may lose $USDC in the event a borrower never repays a debt. Stakers can lose a portion of their staked $USDC if a market maker were to lose $USDC via poor trading and be unable to replenish the liquidity staking pool.

Stakers also are exposed to smart contract risk if there is a vulnerability in the underlying smart contract code. All DYDX & governance smart contracts have been audited and rigorously tested.

To reduce the risk to stakers, each staker and liquidity provider will be required to become party to the Revolving Credit Agreement, but entering into the agreement does not ensure that a liquidity provider will repay all amounts borrowed, even if a staker's rights under the agreement are enforced.

stkUSDC

$USDC holders who deposit and stake their $USDC into the Liquidity Staking Pool will receive a tokenized position (stkUSDC). stkUSDC is minted when a user stakes $USDC, and is burned when a user withdraws their $USDC from the pool. In the same transaction that $USDC leaves a staker's wallet, stkUSDC enters the staker's wallet; or vice-versa when unstaking.

A stkUSDC balance can be active or inactive. Active stkUSDC can be transferred as an ERC-20, but cannot be withdrawn. Inactive stkUSDC can be withdrawn, but cannot be transferred. stkUSDC goes from active to inactive when a user requests to withdraw $USDC from the pool prior to the Blackout Window.

Since stkUSDC can be transferred, it can theoretically be exchanged for any other ERC-20, and thus be used as a proxy for the solvency of the Liquidity Staking Pool. As an example, if the market thought that the Liquidity Staking Pool was insolvent, a buyer of stkUSDC would likely only be willing to acquire it at a discount to the $USDC it could theoretically be redeemed for.

Market Makers

As of Epoch 0, there are 5 market makers that can draw loans from the Liquidity Staking Pool: Wootrade, Wintermute, Amber Group, Sixtant, and DAT Trading. To learn more about each market maker, head to dYdX Forums.

Similarly, new market makers who are active on dYdX can apply to become eligible for the Liquidity Staking Pool via dYdX governance. The first step is to introduce your firm on the dYdX Forums, and share any relevant information that the community should know to better underwrite your firm. After engaging on the forums, the governance process includes voting on Snapshot and a final on-chain vote which would grant access to the pool.

Staking and Claiming

To stake, head to dydx.community and connect your wallet. Head to the Liquidity Pool and click “Stake.” If you have not enabled $USDC for staking before, you will have to complete an on-chain transaction to enable it prior to staking.

Once the Transfer Restriction Period is lifted on September 8,2021, you will be able to claim earned DYDX from staking block by block. Every claim will be in the form of an on-chain transaction.

Summary

• Read the documentation to learn more about the Liquidity Staking Pool
• Go here to stake to the Liquidity Staking Pool
• Go here to learn more about the market makers in the Pool or to apply to become a market maker that has access to the Pool.