MakerDAO identifies risks of an Ethereum hard fork

DeFi protocol MakerDAO (MKR) has identified seven risks its protocol faces if Ethereum (ETH) is forked.

Futures backwardation and negative funding

According to the protocol, the first risk it faces is future backwardation and negative funding.

In this case, while spot ETH will get forked PoW tokens, those exposed to ETH perpetual contracts and quarterly futures would not.

1️⃣ Futures Backwardation & Negative Funding.

Spot ETH would receive PoW forked tokens, while exposure to ETH quarterly futures or perpetual contracts would not.

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— Maker (@MakerDAO) August 5, 2022

If this happens, it could cause a decline in the cost of leverage through futures contracts which will create competitive pressure on Maker vaults.

stETH discount

An Ethereum PoW hard fork post-Merge might lead to a stETH discount because staked coins are likely to become worthless.

Staked Ethereum is locked in and expected to be unlocked after the network upgrades to Ethereum 2.0.

2️⃣ stETH Discount

stETH is likely to become worthless on any PoW Ethereum fork.

This is because further chain upgrades would be required to unlock staked ETH from the deposit contract, and there is arguably little economic incentive for the fork chain to accommodate this

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— Maker (@MakerDAO) August 5, 2022

But with a PoW hard fork, these staked coins would become worthless as they would remain locked until a network upgrade is done.

The above may result in stETH’s value declining based on the expected value of the forked PoW ETH. For Maker, that represents a higher risk of stETH liquidity risks and downside volatility.

Additionally, a discount in liquid staking assets could incentivize leveraged staking behavior, increasing the “risk of negative price gaps while raising ETH supply rates on lending protocols.”

External assets

A forked Ethereum presents a challenge for external assets operating on the network. A fork would force centralized stablecoin issuers, cross-chain bridges, and others to pick an Ethereum chain.