Co-founders Erick and Colin invite you for a coffee and a chat on the Terra-LUNA incident and it’s impact on the blockchain space.
At Cartesi we love interacting directly with our community, and in the second installment of Coffee with Cartesi hosted on Twitter Spaces, co-founders Erick and Colin were happy to welcome you into their home to chat about the recent event that shook the blockchain space.
Reflecting on the incident with Terra/LUNA’s algorithm, and how this has impacted both DeFi and Web3 communities as a whole, Colin and Erick also took questions live from our very own Cartesi community.
Ready to get caught up? Grab your beverage of choice and settle down to the recap of a very insightful conversation with Erick and Colin.
Listen here:
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Note: some of the text may have been edited for clarity and grammar.
Erick: Hello everybody. We usually gather at each other’s homes and just chat, but for our Coffee with Cartesi series, we thought it would be a good idea to open up our private conversations to the public because there are always some insights that we want to share. And we also want to hear what you guys have to say!
Colin: We were actually at my house last Friday, discussing the recent Terra/LUNA incident and the cripto market in general, so looking forward to diving deeper into that during this Twitter Space.
Erick: Exactly. We want to reflect deeply on what’s going on with cripto — our current macro conditions are not very beautiful, to say the least, and we’re gonna go a little bit into the LUNA events and the implications of that. In the end, I want to finish this conversation on a positive note, so while it is a gloomy time, I’m still very much enthusiastic about the technology, and I really trust that we are onto something that’s very meaningful for the future
Colin: Yeah here at Cartesi we’re really true believers in blockchain and what we’re building so there’s nothing that can put us down — we’re committed as ever. Even in these dark times in the market, even with what we see in LUNA/UST — it actually makes us work harder and make sure we deliver something that is robust.
Erick: There are all sorts of projects in the blockchain space and whenever something like this happens, some of them get shaken off. Some projects that weren’t really stable, fall off, but we’re here for the long game and we’re very responsible with our funds. So for us, the price of Cartesi doesn’t really matter. We have the funds to take our project forward and deliver what we need to deliver.
Colin: Exactly, we’re committed. Today, we also want to go over the future of DeFi and how we see it, as well as Web3 and blockchains in general just to explore and see where everyone’s at in the space. So maybe we can jump right into talking about LUNA and Terra.
Erick: Whenever I reflect upon this event I think about other major cataclysmic events that happened in blockchain like BitConnect, the DAO hack, Mt. Gox, and all these things.
Colin: Yeah, we’ve been through multiple different scenarios that have made the cripto market crash, there’s been a purification of different projects and people involved in the space, but you know what? I think the cripto market always comes out stronger.
Erick: In a sense, it’s good to see that we have survived as an industry and as a community throughout all these events. Certainly, now it’s not the end of cripto, I think this event is actually good in a sense to make everything stronger.
So there are some events that are more systemic like Mt. Gox in the beginning. It was pretty much the only exchange so it really, really destroyed most of the environments with the problem we had there. Now with things like BitConnect, although it was a major, major scam, I wouldn’t say it was a systemic event because it was particular to a certain application and people who were following that project in particular.
But when it comes to LUNA, it’s deeper. Although it was one blockchain, and in March 2022 it was the alternative to Ethereum that had the highest market cap, even above Solana. So the crash of LUNA also dragged down Bitcoin, so I would consider this a major cataclysmic event.
Colin: Absolutely. It was quite a situation, I mean this is probably one of the biggest events to happen and we still don’t even know all the repercussions or the consequences we’ll have as a result of this. From my personal view, I think we’ll see a lot of regulation come to algorithmic stablecoins or stablecoins in general. We’ll see the SEC (U.S. Securities and Exchange Commission) use this as a case when they come and regulate DeFi, or other projects in the space, so we’ll have to wait in the coming months to see what happens as a result.
Erick: I think as a starting point, maybe lots of people here know exactly what happened to LUNA maybe other people don’t know exactly what happened, so I think it’s good for us to spend a few minutes going through the sequence of events.
It is an algorithmic stablecoin, so the way it was supposed to work is that when people wanted to create UST they would have to destroy LUNA to mint UST and vice versa. So as long as things are over collateralized, let’s say the market cap of LUNA is way, way above, the market cap of UST you can have a feeling that you’re playing on the safe side.
Colin: It almost acted like a little bit like a central bank, kind of regulating a moneda. So it was always selling one dollar worth of LUNA to create one UST.
Erick: But actually this algorithm is not really stable when you press it harder against extreme conditions. So when the market changes and you have a major crash in Bitcoin, which of course impacts the whole ecosystem, then of course the price of LUNA would fall sharply. Especially because LUNA didn’t have like a strong use, a utility. Take ETH, for instance, it has a strong mature utility, in the case of LUNA, it didn’t have that.
Colin: Exactly, if you take DAI for an example, it’s well, well over collateralized with Maker and both Ethereum that have much higher liquidity levels and have been around for years so they’re very widespread. Whereas LUNA was fairly recent still and was only going up and caught all of this liquidity and attention during the bull market.
Erick: And besides the algorithm that was not extremely sound and resistant to events like this, it also had Anchor — a major protocol on Terra. It was a borrow and loan protocol on top of Terra that was from the beginning and throughout all time, offering a flat 20% interest rate on everything.
That’s crazy. Insane. In the beginning, let’s say at the beginning of 2021 we were in this full-blown bull market and other DeFi platforms were offering extreme APRs as well and this model of offering 20% could be feasible. But when the markets went down later in the year, at that point 20% was well above what other protocols were offering back then, but Anchor decided to keep this rate.
Colin: What I like to think is, if you’re going into a DeFi project and you don’t know a lot about it, but there’s a massive APR if you can’t understand where this APR is coming from in very, very simple terms then be very cautious because something might be wrong.
Erick: Yeah and in that case, because Anchor was offering these insane interest rates at a time where the market was not very good, lots of people flocked into Anchor, coming from other platforms because they wanted to maximize their gains. It’s totally understandable.
Colin: They were trading coins from all different blockchains or different stablecoins instead into UST or LUNA, to get UST.
Erick: Exactly and then at some Anchor quickly passed the 10 billion mark of the UST stacked in there and that means Anchor would have to give away 2 billion US dollars of interest in a year.
Colin: Per year! So this is obviously unsustainable if you just look into it for about 10 minutes you’ll realize that these numbers are crazy.
Erick: So just to make the story short, at some point the market started to spiral down after the FED’s announcement about interest rates, the price of Bitcoin going down sharply and of course all the altcoins going down even faster. Then some people — some whales — started to wake up to the fact that they might be on the brink of systemic risk.
Colin: And I think the problem is it quickly got under collateralized so some panic started with the big funds. Something important to mention is that I think the founders of LUNA realized there was a problem with this, so they created this outside reserve fund, a kind of like a centralized fund, where other funds were pumping BTC into it to try and over collateralize it. But the issue with this is that it’s actually another volatile asset that is backing it.
Erick: And the fact that you have to pull in an extra foundation to get Bitcoin collateral means that the algorithm is not very solid to start with, right?
Colin: It starts becoming centralized instead of a decentralized algorithmic stablecoin.
Erick: When these big whales decided to sell off their UST because they were sensing this risky scenario then, well, you guys know what happened. Other people started to enter this panic mode and started selling their UST, exchanging their UST for LUNA and immediately selling their LUNA for (fiat) dollars, or other fiat currencies. And that flooded LUNA because they had to mint lots of LUNA for that and with the price of LUNA going down, they entered a negative spiral that led LUNA to the ashes.
Colin: Exactly, it was a snowball effect. I think we can learn a lot from this, first of all, the importance of security, decentralization, and if you’re making an algorithmic stablecoin, one of the most important things is to actually have a real use for it and it’s probably not a bad idea to have real USD backing it.
Erick: And I think these very high gains in DeFi are very tempting. They challenge our rational mind, so sometimes you can look at something and think, okay this thing doesn’t sound very stable as an algorithm, but everybody’s coming in, I’m feeling FOMO, maybe I should go in as well. It appeals directly to the emotional brain and that’s the danger of these things.
Colin: Exactly, you feel this fear of missing out. You see 2,000% APY and you don’t want to miss out on that because you can make so much money in a day and this creates kind of a crowd effect.
Erick: Yeah, I think in the case of LUNA it was not a case of a bug in the smart contract, but the problem was even deeper. The design of it was not stable, so I think whenever people are thinking about DeFi they have to be careful not only about the stability, if the code is secure and audited, but also about having sound opinions from people who can understand if these things are economically solid or not.
Colin: Always question, what is the technical design of an algorithm. You could look up summaries of what technical people think of it and just do a little bit of a deeper dive. I think this is really important when we see these new protocols coming up. But my number one rule is, if it looks too good to be true, it probably is.
Erick: I think this whole event is a great wake-up call. It’s heartbreaking, I was heartbroken when I heard about lots of people really losing their savings and being destroyed by these events.
Colin: I hope something like this never happens again in blockchain but we can’t tell the future.
Erick: I think this event is good for us to raise deeper questions about DeFi, about Web3, where we’re going with this industry, where we want to go with this industry, and that’s why I wanted to gather together with Colin today, to reflect on these things.
Colin: Most of what we see in DeFi, I find quite interesting. I mean there are not too many new DApps or protocols that are coming out that are changing the game. So we still see the same basic Uniswaps, we still see the same basic curves and reiterations on these projects. Or even printing new tokens and creating new yields and it’s kind of a race to create the highest yield and then they take all of this whole package and copy it on another blockchain, whether it be an alt Layer-1 or something else, something new.
Erick: So usually the high yields that we see on these yield farming and DeFi protocols come from tokens that are issued, whose use cases and utilities are not entirely clear to start with. People start to believe that it’s gonna have value in the future but they don’t have any value, and it’s basically a pyramid.
Colin: In fact, these tokens are printed out of thin air and some are even just meant to be governance tokens with no value.
Erick: And this thing can only work while we are in the euphoric bull run, once things start to go down then you know these tokens are the first to lose value.
Colin: Exactly, that’s why I think Web3 really needs to evolve past this phase of greed and quick gains.
Erick: I think that’s the case and when we think about Web3 we think about the evolution of the internet, the evolution of the way we interact, the way we consume services, provide services, and make decisions together. You guys know all the values of blockchain, but when we look at what’s going on with Web3 up to this point, there is still a lot of experimentation going on. DeFi went through this euphoric cycle of yield farming and all these things we just talked about. Then we have play-to-earn games, which are also kind of part of DeFi in the sense that people normally engage in these games because they want to make money.
Colin: Yeah and that’s the sole purpose. They aren’t playing the game for fun, they’re playing for the money, that’s it.
Erick: That’s why I’m more of a fan of the idea of play-and-learn games, more than play-to-earn because I think games also must be entertaining, people must engage in the game because they are having fun, so they bring value to the game and the platform. But if you’re only engaging with the game for the sake of making money then, well…
Colin: I agree, there’s an important difference there. I don’t think we see too many real gamers who are playing blockchain games just for fun right now.
Erick: What I see is that we are still very early in the curve, the main users of Web3, like most users of Web3, they’re entering the system as an investment, as a means of investment, of increasing their capital. It’s understandable.
But we have to go past that point otherwise you’re not going to get where we want to get to. People must start to engage with Web3 not only to make gains but because it’s a better alternative to Web2 at some point.
Colin: Exactly, and we need to come together as a community and see what we want to achieve with Web3. Do you just want to create these Ponzi schemes in DeFi, or do you want to create a brand new internet, like where social media can be fully decentralized or decentralized marketplaces or sharing services?
Erick: I think even in the mainstream, people are starting to wake up to the flaws of the old protocol — the basis of Web2. How monopolies start to accumulate way too much power and how they start to make bad use of this power. Or they’re not transparent, they make arbitrary decisions, they censor people, they block your accounts, they can ruin your life, and they are the owners of your data. I think people — people beyond Web3 they’re slowly starting to wake up to this and that’s a good thing for our industry.
Colin: And it’s kind of related to what we see with these social media platforms. You see Facebook running into problems, you see this talk about Twitter, you’re seeing this more and more, so I think there’s a real need for Web3 in general.
Erick: Yeah. So, for instance, let’s talk about Facebook and social media. We often hear complaints about the ownership of data, that the platforms own the data, not the users
Colin: And that the platforms can do with that data whatever they want essentially.
Erick: Yeah, and the other problem that we see is a problem with censorship like you just mentioned, and the other problem is the tuning of the algorithms. Because the algorithms are not working in the favor of people, they’re working against people in a way, because they’re trying to keep people as addicted as possible to maximize the gains of the platform. So there is a basic misalignment of incentives coded in a private, closed-source code.
Colin: Yeah, I don’t know if anyone saw the most recent talk on Twitter with Elon Musk, but he’s trying to teach everyone how to change how the algorithm sorts your tweets. So if you click in the top right corner of your Twitter screen and change it to latest tweets instead of home tweets, it’ll actually show you the most recent tweets instead of what the algorithm thinks is best for you — which may not actually be best for you.
Erick: So clearly people are waking up to these needs and I think that’s the bigger purpose of Web3 for us to build transparent systems that are actually aligned with the best interests of people.
Colin: I would say Web3 is still in an early experimental stage, but we are really optimistic about the future of it and trying to change it here at Cartesi.
Erick: Yeah, I think whenever there is a deep crisis like this, it’s the darkness before the dawn, the dark night of the soul. When things like this happen we all feel this gloomy — I have been feeling this gloomy feeling these days especially, like Taiwan is so rainy these days [laughs].
But these are cycles and we have to learn how to navigate the cycles in an intelligent way. I think this is good in the ultimate sense.
Colin: Another topic I want to bring up here is something that I really resonate with. That decentralization and security don’t matter to anyone until the moment they do. Meaning until something like this happens, you don’t think about these things and then you realize how important they are exactly.
Erick: Exactly, so Bitcoin is there, Ethereum’s there, you know the test of time is a great test. These platforms are stable, they’ve never gone down, and there’s a beautiful honeypot — the price reflects it. If someone is able to hack it, be their guest, try it.
Colin: But no one has been able to do that yet, which shows their resilience. So in my opinion maybe this alternative Layer-1 narrative is fading a little bit. For some, we see certain blockchains going down, we see certain projects having algorithm problems, we see the same DeFi schemes and there hasn’t been too much new innovation in the space, to be honest. Maybe we’ll see more of a move to more long-lasting, more decentralized, and more secure systems that already exist like Ethereum.
Erick: I think so too. I think this can be good for Layer-2 in particular. There are many technical reasons for this, one of the reasons is it’s very safe, and very secure for different Layer 2s to interact with each other, to bridge in between themselves on a single blockchain, then bridge to different blockchains. So if you have a different Layer-2 on top of Ethereum for instance, they can easily, or safely send/receive assets through Layer-1.
Colin: And it’s always secured by the same security as Ethereum, so that’s kind of the most important thing about proper Layer-2 solutions. You’re not spinning up a new blockchain where you have to spin up hundreds of nodes with adequate security, and adequate locations, you’re using this global robust system that’s been working for years without flaw.
Erick: We have to see what’s going to happen if the future is single-chain, multi-chain. This is a deep topic and we at Cartesi try to adapt to whatever the future holds, so from the beginning we thought about a system that would be easily portable across different blockchains and we want to be prepared for any scenario.
Colin: We are blockchain agnostic, but we’re heavy believers in Layer-2, using the underlying security.
Erick: So again I think this was a negative moment, but I think the future is bright for Web3. I think we still have deep problems regarding user experience but these things will be overcome given enough time. There are many things that Web3 can do better in terms of UX than Web2, take for instance user authentication, and signing in into systems, there are many advantages so I think it’s always about the technological maturity of the ecosystem.
Colin: Absolutely, and what we’re building with Cartesi, The blockchain OS, we hope to go beyond these barriers that we currently see, so we hope to actually enable these identification solutions.
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Erick: And with what we’re building now, I’m even more optimistic, to be honest. With The blockchain OS and bringing an operating system, that means people can actually develop systems that are more complex, that look more like Web2 systems, that are more complex by nature. And also it’s going to be easier for existing Android developers, and Web2 developers to enter through Cartesi into blockchain because they’re going to have the tools and the environment they’re used to. They can bring their own ways of thinking, their business models, and their ideas into this space and I think we need that.
Colin: I think one thing that might be interesting for everyone in the Twitter Space here, is kind of going a little bit into what we could actually do with Cartesi, just to kind of paint a picture. So right now you see in DeFi, on Ethereum for example, you have Uniswap which swaps tokens, then you have Aave which does borrowing and lending, but with The blockchain OS, you could actually kind of combine these into one DApp and make a much more complex DApp. So when we were saying on Twitter, on Telegram, on Discord, that you can make much more complex DApps with Cartesi this is what we mean. You could make a full mini Binance with borrowing, lending, trading with derivatives, with futures all in one DApp.
Erick: Yeah, our number one priority now is to bring our MVP to fruition, to production, to Mainnet and that’s where our energy is around.
Let’s give some space for people to raise their hands. Does anyone else want to jump in, ask a question, or maybe contribute to the conversation please feel free! What do you think about these current moments in Web3, what happened to LUNA, or if you have any questions about Cartesi?
Dodie: Hello everyone, hello guys. My name is Dodie, I live in London and I have been following Cartesi for some time. I play and I’m passionate about chess and I found an article on Medium about Cartesi and chess, which sparked my interest even more.
What I want to ask is, your blockchain, have you started to integrate things for NFT capabilities? You know smart contracts and all that.
Erick: Great question, thanks! So first of all, let us make clear that Cartesi is developing a Layer-2 solution. We’re gonna be running on blockchains like Ethereum, actually, our first version will be even Layer-3, our MVP for Cartesi Rollups will be launched on Polygon and later we’re also gonna launch on Ethereum, of course.
But to answer your question, we are going to be a full smart contract platform. We’re going to allow people to develop smart contracts, but in a much more powerful way, because right now if you want to develop a smart contract, you typically have to use Solidity, and you are constrained by the tools that the Ethereum ecosystem has developed and you cannot really use the mainstream software tools that developers have been using for Web2. So the innovation of Cartesi is to bring mainstream tools for developers to develop smart contracts that are much more powerful than the ones that we have nowadays. And to answer your first question, yes in our first version of Cartesi Rollups we’re going to give support to NFTs as well.
Dodie: Got it. I just wanted to ask one more quick question, what is the TPS (transactions per second) on Cartesi?
Erick: So when you’re talking about Layer-2, this metric is not usually the metric that we’re going to use, because we’re not a blockchain, we’re a Layer-2 solution. When we are using a Layer-2 rollup like Cartesi is using, of course, you can compress transactions, you can get much more efficiency in the number of transactions you can pack inside of a block, so you can expect 40 times more in terms of compression, of what you would have on Ethereum for instance. In terms of computation, which is the main scalability vector that you would have on Cartesi, using optimistic rollups as we use, you can actually have much, much, more computation than you could have on Layer-1.
To give you an example, nowadays when you develop DeFi, or anything that runs on Ethereum or even on Polygon, you have to create a very simplistic logic in the smart contract because it’s very limited in terms of computation. As a computer, these blockchains are very, very limited and with Cartesi you can have like a 10,000x increase in the amount of computation in comparison to the underlying blockchain, while we preserve the security guarantees of the blockchain. So that would be a better metric for you to think about, not TPS, but the scalability that you can have in terms of computation that will actually allow you to develop applications that look much more like Web2 applications — like the applications you use on the internet today.
Dodie: So when you say Layer-2 this is like a scaling solution, like Polygon and Arbitrum?
Erick: It is similar to Arbitrum, the underlying algorithm that Arbitrum uses is optimistic rollups, with interactive dispute resolution. We do we also take that approach, but the main difference in the case of Cartesi is that we run a virtual machine that allows you to run Linux. So instead of programming a smart contract using Solidity, with Cartesi you can build your smart contract using whatever software stacks and components people use on mainstream software.
Dodie: Got you, thank you very much! Coming back to chess, do any of you play chess and can you expand more on the article on Medium?
Colin: Yeah, Erick and I actually play chess sometimes!
Erick: I actually love chess, when I was younger, I think the beginning of high school, I started playing chess, even competing. I love chess, nowadays I suck, to be honest, but it’s a lovely game.
So we implemented chess on Cartesi months ago, just as a proof of concept, as we do with other games that we implement, we did that with Creepts, which is our tower defense game, we did that with Texas HODL’em, which is more like a well finished demo, but chess was a more of a simplistic demo, without a proper graphical UI, but the objective was to show that you were able to run something that was more computationally intensive like a chess game. If you were to implement the logic of a chess game on Ethereum or on a blockchain, you would have a hard time.
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Colin: What was interesting is when we implemented chess, nobody actually had to write it from scratch, we took an open-source version and we ported it over.
Erick: What Colin said is a very, very, important feature of Cartesi, the fact that we bring Linux. In the last 30 years or so since Linux existed, we had this open-source explosion in the universe. Open source has eaten the world. You have these myriads of platforms and systems and services, libraries and components that people share openly and that other developer can use to build whatever they like – we’re standing on the shoulders of giants.
So, if you want to implement a chess game, it’s not as if you have to re-implement everything from scratch, you can go do a Google search and find a library, or a component that implements the chess engine, then you can take that component and compile it for the Cartesi machine.
Colin: Yes, in this case, we’re kind of acting like a bridge between software that’s already existing and blockchain.
Dodie: That sounds amazing. So let’s say I wanted to build a game like Command & Conquer, a turn-based game where each player could move certain pieces simultaneously, or rather strategically at the same time, I could actually implement that using Cartesi, right?
Erick: Yeah, you have to be careful with the computational limits, because if you compare what you can do in Cartesi with what you can do on Polygon, it’s tens of thousands more computation than you can do there. So that opens up a broad range of games that you could implement, like turn-based games, strategy games, and RPG games. But if you want to do real-time games, then it’s more complicated, because you have other technical difficulties like how are you gonna share the events among the players, and if these things have to enter a block, you need to account for the block time of the underlying blockchain.
You can create a lot of games using Cartesi, but at this stage, it would be very hard for you to do a real-time game. But what you can do already, compared to what you could do on Ethereum or Polygon is infinitely superior. You can think of strategy games, turn-based games, and card games there really is a broad range of games that you can do using Cartesi.
Dodie: That is really interesting thanks very much for this, I really appreciate the question, this room, and the information you’ve given us today.
Colin: And I don’t know if everyone knows, but I also wanted to mention the Cartesi Improvement Proposals we actually have running. We have a number of technical discussions going on in the forum right now, and if you guys want to check those out, or contribute we’d love to invite you there. Just head over to our Github, search for CIPs, and then go to the discussion board to see lots of interesting topics being discussed.
Erick: Definitely, alright guys, great to be here. We’ll meet again in the next Coffee with Cartesi.
Colin: We’ll see you at the next one!