Option 1 means that, previously, at one point in time, the machine made cakes. But now, the machine no longer makes cakes. Option 2 means that someone has made cakes using the machine. So, you could reply with Option 2, but it doesn't really answer the question. The person wants to know what the machine USED to do, not what it WAS USED for. Option 1 is certainly the far better choice. Side note: Native speakers (or at least American speakers) would pronounce "used" differently in each of your two options. In Option 1, Americans would pronounce it as "yoost"--The machine "yoost" to do... In Option 2, we would pronounce "used" in the normal way. This just illustrates that native speakers consider those two options to represent very different meanings. I hope this was helpful!