Building a Sustainable and Value-driven Crypto Ecosystem

While the ouroboros may devour itself and live. The crypto economy is not nearly as mythical.

In the last two years the global cryptocurrency landscape has seen an explosion in both volume and valuation. The unprecedented scale of this growth has polarized public opinion between those who view the industry as speculative and those who unwaveringly explain its growth as a justified reflection of its revolutionary potential.

The truth, as is often the case, lies somewhere between the two positions. What the critics fail to appreciate is that the incredible rise of crypto asset valuations is equally matched by a less externally visible landscape of technological innovation bristling with dynamic new technologies that promise to fundamentally alter (for the better) the way we conduct business, cooperate and communicate: DAOs promise to be more sustainable and equitable than traditional forms of corporate/social organization, while at the same time being more efficient at recourse allocation and profit/talent/value generation; NFTs bring the possibilities of decentralized identity, digital ownership and hybrid digital-physical ownership; Metaverse initiatives seek to fundamentally alter the medium of social coexistence.

Yet, the critics too have some truth to their claims. While these technologies do possess the potential to accomplish implementations that add exponential value to the global economy, an analysis of market action, real-world adoption, and investor sentiment shows that the current valuations are mostly based on the perceived sense of potential short-term appreciation. Nowhere is this more apparent than in the artistic NFT space. Projects with questionable artistic value that are obvious derivations of derivatives of earlier projects dominate the market. These projects overshadow other forms of NFTs that combine real-world use-cases with digital ownership (commonly aggregated as utility-NFTs). In a space dominated by speculative action, real-world value addition simply cannot compete.

This is regrettable as it throttles real-world adoption and propagates a cycle of increasingly unsustainable valuations. Further, this centralizes the control of the ecosystem into the hands of an exclusive club comprised of those who have the contacts, know-how and capital to fund this hype-driven project model. Because NFTs lack the price discovery mechanisms available to fungible tokens, increase the success of a project hinges on the team executing the initial launch with enough hype to push the project beyond the critical mass of market action needed to create a fear-of-missing-out mindset in the speculative market. Because of this increasingly binary success-failure model, successful launches are driven through nepotistic white-listing, insider-trading, speculative botting etc. Clearly, this is a worrying trend as it negates the core value propositions inherent in the use of the blockchain as a medium.

While unsustainable market models will drive towards what they are compelled to i.e., eventual collapse. It is the responsibility of those in this space who recognize the long-term value that the industry can fulfill beyond short-term speculative monetary gains, to ensure that their work survives beyond any eventual market drawdown. The only way that can be achieved is through working on technology that offers real-world value beyond speculative short-term appreciation. Technologies that utilize the medium of the blockchain to develop projects that are more efficient, sustainable, and profitable than traditional alternatives are the ones that will survive in an increasingly competitive and mature market (uninhibited by the direction of speculative price action). This proposal is an effort towards that objective.

While there are many causal factors behind the current market domination by speculative price action, perhaps one of the most overlooked is the lack of projects with real-world use cases, specifically in the context of DEFI primitives. This might seem counterintuitive, after all the DEFI landscape has seen an explosion of innovative financial products that abstract away complex financial operations underneath excellent user-focused products that regularly attract massive user adoption. However, this is an overly simplistic understanding of the role of financial markets in a traditional economy. Lending, borrowing, investment yields and the plethora of derivative financial instruments built on top of these primitives constitute massive financial markets that drive the global economy. However, the sheer size and scope of these markets should not obscure the fact that their primary function is to facilitate and promote real world physical economic activity. In fact, many economists contend that an economy where circular capital flows in the financial sector overshadow real-world physical economic activity cannot sustain itself and must eventually collapse. While DEFI has matured significantly, most DEFI primitives still primarily concern themselves with redirecting and manipulating the circular flow of capital within DEFI. This is beneficial as better yields, decentralized security and dynamic financial products not possible within traditional finance (e.g. flash loans) drive public adoption for DEFI. However, if DEFI, NFTs and the wider crypto ecosystem is to survive, it is now time for DEFI primitives and utility NFTs that focus on facilitating real-world economic activity to take center stage.

So far, we’ve outlined two main issues within the crypto landscape: speculative market action that encourages an inefficient, centralized, unsustainable crypto landscape, primarily within the NFT space, and DEFI domination by primitives that focus on capital flows within the DEFI market, with little or no facilitation of non-defi real-world economic activity. I am confident that going forward we will increasingly see many new DEFI primitives that focus on non-DEFI economic facilitation, or at least I hope for that to be the case.

In the spirit of moving the conversation forward, I am proposing a new DEFI primitive that combines a novel token distribution mechanism with semi-fungible stock-NFTs. The model can be harnessed for a variety of different use-cases. For example, It can serve as a user acquisition mechanism for new projects, while simultaneously generating seed funding and recurring profit-share dividends for founders, users, and investors alike. Utilizing this model for semi-fungible NFT collections can address most of the problems identified with the NFT space earlier: the model is more resistant to purely speculative price action as it has a better dynamic price discovery mechanism for tokens embedded within the token mechanics themselves; the model still holds incentive for early buyers of a good collection as they will share in the profits of its sales/growth; the success of the collection is now measured as a combination of its price growth as well as new user sales, rather than purely speculative price action dictating how “successful a collection” was.

This new primitive would probably be classified somewhere between traditional fungible tokens and NFTs. However, it is fundamentally different from previous conceptions of semi-fungible tokens used within existing gaming DEFI projects. The basic idea behind this model is for a token that has an uncapped supply (anyone can mint more tokens from the core token contract itself), however, the minting process aids in price discovery and supply regulation through a mint cost. Further, the specific price parameters of the minting process depend upon existing supply. The best way to understand the mechanics of this new model is to look at a specific use case for it.

Let’s take the example of a team starting a new web3 on-chain product. To begin, the team and the project have two basic needs: seed funding to help develop the project and, even more critically, initial users to help guide the development process and generate profit. The team could launch a fungible or a non-fungible token for the project or could seek funding from investors. However, both these methods come with their drawbacks. Using investor funding can beholden the project to external interests and goes against the decentralized ethos of the web3 ecosystem (hence sacrificing the efficiency and sustainability that the medium can provide). Launching a new token can be a difficult process and not a suitable undertaking for small niche user-focused products: lack of price discovery mechanisms for utility NFTs; the products ecosystem may have no use-case for a token, speculative price action opening developers to perverse incentives etc.

Instead, our hypothetical team may choose to launch a semi-fungible, stock-NFT under our token model. Under our model the complicated dynamics of the initial token offering along with its attendant risks of over-centralization, market manipulation, token sniping etc. can be skipped entirely. Instead, the token contract goes live without any tokens having been minted. The token contract itself allows anyone to mint more tokens as they want. The token minting costs a certain predetermined amount set by the team beforehand according to the utility the token offers (the token may be used as an authentication token for a token gated community, service, product etc.).

You might be wondering that this process does not seem very dynamic and sensitive to the scaling needs of a growing real-world service. This is where the concept of mint-rounds comes in. Prior to the launch of the contract, the token generator can specify the specific size of each mint round. So, our application may launch the initial contract with a seed mint round of 500 tokens with mint-cost of 10 USDT for every mint. Once, 500 tokens have been generated, the mint parameters are modified according to a pre-set schedule. This schedule governs the size, mint-cost, rewards distribution etc. of each subsequent mint round. The mint-rounds could also potentially be swapped for a mint curve with marginal cost for each mint.

Within this whole hypothetical scenario there are three main actors, each of whose interests need to be advanced while ensuring maximum sustainability, scalability and profitability for the service itself. The three main actors are: Development team, investors and users. To understand how our model sets up the incentive structure for each actor in a manner that promotes efficiency, sustainability and profitability for the project, we need to understand the reward distribution mechanism that governs each new mint. Each new mint distributes the mint-cost intro three components: project treasury (this is handled by the project themselves either through a decentralized governance contract or through custodial ownership, the token contract only specifies the treasury wallet), token rewards and token locked value.

The project treasury is rather self-explanatory, so let us examine the other two. Token locked value specifies a certain percentage of the token mint cost to be locked with the token contract itself, the tokens may by burned by holders/users at any point after the initial mint to return the tokens locked value (optionally including accrued interest if interest mechanisms integrated within our contract are utilized by the token generators). This mechanism ensures a floor price for our tokens and leads to greater trust and stability for the token price. Lastly, token rewards are paid to past token holders as a return on their initial backing for the product. These token rewards utilize a downward sloping function to calculate rewards for earlier backers/users of the product. The specific parameters governing the slope of this rewards curve can be specified at the time of the token contract creation. Using this system of token rewards, we combined the “users” and “investors” categories we outlined above. This combination serves to align the incentives of users and investors in a truly web3 decentralized manner. Further, since our tokens are not entirely fungible with each token bearing the information of its minting round, the development team can appropriately reward users by gating specific privileges/dividends from operating income to specific mint tiers.

The model could potentially even incorporate governance by using the minted SFTs for governance, in which case the model could serve as the foundational structure for DAO controlled on-chain service/product for which each operational domains is fully on-chain, automated, and self sustainable.

While a thorough examination of the mathematical modeling for the Tokenomics of such a model would be required to properly understand the value that our SFT model holds, it is beyond the scope of this introductory writeup. I hope, this introductory article was able to sufficiently explain the potential this model holds and can spark further discussion on how to make crypto primitives that truly add productive value to the global economy.

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