The Curious Case of Airdrops
Airdrops are popular in the web3 industry. This article looks at what makes them so popular and some of the challenges that come with using airdrops.
What is an airdrop?
An airdrop is the distribution of free tokens to a group of users, usually as a reward based on some criteria.
The first instance of an airdrop goes back to 2014 when Auroracoin was distributed free of cost to all Icelandic citizens.
Airdrops can take various forms, including social media giveaways, token drops to wallet addresses, and completion of certain tasks or challenges. The goal of an airdrop typically is to generate interest in a project or token, incentivize users to participate, and potentially create a community of supporters who can help promote the project.
Airdrops can also be used as a means of rewarding existing users or customers. In other words it is a marketing tool to incentivise users towards particular set of activities.
Airdrops can help a project acquire lot of users in a short span of time.
Airdrops can reward early adopters and active community members
Lets look at some examples.
Uniswap Airdrop
Airdrops truly came to prominence when Uniswap distributed 400 UNI tokens to anyone who had used the their decentralized exchange prior to September 2020. It was lauded for several reasons -
Well-planned: Uniswap announced the airdrop several days in advance, giving users ample time to prepare and participate. The rules and criteria for the airdrop were clearly defined and communicated.
Fair: The airdrop was distributed to all eligible users in a fair and transparent manner. Users only had to prove that they had interacted with the Uniswap platform prior to the airdrop date to be eligible.
Value: The UNI token was already trading at a significant value at the time of the airdrop, which made it a highly valuable reward for users.
Community Building: The airdrop was successful in helping to build a stronger community around the Uniswap platform, with many users expressing their support and excitement for the project.
For many this is showcase of web3 ethos where business rewards their early contributors who played a crucial role in their success.
The battle of NFT exchanges
Crypto projects continue to use airdrops for user acquisition in early stages. The latest example of this is Blur which allocated 360 million of its total 3 billion token supply for airdrops to its users. This combined with some innovative marketing led Blur to capture a significant share from the incumbent OpenSea and even overtake it in trading volumes.
Whilst airdrops have proven to be an effective mechanism to acquire users, they are far from perfect. Lets look deeper to understand some of the challenges.
Rewards & Perverse Incentives
Incentive design is hard! Powerful incentives can often lead to undesired results. This is why it is important to think about second and third order effects.
The rise of Airdop hunters
The widespread usage of airdrop as a strategy to lure users has created a class who are only interested in receiving free tokens. They don’t have any interest in the project or platform itself. These users are often referred to as “airdrop hunters”. They don’t add any value to the project in the long run.
Fake Users & Bots
Another major challenge for crypto projects are bots which repetitively perform tasks with the aim of maximising the rewards. Essentially, this is an effort to game the system. In many cases this leads to wash trading.
Here is a tweet by Brian Flynn, CEO of Rabbithole criticising Blur airdops.
Token Price
Many users may sell their tokens immediately after receiving them, leading to a drop in the token price. The price of Blur token crashed nearly 85% immediately upon launch.
Interestingly the same behavior was observed in our very first airdrop: Aurora coin.
This is a known issue and continues to affect several other airdrops.
Unfair Distribution
Bots and fake accounts can be created easily and can be used to manipulate the results of an airdrop. This can lead to the distribution of tokens to users who do not actually exist or who are not interested in the project or platform.
What this means is that genuine users are not rewarded appropriately. This can lead to decrease in interest and participation from genuine users.
Incentive Design: A case for Token Engineering
Tokens are powerful instruments. Airdrops are one of its usage. It is clear that they can create massive impact and potentially align users with the success of the product. Looking at the current case of Blur vs OpenSea, it seems that even network effects are no longer a defensible moat.
However, much of what is happening today may not be sustainable. A lot of value is getting leaked to undesirable actors. Creating systems that can be gamed will eventually lead to backlash from users as well as regulators. What we need is to create robust incentive designs which create sustainable projects.
Post 2022 crypto crash, Dr Achim Struve of Outlier ventures makes a case for Token Engineering here.
For example, we could look to mitigate the issues with airdrops as follows:
Calibrate the size of airdrops
Small and targeted airdrops can be useful to observe response of the users. This can also minimize the impact of airdrop on token price.
User verification
Verify users to prevent bots or fake accounts
Vesting
Vesting can be over time or based on milestones. This does not really solve the problem, but buys you more time to either build traction or strong community that will counteract the undesirable actors
Leverage on-chain Data
Analysis of on-chain data can help you understand user behaviour and patterns. This can help in designing a more precise and robust reward mechanism
Target Existing Users
Here is a Twitter thread by Li Jin on more efficient usage of airdrops for existing users instead of new user acquisition.
The above is in no ways an exhaustive list. It also may not be possible to implement all of them in a particular case. Here is a framework that can be followed to stress test your airdrop strategy.
- Identify & list down all the different stakeholders in the ecosystem
- Deeply understand their behaviours and motivations. What brings them to your platform?
- Evaluate bottlenecks that you want to incentivise
- Think about second order effects. For example, giving money to acquire users can lead to poor retention or attract wrong set of customers etc
- Adjust your strategy to minimize the negative effects identified
In reality it may be nearly impossible to fully mitigate the downsides. However, a robust design taking an Token Engineering approach can help to minimize them.
I help web3 projects with design and modeling of their token economies and incentives. Feel free to reach out on Twitter at @0xPravar. Big thanks to Rohan Mehta (@RowRowRoUrBoat) for helping me with the research and giving feedback to refine this post.
Special mention to Jose Antony for reviewing the article content.