Most Existing X-to-Earn Protocols Are Simply Not Sustainable. Where Do We Go From Here?
This is part 1 of a 2-part report that is authored by Derek Lim and Gabriel Foo of Spartan Labs Research.
The Problem with X-to-Earn
Within the past 20 years alone, the video game industry has grown to become a formidable force in the global entertainment industry boasting an estimated total revenue of $215.5 billion in 2021, more than both the music and film industry combined. Traditionally, most if not all of the revenue generated from video game sales and microtransactions goes directly into the pockets of the corporations that produced these games, and rightly so.
However, the latest innovations in Web3 sought to marry the two domains of gaming and blockchain technology as it attempts to flip this tradition on its head by channeling that revenue back to the players themselves. This gave rise to the concept of Play-to-Earn, games built on the fundamental idea of enabling players to earn crypto tokens just by playing a game.
Axie Infinity’s Rise
While not the first of its kind, the concept of ‘Play-to-Earn’ popularized by Axie Infinity took the industry by storm as players could effectively earn crypto tokens as rewards for playing the game. For the uninitiated, Axie Infinity is a card-based PvE PvP digital pet battler game by the company Sky Mavis, where players would use Axies to battle it out with other players’ Axies (Pokémon style) to earn Smooth Love Potion (SLP) tokens, fungible crypto tokens which can be sold for other digital assets or used for breeding more Axies of various attributes and traits, each boasting different skill cards and abilities. Each Axie is also a Non-Fungible Token (NFT), unique cryptographic tokens that exist on the blockchain which cannot be replicated, allowing players to have full self-custody of their Axie game characters.
At its peak in November 2021, the main token that players earned, SLP, was trading at around $0.39. An averagely skilled player would roughly earn around 150 to 200 SLP or $58.5 to $79 per day. Extrapolated to a month’s earnings, that would be just over $2000, significantly higher than the average salary earned by working class people in third world countries. Although SLP did not trade at $0.39 for very long, the SLP tokens that players could earn throughout May to September 2021 were more lucrative than working a minimum wage job in most countries. For skilled players, potential earnings were as high as over 300 SLP or $117 per day if you had the maximum amount of 60 Energy points and won at least 50% of the Arena games you played. The game became highly popular in the Philippines as it was a lifeline for a lot of Filipino households during the peak of the COVID-19 pandemic amidst nation-wide lockdowns.
As the hype continued, the floor prices of Axie NFTs skyrocketed to over $300 per Axie. To play the game, each player needed to purchase 3 Axies to compete and earn SLP. As the game attracted many players from countries which had low earning power, a lot of new players were not able to play the game as its barriers to entry were high. This sparked the birth of scholarship programmes where Axie scholarship owners who had the funding and Axie NFTs would employ scholars to utilize the scholarship’s Axies to play the game for them, with the scholarship manager taking a cut of the scholars’ monthly SLP earnings.
During this time, many other blockchain gaming projects hopped onto the bandwagon to mimic Axie Infinity’s success in hopes that it was really the ‘next big thing’. To varying degrees of success, capital and player base from Axie Infinity started to trickle down into lesser-known Play-to-Earn games in typical euphoric bull market fashion, resulting in price volatility for most metaverse and gaming related tokens.
The Collapse of SLP and Axie Floor Prices
Despite its initial success, Axie Infinity’s token economy proved to be unsustainable. To get a better understanding of why it collapsed, we need to understand how the game’s economy worked. Axie Infinity’s tokenomics was built on several key aspects that were designed in a way that created a positive feedback loop, a flywheel effect to foster growth and mainstream adoption.
As new players enter the game’s ecosystem, they are required to purchase and own Axie NFTs to earn SLP. Like traditional battler games, each Axie NFT had their own unique set of cards and abilities, enabling players to theorycraft and create synergistic card combinations. If players choose to further expand their lineup of Axies, they could either purchase new Axies with different traits and attributes, or breed two Axies together to create a new and unique one.
Breeding required both SLP and AXS to be burned to breed new Axies, costing more SLP and AXS as you breed the same Axie more times. Due to the way the SLP token was designed, therein lies the problem. The main utility for the SLP token is to either be sold for a profit, or reinvested back into the game to earn more of itself. To earn more SLP, players can sell their SLP earnings for ETH to purchase new Axies which increases their potential to earn more SLP. As a result, this design created an internally reflexive game economy where value captured is circulated only within the game’s tokens. Not only is this unsustainable as there is no standalone value, it also creates immense selling pressure on top of already high token supply inflation rates.
As new players enter the ecosystem, this increased demand for Axie NFTs indirectly increases demand for both SLP and AXS as more Axies needed to be bred. This positive flywheel effect caused the prices of NFTs, SLP and AXS to soar and reach all-time highs. However, as the growth of daily active users dwindled and scholarships continued farming SLP tokens, things took a turn for the worse as the game’s token economy could not sustain the continued selling pressure. Subsequently, the price of SLP bled a slow death to almost 99% down from its highs in July 2021. At its peak, the floor prices of its NFTs which were once over $300 per Axie, now floor prices sit at around $5 per NFT.
While the game experienced tremendous growth throughout 2021 into 2022, the number of active players started to plateau. The game experienced a significant drop off in players in June 2022 as prices and earning potential continued to fall resulting in community fatigue.
Although developers Sky Mavis had planned to introduce more extrinsic value accrual to its game economy, it was too late as the negative feedback loop caused the game’s reflexive token economy to collapse on itself.
The Shift Towards Move-to-Earn
While Axie Infinity popularized ‘Play-to-Earn’, StepN innovated the idea of ‘Move-to-Earn’ within the Web3 industry which was a twist on the original Web2 Move-to-Earn fitness app concept initially pioneered by Sweatcoin. Officially launched in December 2021, StepN is a Web3 fitness and lifestyle app with built-in gaming and social elements to incentivize real-world physical activities such as walking, jogging and running.
To participate and earn tokens, new StepN users must purchase a pair of virtual sneakers (NFTs) and spend in-game Energy points to earn either GST or GMT. While the concept itself is quite straightforward, StepN improved upon Axie Infinity’s flaws and designed a more sophisticated tokenomics model with sustainability in mind.
StepN introduced a few clever design philosophies from traditional video games to their token economy such as ‘token sinks’ to negate the effects of their incentive mechanisms of distributing its tokens to players. Commonly found in role-playing games (RPG) and massively multiplayer online games (MMO) like World of Warcraft, Runescape and Maplestory, token sinks or ‘gold sink’ is an economic process whereby the video game’s in-game currency or any item that can be valued against it, is removed from the game’s economy. Gold sinks include activities like crafting, repairing armor, upgrading skills and abilities, purchasing items and so on.
As described by Terry Chung from 1kx Network, a gold sink is typically used in game design to maintain economic equilibrium, often to reduce inflation of in-game currencies that are continuously distributed to players through sources such as gold faucets. In the case of World of Warcraft, gold faucets include completing quests and obtaining loot from slain monsters. StepN effectively implements this concept to balance its economy by burning GST and GMT tokens through various player activities such as leveling-up sneakers, upgrading gems, repairing sneakers and minting new sneaker NFTs. With better sneakers, players are able to earn more GST and GMT tokens.
With that said, the StepN game economy has since fallen on hard times as NFT and token prices have fallen significantly from their all-time highs. At its peak, GMT soared to a high of $4.11, currently GMT is priced at $0.79, 80.7% down from its high. Once valued over $1500 per sneaker, floor prices for sneakers currently hover at around $50 in SOL. While it is not easy running a Web3 project through a bear market especially in bleak global macro conditions, the StepN team is dedicated to reiterating its existing tokenomic design to bring more utility and value back to its stakeholders to better align its development with users’ interest. The team is currently working on driving additional demand to its in-game assets through various means alongside reworking its GMT earnings model.
From a fundamental design standpoint, we believe StepN impeded its own growth as its once highly-priced sneaker NFTs became a high barrier to entry for new users hoping to enter its ecosystem. Although the implementation of the sneaker rental feature was designed to negate this issue, we believe that this option becomes increasingly unattractive as prices continue to fall. Coupled with significant drops in earning potential, new players are disincentivized to opt for sneaker rentals as a portion of their earnings are channeled to the rent collector.
When sneaker NFT floor prices are too high, players are incentivized to sell earned GST and GMT tokens to recoup their initial investments as quickly as possible. This inadvertently results in falling prices that would negatively affect users’ return on investment. With high NFT floor prices and slowing growth in demand for said NFTs, coupled with everyone selling their GMT and GST tokens, financial incentives to play the game will inevitably drop. Thus, StepN’s economy would enter a negative feedback loop resulting in difficulty attracting new users to its app, thus further dampening demand for its GMT and GST tokens.
How Can X-to-Earn Tokenomics Improve?
While token sinks and buybacks may prolong the inevitable, this brings us back to the same sustainability problem that Axie Infinity faced. In a reflexive token economy, it is difficult to achieve sustainability as value captured only circulates within the same economy. Once growth starts to dwindle and a wrench is thrown into the flywheel, the negative feedback loop will kick in and may eventually cause the game’s economy to ‘death spiral’ with token inflation and falling prices.
Lessons From Existing X-to-Earn Designs
While cleverly designed tokenomics is an essential piece to solving the sustainability puzzle, we believe that X-to-Earn models need to develop a form of extrinsic value accrual that exists outside of the game’s token economy in order to be sustainable. Although incentive mechanisms and sophisticated tokenomic models can quickly attract user growth, there must be an inherent utility for users to stick around after incentives run dry.
The nature of token economies should not be based around a single source of revenue from the end user. When users enter the ecosystem in order to earn back the investment they have put in, this creates a ponzi-like system fueled by continuous user growth which is not sustainable in the long run. With additional revenue streams, a significant portion of revenue should be directed back towards the game’s token through a buy-and-burn mechanism to counteract selling pressure.
With regards to building a Move-to-Earn platform, extrinsic value accruals could come in the form of complementary off-chain rewards like the ability to redeem goods and services, vouchers or discount coupons from major brands and even tickets to real world sporting events. This creates a fundamental and inherent value proposition which will be complementary to the game’s on-chain token economy, rather than reflexive to it.
By introducing complementary off-chain rewards like centralized point systems or redeemable real-world goods and services, this creates a form of resilience to crypto market volatility. In a turbulent market when digital assets are significantly more volatile, these off-chain mechanisms can still keep users incentivized despite falling token prices, similar to that of a points system or virtual cosmetics rewards and collectibles in a traditional video game. When applied to a Move-to-Earn app, as these off-chain rewards are not fungible tokens or NFTs that can be traded or custodially-owned, users will still be incentivized to play even without a financial incentive.
In addition to extrinsic value accrual, we believe that developing an ecosystem around a single token design allows the team to more effectively align long-term incentives with all stakeholders, be it the players, private investors and the development team. While dual-token tokenomic designs were highly popular in X-to-Earn designs, we believe it is inherently more difficult to find the right balance to create a sustainable ecosystem as each stakeholder is exposed to different levels of risk.
While designing a single token economy is difficult enough, a dual-token design adds more complexity. Making reference to Axie Infinity’s initial dual-token design with SLP and AXS, there was a clear imbalance between the two as AXS had significantly better value accrual as the governance token as compared to SLP which was mainly used as the game’s incentive token with its value accrual directly tied to player growth. This disparity was also made worse as AXS is also the token that early stage investors and SkyMavis’ development team accrued throughout a vesting period, whereas SLP’s main value accrual was to earn more of itself through breeding more Axies.
Consolidating both the governance token and the incentive reward token into the same token creates a fair dynamic where all stakeholders have the same level of ‘skin in the game’. While designing a single token design is difficult enough, multi-token designs create significantly more complexity making it difficult to achieve a sustainable model. Not to say that multi-token designs cannot be sustainable, but we think that it is a model that needs to be further reiterated and tested.
In addition to the points above, we believe that X-to-Earn designs need to be accessible to foster mainstream adoption and exponential growth. Tokenomic designs which cap the potential to acquire new users will find it difficult to scale in the long-run. The game’s economy should not be centered around NFT assets that traders can speculate on as this will lead to high barriers to entry once floor prices rise exponentially. Instead, NFTs, reward tokens and game utility should be complementary to each other instead of reflexive.
In recent times, several new projects have stepped up to innovate and push the boundaries of what X-to-Earn can potentially be. Without revealing too much for now, do stay tuned for Part Two of this two-part article series. In the next part, we will detail one such project’s tokenomic design as well as the rationale and thoughts behind it in our push towards better and more sustainable X-to-Earn tokenomic models.
Disclosure: Members of Spartan Labs may be invested in some or all of the tokens and projects mentioned within the following article. This statement discloses any conflict of interest and is not a recommendation to purchase any token or participate in any of the mentioned ecosystems. This content is purely for educational purposes only, and should not in any way be construed as investment advice. Please exercise caution and practice your own due diligence if you are planning to partake in any of these projects in any way.
About the Author
As The Spartan Group’s Web3 strategic research arm, Spartan Labs Research comprises a team of experienced analysts hailing from the likes of Delphi Digital, Signum Capital, Bybit and Mirana Ventures. Having launched various projects ranging from NFT collections to DEXes and AMMs first-hand, many of them are also seasoned builders within the space.
Spartan Labs Research is a specialized unit that advises and aids projects with tokenomics design/review to empower them with the most optimal and effective token models at launch and beyond. It also produces research reports and articles that are aimed at helping web3 users gain insightful perspectives with regard to the developments and issues within the space.
