Unlocking the veModel
The veModel is the holy grail of tokenomics, aligning user incentives and focusing on long-term Protocol performance.
Liquidity mining brought rise to DeFi Summer and revolutionized how projects incentivize participation and governance. The distribution of governance tokens to users changed how we look at financial infrastructure.
Traditional liquidity mining has been criticized as encouraging mercenary capital that flees the moment rewards dry up. This is problematic for Protocols that depend on deep liquidity and users who don’t want their holdings diluted by constant sell pressure.
Many projects are starting to transform their tokenomics to incentivize goal alignment between the Protocol and its users.
Vote Escrow Model
Vote Escrow is the mechanism of time locking tokens for a set period. The VE model aligns users’ incentives and focuses on long-term Protocol performance.
In essence, Vote Escrow Tokens, or veTokens, allow the token holders to select a lock-up period for their tokens. The belief is users who timelock tokens the longest believe in the Protocol the most and should have the greatest influence on the direction of the Protocol.
The longer you elect to lock up your tokens, the more weight your tokens may get in:
- Governance voting
- Earning staking rewards
- Voting on boosts to certain Pools
Pioneered by Curve, the Vote Escrow Model is fast becoming a popular economic model for earning double the reward while securing more voting rights amongst Protocols. Could time-locked tokenomics be the answer to the current liquidity mining system and a positive step for DeFi?
Curve Finance
When you provide liquidity to a Pool on Curve, you earn a share of all the fees on that Pool and CRV tokens as a bonus incentive to provide liquidity to that Pool.
Theoretically, with this model, there’s no reason to hold CRV tokens long-term, users can sell off CRV, and the token price would go down. Curve’s token price continues to grow, and many believe that’s because of the veCRV model.
veCRV TL;DR
- veCRV stands for Vote Escrowed CRV
- veCRV cannot be transferred; the only way to obtain veCRV is by locking CRV
- Users lock CRV tokens for one to four years to receive a certain amount of veCRV in return
- The longer CRV is locked, the greater voting power the holder has
There are what we believe to be at least three relevant reasons users lock CRV for veCRV: Earning a passive income on transactions conducted through Curve Pools, the ability to boost rewards in different CRV Pools, and voting rights.
Vote weights and shares of rewards are proportional to Curve’s timelock. Users that lock veCRV for more time will accrue greater rewards. For a project that launched a token on Curve, liquidity voting rights present a massive opportunity.
A Protocol can either deposit funds of stablecoins into a Curve Pool to make it liquid or acquire enough veCRV to vote for that Pool to get more CRV rewards. Protocols that issue stablecoins compete to get voting power within Curve’s ecosystem, giving rise to the “Curve Wars.”
Curve Wars
The fight for liquidity
As Protocols acquire liquidity, they either have to buy up CRV to vote or incentivize their users to vote for them. This race amongst Protocols led to increased buying pressure for CRV.
These incentives or payments from Protocols come in the form of substantial farming incentives. Users who lock CRV into veCRV receive fees, governance rights, and boosted rewards.
Leaders in the Curve Wars
Convex Finance
Leading the Curve Wars is Convex Finance, the single largest owner of veCRV, holding 47% of the total supply. Initially, Convex offered an APY of 48% on staked CRV — that’s nearly ten times greater than APYs offered by various Pools across DeFi.
For the average investor, Curve’s tokenomics presents a Catch-22. The more veCRV one has, the greater rewards earned from the staking Pools they deposit tokens into. However, the more one deposits into those Pools, more veCRV is needed to get the maximum 2.5x earnings boost.
Convex solves this issue by aggregating everyone’s veCRV and deposits to get the maximum yield rate without a single user needing all the veCRV.
In addition, Convex launched a liquid version of locked Curve tokens, called cvxCRV
cvxCRV Breakdown
- cvxCRV lets users earn Curve platform fees without having to lock their tokens for four years
- cvxCRV allowed Convex to acquire more veCRV, owning more than any other Protocol
- Convex controls where the majority of CRV awards are allocated
- CRV holders staking their coins on Convex Finance receive cvxCRV tokens as a deposit receipt
The CVX Economy
Convex has managed to lock around 200m CRV tokens for veCRV. Currently, 35.9m CVX tokens are locked for voting on Convex, which means every CVX token can direct about 5.57 veCRV token votes.
Protocols will pay CVX holders to vote for their Pools, based on the assumption that over time it will be cheaper to pay CVX holders than to acquire more CVX.
Currently, Convex is governed by a 2 out of 3 multisig. This governance model poses issues in the legitimacy of voter approvals.
What if there was a fairer version of Convex? One that didn’t have a multisig and conducted a fair launch project? The Balancer community believes this is possible on top of veBAL.
veTokens Gain Traction
The model of sacrificing short-term liquidity to gain access to various platform benefits such as fee shares, token rewards, and voting rights for DAO governance has influenced other projects to take the same approach.
ve (3,3)
Andre Cronje launched Solidly Exchange based on a ve(3,3) token model that balances ecosystem participants. In his whitepaper, Andre outlined changes differing ve(3,3) from a model like veCRV: the emission level changes dynamically weekly, the benefits for veToken holders, and the NFT application for the veToken locking process.
veBAL
In his forum post, Balancer Labs CEO Fernando Martinelli introduced his proposal for veBAL tokenomics. Curve’s vote-escrowed system will be used as a framework for Balancer Protocol tokenomics. Since its inception, the BAL token has successfully defined important parameters of the Balancer ecosystem. While successful, there is room for improving the tokenomics of BAL through staking and locking.
Staking of Balancer Pool Tokens (BPT) received community approval. The current proposal contains details of a concrete implementation of locking BPT.
BPT of the 80/20 BAL/ETH Pool will be locked into veBAL, Keeping BAL liquid while setting a precedent for other teams to do the same with their 80/20 Balancer Pools.
veBAL vs veCRV
veBAL differs from Curve’s model in a few areas:
- The maximum locking time for veBAL is one year (as opposed to four years with Curve)
- Users lock up 80/20 BAL/WETH BPT tokens instead of just BAL
- veBAL is geared towards DAO2DAO use cases versus retail investors
veBAL and Governance Power
All votes, onchain or on snapshot, will be done considering veBAL balances instead of BAL balances. This ensures long-term alignment as only users locking BPT will have a say in Balancer’s governance. The longer the asset is locked, the more voting strength their assets are delegated by the escrowing system. In Balancer’s case, this is unique in that it is the first to adopt a liquidity pool token as the mechanism for governance, the BAL/WETH 80/20 pool token.
The quantity of the token locked and the locking period will determine the voting strength a holder wields. The voting function is shown below:
After locking the 80/20 BAL/ETH BPT, the user is projected to have a non-zero balance of veBAL and will be able to help govern Balancer Protocol; additional veBAL benefits are as follows:
New Proposed BAL Inflation Schedule
Under veBAL, the inflation is projected to be halved every four years, with gradual steps every year starting one year after the launch of the new tokenomics system. The total supply of BAL has a planned cap of around 94,000,000.
Onchain Gauge Systems
Current liquidity mining is done through a tier system managed by the Liquidity Mining committee. With the exception of tier 1 slots voted by the community, liquidity is allocated by the Liquidity Mining committee.
Under veBAL, all liquidity mining BAL minted will be distributed through the gauge system. Gauges are contracts that allow LPs to stake their BPT and periodically claim BAL from liquidity mining.
The amount of BAL received by each LP could theoretically depend on:
- How much liquidity the Pool they LP into holds
- What share of the Pool’s liquidity they have
- The boost applied to their LP share based on how much veBAL they hold
Each Pool is expected to receive a share of the total BAL minted every week. That share is defined by how much veBAL voted for that Pool.
Gauge types
Different gauge types are used in the ve system; each type gets a fixed percentage of the BAL supply minted weekly.
Gauge type 1 allows the Liquidity Mining committee to grant LM to strategic partnerships for Balancer Protocol. Long-term, these partners should accrue veBAL to ensure they get LM through their own gauge.
Gauge type 2 allows BAL to be distributed to veBAL holders, similar to liquidity mining distributed today to LPs of the 80/20 BAL/ETH Pool.
Gauge types 3, 4, and 5 plan to be liquidity distributed to mainnet, Polygon, and Arbitrum according to the veBAL voting power each Pool gauge receives from veBAL holders.
Important things to note for current BAL holders:
- To lock veBAL, users need to first acquire BPT by adding liquidity to the BAL/WETH 80/20 Pool. They will then deposit the BPT into the locking contract.
- Locking up BAL for veBAL — veBAL is a non-transferable token and can add voting power on Balancer Pools. Those votes determine how much BAL is allocated to those Pools.
- Existing BPT holders in other Pools will need to stake their BPT to receive veBAL. Under the veBAL system, if they don’t stake, they won’t receive liquidity mining rewards.
Financial Implications
- Protocol revenue distribution
- Holding veBAL is incentivized through gauge type 2 discussed above
- veBAL will be used for a governance gauge voting mechanism to decide which Pools receive BAL liquidity mining incentives
Benefits of veBAL
Beyond increasing the overall predictability of Balancer Protocol and the BAL governance token, veBAL aims to:
- Increase long-term alignment with Balancer Protocol users
- Plug and play compatibility with Curve’s ecosystem: modeling Curve’s tokenomics will open access for teams like Yearn, Element, Convex, and so many others to become part of Balancer’s ecosystem
- Automate liquidity mining distributions, saving developer resources to focus on Protocol advancements
- Motivate DAOs to take a position in Balancer beyond just token-swaps
Proposed Deployment of veBAL Timeline
- March 28, 2022 — Launch of veBAL: Smart contracts necessary for the system to work as described in the new tokenomics proposal will be active.
- April 7, 2022 — Liquidity Mining using onchain ve contracts for Ethereum mainnet gauges begins.
BAL Battles
A marketplace is growing for leading Protocols to aggregate opportunities for users to earn yields by providing liquidity. And where Protocols can incentivize users to increase the liquidity of their tokens.
We saw the outcome of the Curve Wars; now, projects are preparing for the #BALbattles — a race amongst Protocols to provide the highest yield to their users on Balancer. Bribing battles will essentially allow projects to provide veBAL holders compensation or reward to vote in a direction they prefer.
The Bottom Line
The veModel is considered by many to be the holy grail of tokenomics. The benefits of the veBAL tokenomics will be felt by the BAL/WETH liquidity providers with long-term commitment.
This model holds incredible implications for the growth of DeFi. As liquidity providers gain incentives and become financially invested in a Protocol, their involvement in the platform increases, becoming invested in governance votes and the overall well-being of the Protocol.
Communications from Balancer Labs OU are intended solely for informational purposes, and should not be construed as investment or trading advice and are not meant to be a solicitation or recommendation to buy, sell, or hold any tokens mentioned. All figures are estimated and unaudited unless otherwise noted. As a technology company, Balancer Labs OU provides access to software.
