Realignment of Inflation Incentives

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Basis Cash

9 min readFeb 19, 2021

The ongoing migration to BASv2 has given us an opportunity to overhaul the Basis Cash monetary policy. By dynamically targeting emissions to quickly respond to changes in market conditions we hope to steer the protocol to maintaining the peg.

The current emissions schedule is too simplistic, and while it has resulted in a fair launch and decentralized ownership of the protocol, a more nuanced approach is required for V2. The current 75/25 split of BAS emissions is proposed to be reallocated as below:

When BAC is below peg:

60% dynamically allocated between BAC/DAI and the BAC Vault
15% to BAS Boardroom stakers
10% to BAS/DAI
5% to a BAB staking pool
5% to Strategic Pairs
5% to the CDF/Vision Fund to build a strategic BAS reserve that may be used for various future purposes (buyback and burn/incentives for new partnerships etc)

When BAC is above peg:

60% dynamically allocated between BAC/DAI and the BAC Vault
15% to the CDF/Vision Fund to build a strategic BAS reserve that may be used for various future purposes (buyback and burn/incentives for new partnerships etc)
10% to BAS/DAI
10% to Strategic Pairs
5% to BAS Boardroom stakers

A revised BASv2 emission schedule that includes inflation is also proposed to optimize the protocol for long-term growth.

Takeaways from the last 11 weeks:

1. BAC supply expanded too quickly before organic demand emerged

2. There is currently no incentive to hold BAS during a contraction phase

3. BAB demand has plateaued, indicating a lack of confidence from new buyers willing to underwrite the risk of BAC returning to its peg

4. BAC/DAI incentives are too high when below peg. Yield farmers are content to farm and sell BAS at any price, since the realized APY remains high irrespective of BAC trading below its peg.

5. Uniswap is not the ideal MM for pegged assets. StableSwap is a better solution.

6. BAS Emissions are too front-loaded, flooding the market with BAS before the ecosystem develops. The current emissions schedule emits 93% of supply in the first year and drops off a cliff thereafter. An alternative schedule that includes tail end emissions (inflation) is proposed below.

BAS Incentives

Basis Cash launched with a lot of hype just at the peak of the STABLE Act controversy and was named DeFi Pulse’s ‘Farm of the Week’ in December, just before we began our series of expansions that took the BAC circulating supply from 20M on December 15 to 89.5M on January 5 (4.5x in 15 days). This was clearly unsustainable and we have been stuck in a hangover from those heady days ever since.

While we have made a lot of progress in fostering partnerships where BAC can be used (DERI,MARS,SCRT,SAN) and are currently working on more, integrations take time to develop and each excess Basis Share minted now is one that is unavailable for future use when the ecosystem expands and incentives are spread thin.

The current system fails to incentivize investors to hold BAS through a contractionary phase since they have to wait for BAC to expand again AND all bonds to be redeemed before they can expect any rewards. This is hurting the protocol since BAS is the engine that drives farming APYs and consequently BAC demand.

V2 aims to address these problems and stimulate BAS demand through the following measures:

Consistent staking rewards (15% of emissions when below peg, 5% when above)
20% of BAC minted from expansion will be paid to BAS stakers (BIP-9)
Revised emissions schedule that will reduce immediate supply while ensuring that incentives are available when we need them (more below)

Stimulating BAB Demand

We have been holding steady at around 46M BAB outstanding for the last few weeks. New buyers have not shown interest despite the 5x potential profit, indicating a lack of confidence that BAC will return to peg in order for BAB holders to redeem their bonds.

V2’s primary goal is a swift return to peg, and so BAB will be further incentivized by allocating 5% of BAS emissions to a BAB staking pool. In addition, the BAB/BAC pair may be incentivized under Strategic Pairs, but with a current APY of 270%, it seems superfluous at this time. Direct stimulus to the BAB staking pool may be more effective.

BAS/DAI Incentives

On the surface, it may seem like a drastic measure to cut BAS/DAI emissions from 25% to 10%. The rationale is that a lot of BAS liquidity was needed in the initial bootstrapping phase, but this is no longer the case. We currently emit around 5K BAS daily ($450K) while the BAS/DAI pool has consistently maintained a TVL of $6–8M, which indicates that the protocol is paying far too much for excess liquidity. An increase in slippage is a small price to pay if the emissions can be better utilized elsewhere to facilitate a quicker return to peg. We are continuing to work towards more CEX listings that will also reduce the need for us to overly incentivize BAS liquidity.

StableSwap Migration

As detailed in this Medium post, we believe that a StableSwap pool is a superior venue for BAC liquidity since it is optimized for low slippage and ideal for pegged assets.

After further analysis, we believe that with BAC currently trading far below the peg, migrating liquidity now would actually make it more difficult to return to peg since we would currently benefit from Uniswap’s high slippage when large buys come in.

Therefore, we propose to make the StableSwap migration the last phase of V2, after implementing the revised incentives which should drive BAC closer to peg.

Finally, crv.finance is brand new and untested in real world conditions. We would prefer to migrate BAC once we are sure that the system is robust.

BIP-11 (Realigning Inflation Incentives and Introducing Protocol Reserve)

Authors: Ashwin Ramachandran, Freddie Farmer, yyctrader, and DeFiMorty

As fans of the original Basis Protocol and long-time investors in the DeFi ecosystem (Ashwin an Investor @ Dragonfly Capital and Freddie prev DeFi @ Wintermute Trading) we’ve supported and participated actively in the protocol’s development since launch. Having seen the strength and resilience of the community we’d like to do our part in helping restore the protocol’s long term stability.

Problem

All issues with the current Basis Cash system stem from the protocol’s inability to dynamically adapt itself to a new equilibria. This has led to a few problems:

The protocol over-incentivizes liquidity pools during contractions, increasing the amount of capital required to restore the peg
The protocol is unable to dynamically use its power over BAS emissions to execute rebalances, whether directly or indirectly via incentive. (ex. Redirect minted BAS to purchase BAC directly)

In response to these concerns, the Basis Cash team laid out a plan to help restore the peg and bring the system back to a preferred equilibrium.

BAS will be migrated to BASv2. This will allow rewards to be dynamically adjusted.
Incentivized BAC pools will be migrated to Curve

However, we believe these changes introduce a few structural problems:

BAC has yet to prove itself stable, migrating liquidity to a curve metapool exposes LPs to excessive risk, even if BAS is dynamically redirected to other stablecoin LPs when BAC trades below the peg.
It relies on a trusted oracle system and fiat collateralized stablecoins, reducing decentralization and resulting differentiation from other ‘decentralized stablecoins’ (This can be mitigated if Andre’s Curve PR is approved)
The system is still not aware of its current state (eg. when BAC is below, at, or above the peg)

Solution

In response, we propose the following changes/additions:

Continue using Uniswap as the primary AMM venue for stablecoin trading as stability must be proven via the market and not forced to a curve already representative of historically stable assets.
Migrate the share token from v1 to v2 as intended, allowing the protocol to have fine-grained, dynamic control over share token distribution. The current 75/25 split of BAS emissions is proposed to be reallocated as below:

When BAC is below peg:

60% dynamically allocated between BAC/DAI and the BAC Vault
15% to BAS Boardroom stakers
10% to BAS/DAI
5% to a BAB staking pool
5% to Strategic Pairs
5% to the CDF/Vision Fund to build a strategic BAS reserve that may be used for various future purposes (buyback and burn/incentives for new partnerships etc)

When BAC is above peg:

60% dynamically allocated between BAC/DAI and the BAC Vault
15% to the CDF/Vision Fund to build a strategic BAS reserve that may be used for various future purposes (buyback and burn/incentives for new partnerships etc)
10% to BAS/DAI
10% to Strategic Pairs
5% to BAS Boardroom stakers

We additionally propose that 5% of all future BAC seigniorage be diverted to the protocol controlled reserve, allowing the protocol to sell BAC for DAI when BAC trades above the peg, and use DAI/BAS to buy back BAC when BAC trades below the peg. Note: This would only take effect once outstanding bonds are redeemed, thus not diluting current BAB holders.

When BAC trades below the peg, the 60% supply of BAS will be dynamically allocated between the BAC/DAI pool and BAC vault according to the following formula. (The y-axis represents the percentage of BAC-focused BAS emissions to be directed to the BAC/DAI pool. All excess emissions should be directed to the BAC vanilla vault)

See below formula

We also propose a change to the protocol treasury. The protocol reserve should implement a buyback module to allow the protocol to dynamically perform BAC reweights. This should work as follows.

When BAC is below the peg.

The protocol should use its treasury controlled BASv2 + DAI to market buy BAC until the peg is restored

When BAC is above the peg.

The protocol sells its seigniorage earned BAC for DAI.

Nam gloria in stabilissimam.

BIP-11 is currently under discussion. Join our Discord to participate: https://discord.gg/gUrpYwWe

Revised BAS Emissions Schedule

As mentioned above, the current emissions schedule mints close to 930K BAS in year 1, and issuance drops to nearly zero overnight as BAS/DAI emissions are cut off. Further, we get stuck at 930K and will never approach the 1M cap since BAC/DAI emissions reduce by 25% every 30 days. This leads to 2 problems:

Protocol runs out of incentives just when the ecosystem is picking up steam (we will be at approximately 500K BAS minted when the migration ends)
The 1M hard cap, while great for marketing and early backers, is not the optimal long-term structure for a growing protocol. We will eventually run into a similar situation as Yearn, and be forced to mint more BAS anyway.

Tail emissions, or a steady rate of long-term inflation, ensures that scarcity is maintained while also providing adequate incentives for future needs. The DeFi community is slowly reaching consensus on this issue, as can be seen from the ongoing success of the Synthetix and Curve tokenomics. BAS holders must provide value to the protocol in exchange for rewards, rather than just being a pool of dead money that is capital inefficient.

It is proposed to transition from the current emissions schedule to the following:

At the end of Week 12, the protocol will be minting 29,409 BASv2 per week
Starting in Week 13, weekly reductions of 7% will take place

Tail End Emissions (Inflation)

5% in Year 2
4% in Year 3
3% in Year 4
2% in Year 5 and thereafter in perpetuity

Both schedules are illustrated below for comparison. Under the new schedule, we will approach 1M BAS minted at the end of 6 years (week 313).

Advantages

The protocol will never run out of incentives.
BAS/DAI continues to be incentivized after 12 months
Revised schedule pushes out current emissions into the future, ensuring that they are available when the ecosystem gains traction
The scarcity factor is maintained, as we will reach 930K BAS minted in Week 180 compared to Week 52 currently. With the proposed inflation schedule, we will approach 1M BAS after 6 years.

For more background, please review how the Synthetix tokenomics evolved:

Reaching consensus on the new SNX monetary policy (synthetix.io)

Weekly Issuance Compared (log scale for easy viewing)