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Why pay $500 for a $60 game?

“Why should I buy a P2E NFT for $500 when I can get a great game at GameStop for $60?”

Crypto-natives who scoff at this question and wave it off as “misunderstanding the revolutionary aspects of the blockchain” do so at their own peril.

It is a good and important question! We should take it seriously.

Reaching widespread adoption requires engaging with questions like this one and answering it for skeptical audiences. What’s more, being able to convincingly answer this question about a given project reflects the type of deep knowledge required to make a smart buying decision.

All models are wrong, some models are useful

Before we get any farther I just would like to flag that the P2E space is a complicated and dynamic ecosystem. What I’m about to describe for you is a simple model for thinking about play-to-earn NFT projects. It should not be taken as iron-clad law, or even as a theory of valuation. Instead, it should help you pick up on some trends and think critically about different projects. Don’t try to actively apply this model to projects, instead use it as a conceptual framework from which you can build your own theories and understanding. Every project is unique and most will have dynamics that do not perfectly align with this model.

So, why are P2E NFTs so expensive?

To be succinct, it is because they put you in a strong position at an early stage of an emerging online game economy. Your bet is that this economy will grow in the future and therefore your position in it will be more valuable than it is today. Different games provide different mechanisms and avenues for monetizing that position, and some of these are better and some are worse. Being mindful of these avenues and the real value proposition of the game — having fun — is essential in evaluating different projects. The difference between the enjoyment you get out of the game and the price you pay for the NFT is, effectively, a price tag of future monetization. This is what I will call the P2E premium.

To put it another way: the P2E premium grants you some future monetization avenue of other people’s fun with the game.

Several pieces of that statement are important, however what is most important is that the P2E premium is ultimately backed by other people’s fun. If other people are not having fun, then the premium is worthless and the game should be $60. Similarly, if the future monetization avenues are poorly constructed, then the premium is worthless and the game should be $60.

But what you see in the market is the market’s estimate of the P2E premium at any given time, and it usually is not perfectly reflective of the future monetization on the real value proposition of the game. Often, instead a collection’s P2E premium can get blown way out of proportion due to hype and other social factors. It is important to be wary of this, as hype can be a good sign (e.g. suggests broad appeal and/or diehard fans) but it also is not directly backed by avenues for monetization on fun, and therefore can lead to crashes if the hype dies down. For this reason it is important that the hype is built around the core value proposition — fun — and a dedicated core community instead of around fleeting aspects such as possible monetization or growth of the community.

Let’s break this down a little further by looking into the real value proposition — fun — and how it manifests itself.

Gains from trade

In (probably) every Introductory Economics textbook ever written there is a story about John and Jane who each live on their own island. They’re the only two people in the area. John’s island only has coconuts; Jane’s has fish offshore. John has 100 coconuts and eats coconuts every day, Jane has 100 fish and eats fish every day. They’re sick of it, they want something new. John would give 5 coconuts for 1 fish, Jane would give 5 fish for 1 coconut.

John asks Jane to give him 1 fish for 1 coconut. Jane agrees, they make the deal and they both are better off and feel good about the deal.

imaged taken with apologies from this random twitter account

The important thing though is that John now has 99 coconuts and 1 fish, but he feels like he has 104 coconuts (since, to John, 1 fish is as good as 5 coconuts). Same with Jane and the fish. Jane feels like she has 104 fish. They’re both happier than before.

In this way, by trading with each other they have created value where there was none. This is how all economic value is created, from food to houses to luxury brands.

This is what games do all the time — they provide a service (fun) and sell it to players.* Fun is the coconuts, and players’ time and money is the fish. By giving the players something they want, the game creates value where there previously was none.

Importantly, a game cannot create value only by providing an opportunity to make money. If a game’s only promise is that you will earn money playing it, this is the same as selling fish for fish and effectively relies upon ponzinomics (“Player” A pays 1 fish to get 2 fish from “Player” B, “Player” B pays 2 fish to get 4 fish from “Player” C, etc.). If there is no fun (coconuts) underpinning the deal then at some point the number of fish just gets to be too much and everything breaks. (Hint: that’s bad!)

So the takeaway here is that at the end of the day fun (a supply of coconuts) is needed to make the deal work. If there is fun involved a lot of economic value can possibly be created; if there isn’t any fun, then there is no new flows into the economy and it collapses in on itself. A game economy needs a constant inflow of take-my-money-I-just-want-to-have-fun players in order to have enough “coconuts” for the economy to maintain itself.

Valuing fun

It is tough to try to put a value on ‘fun’ because everyone has different tastes and different levels of wealth. However we can imagine that there is a function that can map the population to their willingness-to-pay for that fun. Let’s take skydiving for example. Skydiving basically confers no other benefits other than being a good time, so it works as an example here.

Lots of people LOVE to skydive, lots of people would do it to try it, lots of people don’t want to do it at all. Basically we can graph that out like this:

We can imagine every ‘fun’ game similarly has this type of underlying graph. Some people will pay and play a lot because they love it, some will pay a little, a lot will pay nothing. What gets interesting, though, is when we look at the total $ amount for each bucket.

Even though in this example I only had 100 people in the $50,000 bucket, their $5,000,000 in aggregated willingness-to-pay was a huge part of the overall “market opportunity” for skydiving (23.8%!). On the other half, those willing to pay less than $500 made up nearly 50% of the market opportunity. Ignoring either of these demographics would be bad! Both the whales and the minnows are important slices of this ‘fun’ market.

To tie these pieces together in the gaming context, (1) there must be fun underpinning any game for a gaming economy to make sense and (2) there are lots of different types of players willing to spend money for fun and so it is important to take into consideration both those that are willing to spend a lot of money and those that want to spend very little. The tricky part here, then, is that you need to have some way to let players who want to spend more spend more without making it less fun for other players (e.g. no pay-to-win).

Inflows and outflows of capital

With those pieces in place, we’re now going to be able to move from the gaming world to the play-to-earn world by introducing a new concept: cash inflows and outflows as economic stake (that is, unrelated to fun). With every play-to-earn game you can spend money to get some type of stake in the game and earn as a result of that stake. This is equivalent to bringing items to the island economy and taking them away.

This introduces a new threat to the island; if someone can take all the fish away the economy breaks. This doesn’t have to happen all at once — slowly many people can take small amounts of fish away until there are no fish left. These ‘farmers’ are extractive players, they’re there just to take the fish (money) and leave. It is best to minimize them as they put strain on the island’s economy.

This leads to a critical design decision for P2E games — how do you make it possible for folks to take fish on/off the island while minimizing the people who only try to take fish off the island? That is, how do you allow real money to flow in and out of the game’s economy without allowing folks to extract all the money and leave?

You can take a few strategies here, but none of them are perfect:

  • make the game so fun that farmers convert to players (unreliable and hard to do),
  • give bigger rewards for inflows of value to encourage reinvestment (unsustainable, ponzi-ish),
  • make it artificially difficult to extract value through things like lock-ups (annoying and bad user experience),
  • or reward fish mostly/only to those who prove themselves to care about the island (the best option, but really hard to implement!).

How a game decides to tackle this problem is probably its most important design decision, as it will ultimately determine the long-run fate of the game’s economy.

To take this a little further, here is a great chart describing the different types of players in a play-to-earn ecosystem (Source: this tweet). The chart describes what we’ve covered here — you want to avoid net-outflows and reward net-inflows. However, only focusing on one type of ‘spender’ (e.g. only whales) misses a big chunk of the population.

Bubbles can inflate faster than fun can travel

A critical final piece to all of this is that the game’s economics need to be built for the long-run. In order to have an economy built upon fun, what is needed is time for that fun to take place. If an in-game economy is ‘running too hot’ (e.g. too much money is flowing in and not enough fun is taking place) then it can be set up for a crash if the proper mechanisms are not in place to prevent the sort of extraction described in the previous section. The better route is to build for the long-run so that casual players slowly can add funds (and receive fun). Some new players will come, some old players will leave, but all the while if players are exchanging money for fun then the economic pie will continue to grow naturally because value is being created.

To emphasize the point here, the crazy thing about all of this is that fun happens in a moment. If I pay $1 for fun tonight, then tomorrow my $1 will still be in the game’s economy while my fun will be ‘spent.’ Similarly, I probably won’t spend $1000 on fun tonight, but I might spend $1 on fun every night for a few years, or I might spend $10 here and $10 there every few weeks. Because fun is temporary, a game’s longevity is critical.

So the important thing is that if the product is fundamentally fun and has some friction preventing excessive farming. That way the game can accumulate a larger economy as casual players exchange money for fun. You can’t take too long with the accumulation, however, as you’ll need to allow some outflows for it to be a P2E game and to attract those types of gamers. So the pace of inflows and outflows matters.

So long as these net inflows outpace the net outflows the economy will grow and the game will succeed. If the game’s economy grows too slowly, or shrinks too quickly, or stagnates for too long, then the system fails to work.

When it does work, though, that economic stake bought by the P2E premium can be leveraged for a huge return, as games are highly scalable (low costs per new user) and well-designed ones have many avenues of monetizing fun.

Concluding thoughts

So: why pay $500 for a $60 game? Because when it is done right the P2E premium is reflective of a stake in a growing economy that exchanges fun for money.

That economy will grow and shrink based on several aspects of its management but most fundamentally requires broad appeal, a fun game, an avoidance of pay-to-win aspects, protection from extractive farmers, the ability to bring value to both low- and high-willingness-to-pay players, and meticulously designed economic levers to ensure that it can exist for the long-run.

Nothing in this article constitutes professional and/or financial advice, nor does any information given by the author and publisher constitute a comprehensive or complete statement of the matters discussed or the law relating thereto. Neither the author nor the publisher are fiduciaries by virtue of any person’s use of or access to this article or content. You alone assume the sole responsibility of evaluating the merits and risks associated with the use of any information or other content before making any decisions based on such information. By engaging with this article, you agree not to hold the author, his affiliates or any third party service provider liable for any possible claim for damages arising from any decision you make based on information or other content made available to you through this article.

*Sometimes they sell in-game aesthetics that players buy because players value looking cool to their friends. Sometimes they sell premium passes to give benefits to people who play a lot. Sometimes they (indirectly) sell advertisements through twitch streams and youtube channels made by players. The game doesn’t make money from this interaction directly, but they facilitate it because fun things bring eyeballs, and eyeballs bring ad revenue.

So at the end of the day this all comes back to ‘fun’ because all the other social network stuff only follows if the game is fun to begin with.

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We will be educating and providing information on the current status of the market.

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