How Hydra Solves the Supply Problem

The coin supply of a blockchain is one of its most fundamental economic properties. But even more interesting than the actual supply is the rate at which it changes. Is the rate of change fast or slow? And what are the factors impacting it?

Although Bitcoin is known for its limited supply property, truth is that it started out from an hyper-inflation state (1,000%+) and still continues to mint new coins with each block.

Why is it so important? To put it simple: miners must be paid for their work, for which there are only two sustainable sources.

Transactional Economy

It is also possible that many transactions are made — but that the maximum capacity of the blockchain has already been reached. When this happens, there is no way for a stagnating transactional economy to compensate for a price increase of the underlying coin. If the network value rises over time (through the coin price increasing), but the income for miners doesn’t grow at the same rate, it makes the blockchain increasingly attractive for an attacker. Just imagine the potential reward for attackers continuously growing while the difficulty of attack remains constant.

Inflation

However, the guaranteed protection comes at the cost of a growing supply.

Fixing the Supply Problem

Hydra as a chain is neither inflationary, nor deflationary. Although it can turn into a state of both, the direction and magnitude of the supply change can be voted on by coin holders. This gives the chain a very agile character and allows it to dynamically adapt to various external and internal developments. Let’s examine them below.

→ Staking Calculator

High Inflation State

The maximum inflation rate of the chain is 25%. Once it reaches this setting, it is no longer possible to vote it upwards.

Example #1 — Inflation Only

The calculation results in the following outcome:

It is no surprise that the inflation comes out at the 20% rate it was set at. However, because not all coins are staking, the ROI for stakers ends up significantly higher than the inflation rate. At the same time, since there is no transactional activity, 100% of staking rewards are coming from inflation-based block rewards.

Hint: Changes between examples are marked this way.

Example #2 — Adding 1 Transaction per Second

The calculation results in the following outcome:

The inflation rate remained constant, however we now see the effects of the transactional economy. The ROI for stakers has skyrocketed to above 90%, as transaction fees now make up 42.7% of the staking rewards.

Low Inflation State

Why not take advantage of this by reducing the inflation rate? There are two ways how we can do this. The most straightforward is to simply vote down the inflation rate.

Example #3 — Halving Inflation to 10%

Leaving all other factors the same as before, we arrive at the following outcome:

We now have a much more modest inflation rate of only 10%, while still maintaining a very attractive ROI for stakers. The weight of transaction-based rewards has now grown to 60%, which means that more than half of the staking income now depends on sustainable transactional economy.

However, reducing the inflation rate is not the only way to slow down supply growth. Burning coins can be an effective path too.

Example #4 — Introducing Coin Burns

The calculation results in the following outcome:

The outcome turns out to be very comparable to the one of example #3. Both inflation and ROI perform very close and we are able to slow down the inflation by counterbalancing it with coin burns. The biggest difference shows in the weight of transaction fees among the staking rewards. It is only 24%, which is much lower than the 60% of example #3.

This of course is expected, as the transaction fees were heavily used for burning coins before they can arrive at the wallets of the stakers. The advantage of increasing the burn rate as opposed to decreasing inflation is that by keeping inflation-based block rewards as the main pillar of income, it remains highly predictable for stakers. Transaction-based fees on the other hand can turn out to be very volatile and show strong variations from one day to another.

Fixed Supply State

Let’s run the calculator again. This time we will take both of the actions described above, but simultaneously.

Example #5 — Halving Inflation + Enabling Burn

The calculation results in the following outcome:

Although the outcome is not perfectly 0, an inflation rate of 1.48% is close enough for the purpose of demonstration. In this scenario, coins are burnt at the same rate as they are minted, thus cancelling each other out. However, stakers still enjoy an impressive 42.5% ROI for securing the network.

Low Deflation State

Example #6 — Disabling Inflation

The calculation results in the following outcome:

Negative inflation means that the total supply shrinks by 10% per year, which is a very significant rate of reduction. Despite the high deflation, stakers are still able to enjoy a 20% ROI.

However, there is one key limitation to this: HYDRA market price.

Example #7 — Simulating High HYDRA Prices

The calculation results in the following outcome:

As is clearly visible, both the deflation rate as well as the ROI for stakers has come down significantly. In such a scenario, it may be a good idea to vote up the inflation rate to e.g. 5% to improve the security factor of the network.

High Deflation State

Example #8 — Simulating low HYDRA Prices

The calculation results in the following outcome:

The results show that a $1 price for HYDRA at 3 transactions per second would be a massively oversold condition. More than 25% of the total supply would be burnt within a single year and stakers would enjoy 50% returns in addition to the supply reduction.

This acts as a natural protection against price dumps and ensures that the network has a real and strong fundamental value, based on its transactional economy.

Summary

To get a better understanding of the different factors, we invite you to play around with the numbers for yourself through the staking calculator:

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Hydra is a truly decentralized POS (proof of stake) blockchain and emerged out of the combination of Bitcoin, Ethereum and Qtum. It unifies the best features of all three chains and carries a unique economic layer on top. This makes Hydra not only cutting-edge technology, but also enables a very strong shared economy of which all parties can benefit fairly.

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LockTrip

This blog interface is managed by LockTrip and aims to keep its community well informed. All articles are imported from the official blog displayed below.