Staking Finance1 — Staking as reward in a PoS consensus
I first heard about Staking Finance from Randy. Later I noticed that Near also adopted Staking Finance, along with Staking Contracts. which, in many’s understanding, is a kind of smart contract on Ethereum. In fact, Staking Contracts on Stafi is a set of codes that interact with each original chain of Stafi chain. Staking Finance is in agreement with Stafi’s concepts. Afterall, Sta+Fi is the abbreviation for Staking+Finance. Recently, we joined Chorusone Research Group (Liquid Staking Working Group), which is funded by Cosmos Foundation to look into Staking Derivatives. Therefore, I would like to share with you about our views on Staking Finance.
This is a series of 3 articles on Staking Finance that encompasses, which will try to introduce Staking Finance from Staking as a service(reward), Staking as an operation and taking as a derivative respectively. Our thoughts on Staking are interwoven into 3 articles. Please feel free to discuss with us and share your insights through liam@Stafi.io.
Staking as a Reward
Decentralized Finance is another vocabulary coined by passionate people who love new words combining blockchain with finance. Other than this, there are also Open Finance and Stake Finance. The difference between Stake and Staking is that the former refers to shares that one holds, while the latter is more like a financial action that somebody takes. According to this definition, Stake Finance and Decentralized Finance are in the same category, while Staking Finance is similar to a type of finance service that requires actions (services) to activate.
It is rather difficult to define Staking. In PoS consensus, Staking has derived a variety of meanings. Staking as a reward, Staking as a service, Staking as a operation are 3 most common sayings. At the earliest times, Staking was a command in the PoS consensus. Executing the command is equivalent to telling other people in the network that you want to participate in the consensus. Command executors need to have their computer running the official client. Therefore, the security of the consensus was hugely reliant to the programs run by the participants. The consensus encourages more people to participate through token incentives and participants are rewarded for providing computing power and storage capabilities of the computer. Around 2014, this approach was particularly popular because the threshold was rather low. There were more than 3,000 nodes running, and early participants took most of the incentive. Since then, Staking and Reward have gone in tandem, and Staking as a Reward has since become a familiar word to many. It can be said that the consensus incentives (Reward) gives Stake the first layer of financial significance.
Probably because consensus participants need to keep their computer running 24/7, people tend to use the ing-form of Stake — Staking, but not Stake itself. But human kind is lazy in most of the times. Generally saying, the development of the number of nodes will slowly climb the slope when the consensus is online, and it will gradually decrease after a short period of time to reach an equilibrium, but this equilibrium state is not required for network security. Ideally, this has led many consensus creators to start thinking about how to solve people’s laziness problems. From the perspective of historical development, this problem is rather tricky.
The emergence of “agents” in the community is a great opportunity to solve that problem. These agents are willing to spend their time helping other participants in front of the computer. They have created a service similar to mining pool in the PoW world, Staking for other participants. Similar to mining delegation, holders need to send tokens to the owner of the mining pool in order to conduct mining. Mining pool service providers are highly similar to individual merchants. They put lots of efforts posting their own service details in the market (Bitcointalk), including address, service rate, reward return time, etc., to attract delegators.
Consensus creators were worrying that the service scale would be too big to be called decentralization. After all, the ownership of the token has been transferred. Therefore, they have instead created a kind of “delegated” Consensus (DPoS), hoping to reduce people’s time facing their computers through delegation. This solution was quite exciting in the earliest stage. It can be said that DPoS justified the service providers of mining pools, allowing them to provide services “legally”. It was the time when mining pool service providers sprung up. This service was then called Staking as a Service. In the consensus that supports entrustment, holders who are not familiar to detailed technology can entrust the tokens in their hands to the service providers to generate coins. On the other hand, the service providers collect commissions from the proceeds to cover the expenses of the agency operation. Since 2016, the service frame of Staking Service has remained intact instead of some tweaks. So, it can be said that Delegate has given Staking the second layer of financial significance.
Staking as a reward and Staking as a service are in most times in mutual company in the earliest passing days. With the shared consensus of the creators of PoS, most of the latecomers support Delegate Staking, and as a result, the awareness of financial services has been deepened in the PoS consensus. Most token holders choose to use delegation services to obtain incentives. The service indicators of some service providers have become the outpost of consensus selection of validators. The holders choose according to the indicators provided by the service providers and incentives are given to large service providers serving a lot of delegators. Among many factors, the amount of Reward, but not Service, is still the most important determinant. The indicator of how much reward includes the amount of service charges, system stability and penalty (Slash), of which the latter two are technical factors. However, most delegators care more about the service charges. Generally, service providers who charge less will get more favor from delegators.
The superposition of the two layers of financial significance has tilted the market towards incentives, which has led to a vicious cycle of the service market. The vicious competition of lower and lower service charges has urged many service providers to start selling “spin-offs”. Teams with more resources have shifted to selling services to independent service providers. In order to obtain more delegators, small service providers have opened up new paths through professionalism. Many others couldn’t find their positions in the market and gradually lost their place. Later, as the exchange joined the market, it directly sentenced the death of small service providers. Coinbase started providing Staking delegation services in 2019, charging more than 50% of management fees, and Binance provided Staking delegation services free of charge, which can be seen as a destructive blow to market as well as the level of decentralization of the project.
However, the level of decentralization is at the very core of each PoS project. During the entire architect process of Staking Finance, developers have made a lot of changes to counter the centralization problem of node ecology. Reward and Service are still the focus of the optimization. Fortunately, the market has given enough feedback, and most of the newly designed projects embrace Staking Finance that is led by service providers. After 2016, most new incentives are directly given to service providers (on the official website of the project, most of the documents are for Validators, although there are a small number of documents written for token holders (Stakers), but the service providers are still considered to be the best bridge between project party and Stakers). By incentivizing the service providers, the project party don’t have to bother to communicate with the users directly, saving time and energy for the innovation of consensus.
The system of Reward and Service can be attributed to the incentive level, which is what we often call the Token Economy. Because the main brains behind the development of the blockchain are those of the geeks, the evolution at the incentive level is of exploration, caution, and extreme restraints. Follow the Satoshi has become the most important way. After the value of Bitcoin was widely recognized, most of the latecomers “plagiarized” the economy design of Bitcoin. However, due to the difference between the PoS consensus and the PoW one, the economy design of the new consensus is very different from that of Bitcoin. We try to generalize the evolution of Staking Finance in PoS as follows:
PoW with BTC as the origin
The total amount of BTC is fixed, which is characterized by deflation. The output is through computing-power mining and the reward is halved every four years.
PoS with PPC as the origin
There is no cap for PPC. An additional 1% of tokens will be issued annually through Staking mining. The transaction fee will be burnt to resist inflation, so as to achieve BTC’s deflation economic structure: Follow BTC (Follow the Satoshi);
BLK has no upper limit, with an annual increase of 1% through Staking mining. There is no anti-inflation method. The economy is a slightly inflation one: Follow PPC (Follow the SunnyKing);
Nxt has no inflation, and the output through is Staking mining. The reward is in form of commission (stipulated at least 1nxt / tx in the earliest stage): Follow BTC (Follow the Satoshi);
BTS has no inflation. There is a reserve pool, which is supplemented by transaction fees. Only successful validators can get rewards: Follow BTC (Follow the Satoshi)
NEU has an annual inflation rate of 6% ~ 100%, and there is no anti-inflation method. It is a modification based on PPC.
XTZ’s inflation rate is 5.5% and there is no anti-inflation method. It is a modification of all PoS projects before 2016.
ATOM’s inflation rate fluctuates from 7% to 20%, which is also a modification of all PoS projects before 2016
In the early projects that “Follow” the Satoshi, most of them designed to zero inflation or close to zero inflation. However, because the initial tokens have been all distributed, an inflation model will inevitably exist after the PoS project is launched, otherwise the operation of the network cannot be guaranteed. Since the inflation cannot be avoided, the consensus developers have adopted various anti-inflation methods, either by further issuing the minimum amount possible or by burning transaction fees, etc. Of them BLK and NXT are typical examples.
However, most of the “Follow the Satoshi” projects have failed to replicate the success of BTC. They designed the inflation rate to nearly 0%, which pandered to people’s resentment of relentless inflation,but PoS consensus security has been widely criticized for this kind of low incentives. Some geeks have modified it to simply increase the inflation rate, for example, the annual inflation rate of Neu is 6% to 100% in the first year, but Neu suddenly disappeared in less than a month, proving that high-incentive token economy policy is wrong.
It is still difficult to determine how much the ideal inflation rate is, for economic conditions are extremely complicated. Another important factor behind inflation rate is the distribution of wealth. How to allocate it is not only a problem in cryptocurrencies, but also in traditional financial world. Many scholars have studied the consensus mechanism of cryptocurrencies, but there is not any one-stop solution, and the development course of Staking Finance is full of twists and turns.
From 2014 to 2015, the development of Staking Finance was facing a watershed. The market price slumped, giving PoS developers abundant time to think in a more “comfortable” environment in a bear market. During this time, developers created a string of PoS projects, and the security demonstration of PoS was completed around 2016. Most of the Staking Finance under development now is actually a product created in 2016 ~ 2017. Most projects based on this have also perfectly missed the warming of the market in 2017 ~ 2018. However, it is always worthwhile to wait long for a good meal, the value of good projects still came above water in time.
From Reward to Service, the financial ecology of Staking Finance (Staking Finance) has been developing ceaselessly. The development centered on consensus, exemplified a game between decentralization and incentives. From 2013 to 2016, not a few outstanding projects have sprung up, both in terms of market value and consensus. However, when it comes to today, in 2020, most projects are no longer active, the contributions they leave are still silently affecting most developers. Therefore, it can be said that judging from many projects, Staking Finance is still developing. Starting from 2019, Staking Finance is transforming into Operation Finance in various types, and the services derived from this kind of finance can be called Staking as an Operation. Projects use “Staking-Slash” reward & punishment mechanism to subdivide different business scenarios and give service providers some special responsibilities, such as decompression, encryption, or governance, etc. These responsibilities have far exceeded the block-producing, its original task.
In the next article, I will further explan Staking as an Operation.
About Stafi Protocol
Stafi Protocol is the first decentralized protocol that provides the liquidity for Staking assets.