Overview
Much has been made about the so-called DeFi 2.0. Some vilify the term, others pay great reverence to it. Whether you love or hate it, there is no denying that something new is afoot within DeFi. A small but growing number of protocols are doing something fundamentally different, by focusing on the intersection between DAOs, the so-called DAO 2 DAO (D2D) space. A general theme across these new protocols is that they are often built on top of other previously built DeFi protocols, or “primitives”.
Tokemak is one key protocol in this new movement, and the goal of this article is to begin the discussion on how Tokemak fundamentally changes how liquidity is secured and controlled by DAOs. This change will be so significant that a new rating system is required for tracking DAOs through their liquidity evolution.
Here we will introduce the 6 Stages through which DAOs can progress as they increase control over their liquidity. We will then use an example to show how Tokemak can drastically reduce the cost of liquidity to DAOs (decrease cost by at least 10x).
Tokemak was so named because it is a reactor to power DeFi, both increasing liquidity and making liquidity cheaper for DAOs. As value-flow in web3 is replacing data-flow in web2, liquidity plays the role of bandwidth in this ecosystem. Greater liquidity bandwidth provided by Tokemak benefits everyone, as liquidity leads to tighter spreads, better pricing, and price transparency.
Building on the shoulders of a (3,3) giant
Before we introduce the 6 Stages of DAO Liquidity, let’s start with a quick reminder of the learnings that came from the game theory OG’s: Olympus DAO. Olympus builds a game around the actions of Users: User 1 and User 2.
The Olympus model has two players with three possible actions:
Stake (Buy), Bond, and Sell.
Staking has the effect of pushing the price up +2
Bonding has no price effect but provides discount of 1
Selling has the effect of pushing the price down -2
If both actions are beneficial, the actor who moves price also gets half of the benefit (+1). If both actions are contradictory, the bad actor who moves price gets half of the benefit (+1), while the good actor who moves price gets half of the downside (-1). If both actions are detrimental, which implies both actors are selling, they both get half of the downside (-1). (taken from https://docs.olympusdao.finance/main/basics/basics)
The outcomes can be shown in the following payoff matrix:
The conclusion? (3,3). The best outcome is realized when all users stake.
The Tokemak game of (9,9)
Both users and protocols need to access a token’s liquidity when interacting with another protocol. Because of this, it is important to consider interactions in the game of liquidity.
The participants in the Tokemak game theory are two DAOs: DAO 1 and DAO 2, rather than two users. These two DAOs need to be able to access the other’s liquidity, and so each DAO benefits from deeper liquidity bandwidth for the other’s token.
We will define the 6 Stages of Liquidity as follows, and rank both DAO participants accordingly. Stage 1 offers the least control over liquidity, and Stage 6 offers the most.
Stage 1: A DAO is in Stage 1 if it has incentivized liquidity, generally via emissions to an ABC/ETH or ABC/USDC Sushi/Uni LP pool (Pool 2)
Stage 2: A DAO is in Stage 2 once it has established a Tokemak reactor, enabling tAsset generalized liquidity (as a reminder, depositing assets into a Token Reactor gives the user a tAsset; users deposit ABC and receive tABC)
Stage 3: A DAO is in Stage 3 once it sets up a tAsset staking pool for community provided liquidity (Pool t1)
Stage 4: A DAO is in Stage 4 if it uses Olympus Pro bonds as a service to purchase its liquidity as tAssets (Olympus Pro + Tokemak)
Stage 5: A DAO is in Stage 5 if it provides the assets in its treasury as an LP into Tokemak (and instead holds the tAssets in its treasury)
Stage 6: A DAO is in Stage 6 once it modifies its vesting contract to interact with Tokemak and provides the escrowed assets as liquidity into Tokemak, instead holding tAssets in their vesting contracts
(Note that technically there is also a Stage 0 DAO, which is one that has not incentivized their liquidity in any way. This Stage rarely occurs, as such a DAO tends not to have any liquidity and does not last long.)
Each DAO receives points equivalent to the stage they are in (1–6), and additionally receive points from being paired up with another DAO in one of these Stages. DAO 1 receives the following additional points when DAO 2 is in one of the following stages:
Stage 1: +0
Stage 2: +1
Stage 3: +1
Stage 4: +2
Stage 5: +2
Stage 6: +3
The possible outcomes can be shown in the following 6x6 grid.
The best outcome is for every DAO to evolve to Stage 6, achieving the outcome (9,9). This is also the goal of Tokemak, advancing all DAOs to Stage 6.
Each of the Stages unlock more addressable liquidity, and require additional DAO effort to achieve.
There are some notable DAOs that have advanced beyond Stage 1. Alchemix has pioneered the way to become a Stage 3 DAO, via a tALCX staking pool (see next section). Olympus and other DAOs that have utilized Olympus Pro have evolved to a modified form of Stage 4, though they skipped a few Stages along the way.
Once a DAO advances to Stage 6, ALL of their tokens, both internal to their treasury and external tokens held by community, become eligible for liquidity. The liquidity crisis is solved.
The cost of liquidity: mining emissions
It should be fairly obvious as to how Tokemak can increase liquidity bandwidth. The protocol removes friction for liquidity providers, making it easier for users, more capital efficient (don’t have to provide other side — ETH or USDC), and mitigates IL, moving the risk away from LPs.
It can be less obvious to see how Tokemak can decrease the cost of liquidity. Luckily, Alchemix serves as an excellent case study in this regard. Let’s take a look at Alchemix’s current Pool 1 and Pool 2 structure. This section was written on November 28th, and the numbers are current as of that date.
Alchemix incentivizes a Pool 1 (ALCX staking pool) with ALCX emissions. They also incentivize a Pool 2 (ALCX/ETH Sushi LP staking pool) with ALCX emissions. At the time of writing, these pools are earning the following emissions:
Pool 1: 52% APR
Pool 2: 64% APR
We refer to the Pool 2 emissions as “mining emissions”, in this case 64% APR. This is the cost Alchemix is paying for their liquidity: 64% per year, or $0.64 per dollar of liquidity per year. (note that there is also a negligible amount of SUSHI that is paying their Pool 2, but the emissions are almost entirely in ALCX)
Here we define emissions as the following:
When one takes into account the additional emissions Alchemix is paying to Pool 1, they are paying even higher emissions, or an “effective mining emission” of 86% per year, normalized to the useable liquidity in Pool 2.
Introducing the Pool t1
As mentioned above, Alchemix has evolved to a Stage 3 DAO by recently establishing a tALCX staking pool. We refer to this pool as a “Pool t1”. A Pool t1 uses Tokemak’s tAsset generalized liquidity to provide liquidity like a Pool 2, but has the simplicity, capital efficiency, and lack of IL risk to users like a Pool 1. The goal of the Pool t1 is to replace the Pool 1 and Pool 2.
Looking at the tALCX Pool t1 at alchemix.fi, we see that it is paying out 55% APR. This is the outlay of ALCX that Alchemix is paying to tALCX stakers, but it’s not the complete story. The community members who staked tALCX are giving their TOKE rewards to Alchemix, which means Alchemix is earning 43% APR in TOKE. This means that from Alchemix’s perspective, they are paying
This 12% net emission cannot yet be compared to the Pool 1 / Pool 2 setup, as the mining emissions paid in Alchemix’s Pool 1 and Pool 2 setup are normalized to an ALCX/ETH pool. The tALCX Pool t1 will receive “free” ETH paired with it when it is directed as liquidity via Tokemak to an exchange, so the rewards need to be normalized to a pool twice the size of the ALCX half. Due to that, the real net mining emissions are half of 12%, or 6% APR.
So by switching from a Pool 1 / Pool 2 setup to a Pool t1, Alchemix should be able to reduce effective mining emissions from about 86% to about 6% per year. This 80% APR reduction in emissions would work out to be about $130M per year saved by the DAO at current ALCX prices and current LP size.
The true effective mining emissions would likely be even lower than 6%, as many users might chose to earn TOKE by staking their ALCX directly in Tokemak, which does not require Alchemix to pay any emissions for securing that liquidity.
Not only is the Pool t1 approach better for the DAO, but users also benefit as they receive similar emissions per unit of value, but higher emissions per ALCX vs. a Pool 2 and also are protected from IL.
Additionally, the liquidity provided by a Pool t1 is generalized, as it can flow between exchanges based on the votes from the Liquidity Directors (TOKE stakers). A Pool 2, on the other hand, locks liquidity into a single pool (for example, ALCX/ETH Sushi LP).
More soon
It should be noted that Alchemix serves as an excellent prototype here, and they do not yet have the choice to turn off Pool 1 / Pool 2 in favor of Pool t1 until Tokemak liquidity deployment begins. This choice will be coming very soon.
I want to thank both Scoopy Trooples from Alchemix and Zeus from Olympus DAO for their innovations in DeFi and for showing us the way to Stage 3 and 4 DAOs. It requires pioneers like them to continue DeFi’s evolution and we’re proud to be working with them.
This is just the beginning. Exchange voting and liquidity deployment is coming soon. Permissionless reactors are coming soon. This was just a taste of everything that is to come. We have a lot more to reveal before you start to appreciate how deep the rabbit hole runs…
Discord: https://discord.com/invite/Z5f92tfzh4
Website: https://www.tokemak.xyz/
Medium: https://medium.com/tokemak
Twitter: https://twitter.com/tokenreactor
