Velocity altering levers

There are multiple levers which token economics can use to adjust velocity. These all involve incentivising token users to hold their tokens for an extended time. Implicitly, there is a cost to token holders who hold for an extended period. This cost is the loss of yield if their wealth was held in another token. This cost must be factored in when deciding on which levers a system wants to implement. If the utility benefit of the system doesn’t exceed the holding cost then the system will struggle to achieve adoption. The possible velocity altering levers include:

A profit share mechanism: A profit sharing mechanism is when token holders are paid for performing work for the network. However, the worker must own the token for their right to work for the profit share. This incentivises users to acquire and hold more tokens, which reduces the velocity. The reduction happens because, as the market price of the token decreases, its yield, from profit share, increases. If the yield becomes too high, then market participants seeking yield will buy and hold the token, increasing the price and reducing velocity.

Staking functions into the protocol: Staking functions reduce the velocity of the token because they lock-up tokens for a period of time. Extended staking periods can reduce velocity significantly as the assets are illiquid while staked. Most staking mechanisms require the user to stake their reputation against the stake and if they fail to perform a function (or perform it inadequately), they lose their stake.

The “network utility expansion” mechanism: This is harder to justify, but succinctly, if there are a set number of tokens, then these tokens access a defined percentage of the network. If the absolute capacity of the network grows, then the amount of absolute utility each token can acquire grows. E.g. in a computer storage sharing economy, each token is worth a fixed percentage of the network and as it grows in size, so each token can purchase more megabytes. Thus, the anticipation of greater future utility will cause token holders to hold their stake which will reduce the velocity.

Importantly, if users are anticipating growth in the network then they will hold onto their tokens as their tokens value should grow over time. However, as the network reaches a steady-state or begins to decrease in size, then users may start trading their token as they may worry that tokens start falling in value, therefore increasing velocity. Thus, Network protocols that offer a reasonable expectation of absolute utility through their design are those that should endure.

Becoming a cryptocurrency: This is non-trivial. It requires people to implicitly trust the stability of the token compared to their other alternative. It occurs when people start holding a currency so they can purchase goods and services through the token at a later time. This reduces velocity as holding periods are introduced. In a File Storage example economy, if the users of the network are also providers to said network they are not likely to trade out their token. If a user has a spare hard drive at home which earns StorageToken, but spends those same tokens to access cloud storage on their laptop where they need extra storage space, then they are unlikely to sell the token in the meantime. As StorageToken is held within the File Storage network economy to: a) be used at a later date given that holders are both providers and users of the network and b) be held given a reasonable expectation of being able to purchase more storage capacity as the network utility expansion effect takes hold, we have positive reinforcement from (a) and (b) that has the effect of reducing StorageToken’s velocity to a healthy combination of transactional, and holding, activity.

These levers were first published in draft form by Kyle Samani and have been republished here with his consent. As this is a developing space, they are expected to be adjusted and improved over time. If you have any ideas on potential levers, let me know!