ICOs failed because they fuelled bad behaviour from both entrepreneurs, with exit scams and untested ideas, and from investors, encouraging short term speculation, rather than actual usage.
What has emerged are more innovative ways to incentivise ownership and usage of tokens – as intended – that learn from these mistakes.
One approach to launching is to negotiate directly with centralised exchanges to ensure they are listed and tap into the existing base of users – known as an IEO – Initial Exchange Offering. This can have a significant impact on ownership distribution and price, as illustrated by the well publicised price boost that coins listed on Coinbase experience. But this is a long way from Bitcoin’s organic, decentralised debut.
IEOs put all the power in the hands of the large exchanges, who will pick and choose coins that they deem anticipate demand for. But given crypto is about removing the middleman, one of the most interesting developments in coin launches is the IDO – Initial Decentralised Exchange Offering.
An IDO is a programmatic way of listing a new token on a Decentralised Exchange (DEX) using Ethereum Smart Contracts and mathematics to shape incentives for buying and selling through something called a Bonding Curve.
Bonding Curves create a fixed price discovery mechanism based on supply and demand of a new token, relative to the price of Ethereum. Their complexity warrants a completely separate article, but it is enough to know that the shape of bonding curves is relevant to the tokenomics of new ERC20 coins launched on DEXs or DEFI platforms, because it can incentivise the timing of investment.
While bonding curves a mathematically complex way to incentivise investment in the new cryptocurrencies, there are more obvious and cruder approaches, particularly within DEFI, where the focus is providing interest on tokens. as a way to encourage early investment.
APYs & Ponzinomics
DEFI has exploded over the last 18 months, with over $90bn in TVL according to Defi Pulse, but this has also fuelled a mania around APY (average percentage yield).
Many tokens have no real use case other than incentivising users to buy and stake/lock-up the coin in order to generate early liquidity. This doesn’t reward positive behaviour, but simply creates a race to the bottom, with users chasing ludicrous returns then dumping coins before the interest rates inevitably crash. This approach has been nicknamed Ponzinomics as the ongoing function of the token is unsustainable.
Airdrops
There is another way to reward holders in terms of how much they have actually used the token as it was intended – Airdrops. DEFI projects like Uniswap and 1Inch are good examples, while OpenSea did the same for those most active in minting and trading NFTs.
Airdrops are financed from the initial treasury but unfortunately aren’t built into road maps, as telegraphing them would be self-defeating.
Many savvy investors simply use new DEFI, NFT or Metaverse platforms simply in the hope, or expectation, of an Airdrop. That makes them relevant to tokenomics as they will drastically alter supply distribution of a token, but given the secrecy that surrounds them, can only be factored into retrospectively.
DAOs & Governance
We’ve already discussed how the concentration of ownership and the network impacts perceived value, given the concern that control rests in a few hands. Even where there is a healthy distribution of holding addresses, they are largely passive, and have no specific influence on how the cryptocurrency functions.
There is a growing move towards crypto projects that are actively run by their communities through DAOs (Decentralised Autonomous Organisations).
DAOs give holders of the native token the right to actively participate in its governance. Token holders can submit proposals and receive votes, in proportion to their holdings, on which proposals are accepted . DAOs therefore have a crucial influence on tokenomics because the community can decide to tweak or even rip up the rules.
DAOs are essentially attempts to create a new digital democracy via crypto, and still have a lot of hurdles to overcome, as rational rules have to be written by irrational humans.
Tokenomics & Rational Decision Making
Sensible tokenomics doesn’t guarantee a project will succeed, nor does a blatantly vague token model doom a coin to failure.
For every project that makes huge efforts toward transparent supply schedules, good governance and healthy incentives for using of the network, there are hundreds, if not thousands, that have fuzzy or non-existent distribution logic because sensible tokenomics isn’t their aim, they simply want to meme, or hustle their way to higher market capitalisation.
Coins like Dogecoin or Shiba Inu have crazy supply schedules yet can still generate a huge market cap – bigger than global publicly traded brands – because investors are irrational.
So studying tokenomics on its own doesn’t mean that you can find cryptocurrencies that will succeed and increase in price, as you have to also understand how other people are making decisions, many of whom have no interest in tokenomics, or even know what it means.
What tokenomics does give you is a framework to understand how a coin is intended to work, which can form part of an investing decision.
Here’s a summary of what the main metrics can tell you:
- Maximum supply – Positive indicator for an effective store of value; if there is no supply cap, there will be ongoing inflation, which may dilute the value of all existing coins.Network/Nodes – The more diverse the better. Will make arbitrary decisions less likely, producing stability.
- Supply Distribution – The more evenly distributed the better, as there is less chance that one person can have a disproportionate impact on price by selling their coins
- Fee Revenue – Shows you how much people are actively using it; a proxy for cashflow
- TVL Locked – Shows that users are willing to put their money where their mouth is, and lock in their investment for a share of rewards
- Governance, Airdrops, Incentives & launch strategies can all influence supply distribution so should be considered as part of tokenomics.
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