Last summer, Polkadot made a bit of history by confirming the first five projects that will occupy the parachain slots on its Kusama Canary network. Parachains, separate blockchains that connect to the main Polkadot chain for security purposes but are independent, represent a new way of doing business on the blockchain, a maximalist vision aimed at improving scalability and governance. , allowing at the same time the possibility of updates without the need to resort to the network. The five projects were Karura, Moonriver, Shiden, Khala, and Bifrost.
Fast-forward to today, the first batch of parachains is set to expire, releasing over 1 million Kusama (KSM) tokens locked into the market. Given that KSM’s current supply is 9 million, basic economics dictates that the price will take a hit as previously inaccessible tokens will come back into circulation. Price fluctuations, of course, affect staking and liquid staking, although this latest innovation allows users to use their tokens even when they are locked.
Have the cake and eat it
We all know about staking: It is the process of “locking” tokens in a system as collateral in order to secure a network. In exchange for participation in this effort, rewards are earned.
In Polkadot’s complex nominated proof-of-stake (NPoS) ecosystem, stakers can be either nominators (whose role is to nominate trustees) or validators, but the same economic incentive applies in both cases. The problem, as described above, is what happens at the end of a staking period. It’s all very well getting generous rewards for securing the relay chain (not to mention multiple parallel chains), but if the price of the native token plummets, it could mock the entire enterprise.
Although liquid staking does not protect the underlying price of the assets staked, it apparently allows users to safely unlock on-chain liquidity and take advantage of the performance opportunities offered by numerous decentralized applications. This is possible thanks to the issuance of an independent token that represents the value of the bet itself. With this liquid derivative essentially acting as the native token in the market, the risk of sudden price volatility following the end of an unpeg period is addressed.
This model allows users to maintain their liquidity and use the underlying token, either through transfer, spend or trade as they see fit. In fact, punters can even use their derivatives as collateral to borrow or lend across different ecosystems to participate in other decentralized finance (DeFi) opportunities. And the best part is that the staking rewards continue to accumulate in the original assets locked in the staking contract.
But what happens when the staking period ends? Well, the derivatives are exchanged back for the original coins to keep a constant supply in circulation.
Simply put, it’s about having the cake and eating it.
The future of proof of stake?
The proof-of-stake consensus mechanism has received increasing attention, especially as we get closer to the rollout of PoS for Ethereum 2.0. The blockchain’s transition to proof-of-stake is expected to reduce its energy consumption by more than 99%, leaving environmental critics to target Bitcoin and its controversial proof-of-work model.
There is no doubt that PoS is the most environmentally friendly option, even if some criticisms of PoW are exaggerated due to the improved energy matrix favored by miners. However, despite the numerous improvements that the consensus mechanism has introduced over its predecessor, there is still work to be done. Far from being a settled science, proof-of-stake is an innovation that can and should be refined. And we can start by increasing the number and capabilities of PoS validators.
This was the idea behind Polkadot’s NPoS model, which sought to combine the security of PoS with the added benefits of stakeholder voting. In my opinion, liquid staking builds on those advantages by solving an age-old dilemma users face: whether to lock up their tokens or use them in decentralized DeFi applications (DApps).
This dilemma not only affects users, of course, but hurts the overall DeFi landscape. For some cryptocurrencies, the percentage of the outstanding supply locked in staking can exceed 70%. At the time of writing, for example, nearly three quarters of Solana’s SOL tokens are staking – and more than 80% of BNB, according to Statista. It doesn’t take a genius to know that having only 30% of a token supply available for use in DApps is a net negative for the industry as a whole.
While proof-of-stake systems need an active staking community to ensure security, DApp creators want to make transactions easy, and transactions need tokens. The appearance of liquid staking has therefore been welcomed by both parties and, in particular, by the creators of DApps, who have been forced to offer higher and higher APYs to convince users that their assets are better off. deployed in lucrative DApps than in staking contracts.
By maintaining a constant circulating supply, addressing worrying price fluctuations, and helping users generate higher rewards (staking payouts plus DApp performance), liquid staking is one of the brightest innovations in DeFi’s short history. Hopefully more stakers take notice.
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The views, thoughts and opinions expressed herein are solely those of the author and do not necessarily reflect or represent the views and opinions of Cointelegraph.
Lurpis Wang | is a co-founder of Bifrost and an entrepreneur involved in the field of Web3. He was one of the first full-stack developers for Sina Weibo. After Lurpis co-founded Bifrost in 2019, the platform became the first batch of teams to use Substrate, received a grant from the Web3 Foundation, and won the Substrate hackathon first prize.
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