Thread by @econoar

0/ A thread on blockchain economics and how price volatility wildly impacts the security and fundamentals of each chain, especially block rewards and staking.

Let's dive right in...

1/ The issue with any blockchain economic discussion is that realistically, most people still think about their returns and costs in fiat.

We are pricing things like block rewards and staking entry in crypto but those participating are worried about net fiat returns.

2/ Take the block reward debates for example. Originally, ETH set the block reward at 5. Price then went up astronomically. Now, instead of paying $200k a day to miners ($10 eth), the network was paying $6mn a day ($300 eth).

Sure there is more to secure but is it proportional?

3/ This now impacts a LOT. Miners think of their service as a business and are constantly improving their hardware in order to keep up. Some may hold but in reality most mined ETH is being sold on exchanges. So as price rises, more money is needed to sustain price.

4/ On the flip side, as price falls dramatically, miners who had been investing in hardware start having squeezed or negative margins. This could result in hash rate drops.

5/ When it comes to staking, Ethereum has tried to lower the "barrier to entry" by setting a low amount of ETH required to stake (32). 8 months ago this cost $32k and now it cost $4k. This sounds wonderful! But, is it really...?

6/ Staking returns are paid in ETH. There is a hardware cost behind staking (say, $400/validator). A validator will likely be pulling in around ~1.3 ETH/year in rewards (32 * 4%). If ETH price remains down near $200, that's only $260/year, not even offsetting hardware cost.

7/ A larger staking minimum would fix this due to higher returns. So on the surface, a lower staking entry may sound nice, but it's a potentially large security flaw.

Do we know the future price of ETH? No, but we should be considering all possibilities.

7/ As you can see, pricing network security in crypto is an interesting and potentially dangerous endeavor. What is the solution to this? I'm not going to act like I have it but one idea would be to incorporate a price oracle to ETH/DAI in rewards algorithms as a variable.

8/ This would essentially mean that the reward could float up or down within some bounds of inflation in order to offset volatility moves.

9/ Now that you're triggered by the above idea, I want to say that I still think these discussions are too glossed over. I think teams working on these implementations should hire more experts in fields that understand economics/finance and core calls should discuss it.

10/ These topics are extremely tricky and have many different variable sets.

Some day, ETH ideally becomes stable and this becomes easier, but for now we shouldn't kid ourselves into ignoring reality.