Abstract
This post focuses on the issue of solo stakers quitting staking and joining Staking Service Providers (SSPs) as liquidity and cost structures improve through SSPs. As one of the solutions to a future where the staking market becomes centralized and imposes an inflation tax on users, we propose a community-based approach for solo stakers called Solo Staking Loyalty Points (SSLP) firming. Combining SSLP with the CSM module improves solo staker liquidity and reduces capital efficiency, adding an incentive for solo stakers to contribute honestly in the long term.
Problem
- Solo stakers are under selection pressure
Delegated stakers may flatten the supply curve, inducing an upward trend in staking volume and forcing users to pay more costs than necessary. If the supply curve flattens, delegated stakers will be induced to take all by winners, and it may be more rational for solo stakers to transition to delegated stakers.
There are two reasons for this situation:
- Benefit: Liquidity is improved by Liquid Staking Tokens (LST)
- Endogenous yield y: The endogenous return obtained only by staking in consensus is the sum of issuance reward y_i and execution reward y_v (y_i + y_v).
- Exogenous yield y_c: The exogenous return from DeFi and restaking generated by LST has a total yield of y_c.
- Total yield Y: The sum of the staker’s total return introspective yield and exogenous return (y + y_c). Staking will not occur unless the total return Y (= y + y_c) is higher than a certain threshold Y_c at which there is a desire to lock.
For example, assume that an ETH holder is willing to lock ETH when the total return Y exceeds 0.04. The situation in which a staker will lock the ETH they hold is:
Y > Y_c
If we substitute 0.04 for Y_c:
y + y_c > 0.04
This shows that the higher the value of y_c, the lower the introspective yield y_i required for staking can be, and vice versa.
- Cost: The cost structure is simplified, including the reduction in capital efficiency (staking is possible even with less than 32 ETH) and long-term commitment.
- Initial cost: The cost required at the start of staking. Generally, it includes technical skills, hardware, and collateral capital.
- Long-term cost: The long-term cost of protecting the locked ETH, the reduction in liquidity due to locking, taxes, and increased risk premium. This can also be seen as the time cost of updates, the high-speed line and data capacity for additional Internet connections, and the ongoing commitment of accurately exercising the protocol’s work.
Long-term costs are likely to influence stakers’ ongoing decisions more than initial costs. Solo stakers bear all costs themselves. In the case of SSPs, the cost structure differs depending on the node operator and the participant (ETH holder).
- SSP node operators have a fixed cost for staking and receive a portion of the revenue earned by participants as a fee. In situations where costs are high and revenues are low, they can increase efficiency by reducing the number of nodes and increasing the number of validators on each node.
- Participants only delegate the amount of stake to the node operator, so there are no costs, but instead they pay a portion of the revenue as a fee. Since the issuance of LST does not affect the decrease in liquidity, the fees paid may not feel like a cost.
In this way, costs are equally borne by solo stakers and node operators, but the cost for users participating in SSPs is low. Since the barriers to solo staking are replaced by the SSP operator, users who use SSPs do not have a large increase in the costs required to make additional staking. In addition, if they can receive LST, liquidity increases, they can access additional yields, and there is no need for long-term commitments.
As staking service providers simplify the staking experience (cost structure) and improve staking liquidity, the inequality Y > Y_c’ becomes more likely to hold even if the introspective yield y becomes smaller.
As a result, the amount of staked is induced to tend to increase, and more ETH than necessary is staked. The effect is that the protocol issues more rewards than necessary for security, forcing users to pay inflation taxes. Also, in a world where a lot of ETH is staked, solo stakers who do not have access to the exogenous yield y_c are at an even greater disadvantage.
It is important for Ethereum to consider maintaining solo stakers, as they contribute greatly to the censorship resistance of the network.
The community is discussing Cut Issuance, MEV-burn, Rainbow Staking, and other ideas that target MVI. I am optimistic about these ideas, but there are complex tradeoffs, so in the short term I would like to look at simple solutions such as Lido’s CSM and Smoothing Pool as well.
Lido’s CSM module is designed to significantly lower the node operation profitability and entry barrier for individual stakers by depositing about 2 ETH as collateral to Lido on Ethereum after creating the deposit data, and 32 ETH is assigned to the deposit key.
At this time, the profits from node operation are distributed equally among validators who participated in attestations a certain threshold number of times according to the number of validators who operate each person’s rewards. In other words, it is likely that rewards earned by Curated Modules (36 professional node operators commissioned by Lido, such as Kiln) through MEV maximization, etc., are often returned to CSM participants. Thanks to this mechanism, even individual stakers can earn greater profits than with an individual 32 ETH stake.
As a result, the CSM module opens the path to validators to more potential individual stakers, bringing decentralization and diversity to LoE validators. Solo Staking Loyalty Points (SSLP) firming is an additional idea based on CSM, and its purpose is to further contribute to the maintenance of solo stakers. In the short term, increasing the number of solo stakers through mechanisms such as the CSM module is important for improving the censorship resistance of the network.
So, in addition to the MEV Smoothing pool mechanism such as the CSM module, I would like to consider ideas to incentivize solo stakers to behave honestly for a long time.
So what to do?
- Pointize access to variable rewards (MEV + Fee)
Solo stakers earn Loyalty Points. Points should measure the period a solo staker has been active and the validity of their attestations.
Points accumulate over specific periods and are transferable. Points can be exchanged for variable rewards. However, the number of SSLPs earned increases in proportion to the length of time active. 1 month → 10 points, 2 months → 12.5 points, 3 months → 15 points…, n.
The exchange of pooled variable rewards for points is designed with a base exchange rate called the pool base reward, and a weighting that increases proportionally to the number of points held. This provides an additional incentive for solo stakers to contribute to the network for a long time and continue earning SSLPs. Example: 10 points → pool base reward * 1, 20 points → pool base reward * 1.1, 30 points → pool base reward * 1.2,…n.
These two simple mechanisms - awarding points for long-term honest behavior and increasing the access rate to variable rewards based on the number of points held - create a system where solo stakers can earn higher profits/year by contributing honestly to the network for a long time, accumulating points, and exchanging a large number of points for variable rewards at once, rather than accumulating points in a short period to access variable rewards.
A simple prediction is that demand for trading points themselves may emerge. Solo stakers who want to earn variable rewards in the short term might be able to earn higher rewards than the pool base reward by exchanging points for tokens in the market, rather than exchanging points for variable rewards. Point buyers have an incentive to collect points, as the weighting of the exchange rate increases as they accumulate points.
Increasing the incentive to earn points may lead to a tendency to become solo stakers and collect points.
Overall, the point mechanism offers the following benefits:
- Improved liquidity: While solo staking cannot improve liquidity like LSTs, points may have a similar effect.
- Cost improvement: By integrating with the CSM module, solo staking becomes possible with 2ETH, lowering the capital requirements for short-term costs.
- Compatibility with the roadmap: As an additional idea, receiving SBTs along with SSLPs from the protocol to identify solo stakers could be beneficial, as it may allow for preferential treatment for solo stakers from consensus in the medium to long term.
By incorporating a point mechanism into the CSM module in this way, liquidity can be improved and the cost structure can be enhanced, which may lead to an increase in solo stakers. The only barrier to becoming a solo staker will be the long-term cost.
Concerns
- At what rate will points be awarded?
- How will the pool base reward be calculated when exchanging for variable rewards?
- How will the pool base reward be weighted by points?
- Can it really increase the execution reward y_v of solo stakers?
- Will it really be exchanged in the market at a higher price than the pool base reward?
- Can solo stakers using CSM truly fulfill their role as solo stakers? Are CSM stakers solo stakers?
I would love to discuss what the community thinks about the simple idea.
- FAQ: Ethereum issuance reduction - Economics - Ethereum Research
- Endgame Staking Economics: A Case for Targeting - Economics - Ethereum Research
- Properties of issuance level: consensus incentives and variability across potential reward curves - Economics - Ethereum Research
- Unbundling staking: Towards rainbow staking - Economics - Ethereum Research
- Dr. changestuff or: how i learned to stop worrying and love mev-burn - Proof-of-Stake - Ethereum Research