Vote-escrow or veTokenomics is widely misunderstood, with many projects seeing it as a panacea for a poorly designed token.
veTokenomics allow holders to lock up their tokens in exchange for some value. Projects that use veTokenomics generally have a highly inflationary emissions schedule and adopt veTokenomics as a means to restrict circulating supply. The design works on the supply side to prop up the price, but doesn’t consider demand-side tokenomics which focuses on protocol utility, value capture, and economic security through aligned incentives.
In the absence of any real utility, veTokens are farmed and dumped. The legitimate value proposition of veTokenomics is to provide holders value in the short term so they are incentivized to continue holding (locking) the token for a long term. Of the examples we show, veTokenomics has only succeeded with one project – Curve – as the holders of the $CRV token received value beyond $CRV emissions. Unfortunately, many projects are now implementing veTokenomics without considering the demand side of their tokenomics as Curve has.
Source: Delphi Digital
Example 1 – Dogechain
Reduces circulating supply supply but provides no value
$DC is the native token of Dogechain. When locked in the veDC model, users receive:
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Staking rewards; and
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Voting power on governance proposals (coming soon)
The longer the lock up period, the greater the amount of $veDC received in exchange. For a 1 month lock-up, the user receives 1.1x the amount of $veDC while a 4 year lock-up yields 8x the amount of $veDC. $veDC are neither tradeable nor transferable.
While this approach is effective in incentivizing long term alignment and reducing circulating supply, little value is provided in exchange. Holders of $veDC tokens receive staking rewards in liquid $DC tokens. Those who lock up tokens for 4 years receive exponentially higher rewards even with smaller upfront commitments. This application of veTokenomics effectively perpetuates a farm and dump model.
While governance power is often identified as utility, data suggests that only a handful of people really “utilise” it to vote on governance proposals. For e.g. governance vote turnout for NounsDAO in July 2023 was < 7%, Uniswap was ~5% and Polkadot was < 2%. In some instances on Dogechain, voters may be rewarded additional LP rewards in $DC and the project’s tokens if they voted for the project that received a grant. Although the receipt of a new project’s tokens is incremental value, this is vastly overshadowed by the inflationary impact of providing even more $DC rewards.
Use of veTokenomics on Dogechain may reduce circulating supply, but provides no real value.
Example 2 – Prisma Finance
Provides indirect value but has mis-aligned incentives
Prisma Finance is a non-custodial and decentralised Ethereum LST-backed stablecoin. Prisma enables users to mint a stablecoin, $mkUSD, that is fully collateralised by liquid staking tokens. The protocol’s native token is $PRISMA and token holders can lock it in exchange for “lock weight” that is used in determining voting power. The lock weight increases the longer the tokens are locked for and has a max duration of 52 weeks. Voting is used to determine how $PRIMSA emissions are distributed within the protocol. In return for locking $PRISMA, users receive a “Boost” that allows holders to earn up to 2x $PRISMA rewards.
The scope of actions that locked $PRISMA token holders can vote on are more limited than those in Dogechain. However, Prisma provides these holders with arguably greater control. Prisma attempts to align stakeholders by giving $PRISMA rewards. Voting on the below actions provides users more $PRISMA:
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Depositing to the Stability Pool (to ensure $mkUSD is collateralised)
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Minting new mkUSD (with a particular collateral)
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Maintaining an active mkUSD debt (with a particular collateral)
While these rewards are given to users, these users are not necessarily aligned with Prisma’s long term interests. Prisma’s roadmap indicates that users will be rewarded with $PRISMA for minting mkUSD. However, those who mint mkUSD may not necessarily hold it (e.g. arbitrageurs).
Prisma is a new protocol, and the role of $PRISMA is not fully decided.
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If the tokens only give governance rights, they will be another pure governance token with potential economic security vulnerabilities. If the only utility a token provides is control of a protocol, the only people willing to pay for it are those with additional incentives, which may be against the protocol’s interests
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Even if $PRISMA tokens are used to govern Treasury funds, the treasury becomes a treasure chest waiting to be raided (see Build Finance, Fortress)
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If the tokens generate yield by directing fees to $PRISMA token holders, $PRISMA tokens will be fundamentally valuable, but the veTokenomics will simply mask an inflationary monetary policy
Locked $PRISMA token holders may receive value indirectly, but their incentives are still not necessarily aligned.
Example 3 – Curve
Provides value and long-term alignment
Any discussion of veTokenomics is incomplete without referencing Curve. Liquidity providers on Curve receive $CRV for providing liquidity. To get $veCRV, LPs need to lock their $CRV tokens for a variable duration from 1 month to 4 years. The longer the lock, the greater the $veCRV. Locking is irreversible and tokens aren’t transferrable. $veCRV holders receive the following benefits:
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Select a pool that receives boosted $CRV emissions (up to 2.5x)
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A share of protocol fees paid in 3crv
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Vote where $CRV emissions are directed (resulting in bribe revenue)
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Vote on governance proposals
The real innovation with Curve was the introduction of bribes. This additional utility enables the $veCRV holder to accrue tokens other than the native $CRV, providing a price floor – a minimum possible price for $CRV proportional to the value of bribes received. Bribes paid to the LPs incentivize liquidity on Curve and demand for $CRV.
Currently, 85% of $CRV are locked for an average 3.37 years.
Source: Curve DAO locker
While the use of veTokenomics buys Curve more time to create additional sources of utility, the risk here is that if Curve’s utility isn’t maintained or that if Curve were to become obsolete, supply shocks might follow as unlocked tokens are sold. Based on the above graph, the rate of token unlocks increases significantly from Oct-2024. Curve must maintain market dominance up to and after this point to keep $CRV price afloat – a heavy burden for developers.
Curve’s reliance on veTokenomics requires its developers to actively maintain the protocol and create future versions.
Conclusion
In the absence of underlying token utility, veTokenomics only works to artificially manipulate a token’s price by restricting circulating supply. Demand-side tokenomics provides token utility, and needs to be considered before any supply-side mechanisms. Given the inflationary token design of most projects applying veTokenomics, it is even more important that the principles of demand-side tokenomics – protocol utility, value capture, and economic security are included.
veTokenomics in isolation are a net negative. Curve is the exception that proves the rule; it created foundational token utility through bribes, and added veTokenomics to magnify price. If there is a single takeaway, let it be that veTokenomics can’t be tacked on to a protocol if the protocol itself doesn’t have other token utility.
These are the kinds of problems we solve for protocols at Token Dynamics. If you would like to collaborate — whether that is working on a project together or learn more about tokenomics, feel free to reach out to me at ajey@tokendynamics.xyz or on Twitter @ajeykb.
