SIP-315: Synthetix Version 3 Tokenomics Proposal

Simple Summary

This SIP proposes possible revised tokenomics for the SNX token to be implemented as a part of the transition to Synthetix Version 3.

Abstract

This is a draft document and, as such, should not be considered final.

The upcoming transition of Synthetix to Version 3 (V3) represents the most radical improvement of the protocol in its history. This system-wide upgrade will not only increase the project’s ability to deliver the infrastructure necessary to support an economically viable and decentralized futures markets, it will also facilitate the provisioning of deep liquidity across EVM-compatible blockchains for derivatives generation (with all their incumbent uses) by way of a broad approach to synthetic asset collateralization. This second point, that of liquidity provision through a broad approach to collateralization, however, raises the question of what exactly the role of the SNX token, which has long been the protocol’s primary collateral, is going to be as we move forward? In response to this question, this SIP seeks to propose Synthetix V3 tokenomic concepts designed to serve the interests of stakeholders who have underwritten the project since its beginnings and those who commit to its future growth.

Motivation

Prior to elaborating on the specifics of the tokenomic design that this SIP proposes, it is useful to begin by introducing the various parties integral to the platform’s functioning. These are the individuals, collectives or corporations for whom the SNX token should stand as the instrument of value accrual within the network. Afterall, it is imperative that the SNX token remains analogous with the success of the project as it strives to establish itself as a major DeFi primitive.

Liquidity Providers

The Synthetix approach to the creation of synthetic assets entails the staking of collateral that can then be used to mint a derivative (synth) pegged to the price of an underlying asset by way of a price oracle. Throughout the history of the project, the primary collateral used to generate these synths has been SNX. For providing this service stakers receive both SNX inflation rewards and fees earned on transactions utilizing synths. With V3, however, further collateral types are being introduced in order to both increase sources of synth liquidity and improve the risk profile of the platform (the protocol’s liquidity and stability currently rests on the value of the comparatively illiquid and price volatile SNX token).

With the introduction of multiple core collateral types in V3, liquidity providers on Synthetix might be assumed to be thereafter divisible into two camps: those who provide liquidity and possess the SNX token and those who provide liquidity and do not possess the SNX token. The objective of the tokenomics design contained within this SIP is the prevention of this division.

Governance Participants

A utility that the SNX token possesses aside from liquidity provision is its ability to exert change on the protocol through its deployment in protocol governance. Within the current system of token-weighted representative democracy, various councils are elected according to the of votes of SNX stakers. These councils are then responsible for steering the protocol in a positive direction in accordance with their specific roles. Should it be so desired, there is the possibility that future governance minimization could be carried out through smart contract-based approaches to decision making (vote-escrow tokenomics have seen some success as a method of creating long-term interest alignment). At present, however, V3 does not necessitate any immediate adjustment in the underlying governance structure of the protocol. Nonetheless, this SIP does provide a mechanism for tailoring the extent of an account’s potential governance participation through the amended tokenomics it proposes.

Token Holders

While liquidity providers and governance participants can be considered active users of the SNX token, there is a third major category of SNX affiliates that should not simply be discounted when considering tokenomics. Every holder of the SNX token, regardless of whether they purchased it years ago or within minutes, is, after all, a source of price support and a potential active contributor to the project. In fact, the transition to V3 provides an opportunity to make new protocol participants of these inactive holders, who will be able to use their SNX in new and more customizable ways due to the greater composability of the platform.

The motivation behind this SIP, then, is the conceptualization of tokenomics that maintain the centrality of the SNX token to the platform and importance of the above three groups, while taking advantage of all the benefits offered by Synthetix Version 3 in providing avenues for achieving greater growth and security.

Specification

Pools and Collateral

Synthetix Version 3 introduces the concept of Pools. These pools contain one or more types of collateral held within token-specific vaults, with the aggregate value of the vaults within a pool able to back markets. Despite anyone being able to create a pool, in practice, the protocol will likely curate its own pools by way of the governance system in order to ensure the stability and safety of core protocol functionality. First among these “approved pools” will be the “preferred” pool. This will be a carefully governed pool designed to provide the protocol liquidity for the minting of the base synth, the snxUSD stablecoin, and serve its core markets. Were one to approach the Synthetix project in 2020 or 2021, an obvious contender for the primary collateral within this pool might be assumed to be the SNX token itself. Despite this reasonable assumption, events over the last two years have demonstrated that this may very well not be the ideal scenario.

In the latter half of 2022, concerns around the price volatility and depth of the liquidity of the SNX token led to questions being raised about is suitability as a collateral. Given that the protocol seeks to back synthetic assets such as a major stablecoin, in addition to wishing to expand by several orders of magnitude, the integrity of collateral sources is imperative to its success. This has led to ETH being seen as a more viable primary source of synth liquidity and the most suitable candidate for the primary collateral within the preferred pool.

While supportive of this point of view, this SIP would like to propose the creation of a unique pool that interacts with the protocol’s preferred pool (used to mint the snxUSD stablecoin), with the objective of maintaining the centrality of the SNX token and incentivizing its wider use by creating greater freedom in aligning its power as a governance asset with the collateral value a user stakes across multiple assets.

The Spartan Pool

The Spartan Pool is a pool granted special privileges and integrated with the preferred and approved pools within the pool system. A single-vault SNX staking pool with its settings adjusted to reduce its risk profile, it would be able back markets while also mediating the provision of liquidity to the other select pools. The function and characteristics of the Spartan Pool would be as follows:

• When staking within the protocol’s preferred pool, this SIP proposes tokenomics in which it will be necessary to simultaneously stake at least 10% of the non-SNX collateral’s value in the Spartan Pool. For example, a liquidity provider (LP) wishing to reap the rewards of providing $100,000 of ETH to the preferred pool will, at the same time, also need to stake $10,000 of SNX to the Spartan Pool to do so.

• While the protocol-endorsed pools containing risk-assessed assets such as ETH will allow stakers to mint snxUSD against their collateral’s value in order to grant greater market exposure, the Spartan Pool will be risk adjusted by having this option removed. This will be done by altering the standard issuance ratio and minimum liquidity ratio, thereby preventing snxUSD being minted or being used as a source of leverage. In this way, staking within the pool will provide suitable markets a means of tapping into the substantial liquidity of the SNX token without overexposing the protocol to its less suitable traits as a liquidity source.

• SNX held in the Spartan pool will grant vote-weight equal to the total value of collateral staked in the preferred. For example, a user who has provided the minimum 10% or $1,000 of SNX to the Spartan Pool against $10,000 of ETH provided to a protocol endorsed pool will have a vote weight equal to $1,000 of SNX. Conversely, a user who has provided $10,000 of SNX to the Spartan Pool against an equal value in ETH will have $10,000 of SNX in vote weight. By preferencing collateral over debt as a means of granting governance power, as well as favoring those who provide a greater proportion of SNX when staking, the importance of SNX is reinforced by the governance mechanics themselves.

• The Spartan Pool will receive 30% of protocol revenue distributed pro-rata among its stakers. The remaining 70% is made available to the other pools according to the volume generated by the markets to which they are assigned. With a 10% minimum equal contribution to the Spartan Pool being necessary to receive market originating fees elsewhere, this will ensure that the pool participants receive an advantageous position in the receipt of fee revenue yet leave a large proportion on the table for those who wish to become major liquidity providers without taking on an overly substantial stake in the protocol.

• In order to facilitate the above, 30% of fees originating on each market will be sent to a Spartan rewards distributor attached to the preferred pool. At the point at which a claim is made, the rewards distributor will check for the presence and quantity of SNX collateral supplied by the user in the Spartan Pool and either either allow their claim to go through or revert it should none be present.

• The Spartan Pool, as the pool used to determine governance power, will receive 9/10 of SNX inflation on an ongoing basis, which is initially set at 5% per annum. This will again ensure that SNX holders remain those who determine the project’s direction.

• Lastly, the remaining 1/10 of this 5% pa inflation is used to support protocol expenses on an ongoing basis. This maintenance of inflation is here deemed necessary for its ability to reward participants for working in the protocol’s best interests. Doing so will create an environment for long-term, self-sustained growth in the protocol.

Migration

Should this SIP pass, it is important to remember that the introduction of new tokenomics will not occur in a vacuum. Furthermore, considering early how the transition to new tokenomic design will take place also provides a more tangible ability to consider the impact of their integration. For this reason, here we shall discuss the migration that will occur when moving from Synthetix V2 to V3 and the role of this in mediating the transition to this new type of SNX token utility.

When the migration from V2 to V3 occurs, there will be three distinct collateral systems, each functioning to some extent independent of each other. Firstly, there will be the unmigrated V2 Synthetix made up of Staked SNX collateral and the synths their liquidity supports. Secondly, there will be the V3 Legacy Market comprising the debt positions and synths, such as the migrated sUSD newly exchanged for snxUSD. Lastly, there will be, following the start of the migration, a first native V3 pool or pools that will be carrying out a similar function but using the credit/debt delegated to markets system underpinning V3. The transition of the majority of liquidity across these three states will necessarily be a gradual process in which maintenance of incentives will be important in order to avoid leakage and to optimize the user experience provided by protocol functionality. Considering this, as a means of better conceptualizing a move to V3 tokenomics, the following roadmap is forwarded as a part of this proposal:

1. V3 launches with the opening of the migration process allowing positions to be moved from V2 to the V3 legacy market. In order to incentivize users to migrate, liquid incentives held by the project treasury (not including SNX inflation or a portion of fees) are used. The V2 incentive system currently present and available to stakers on both L1 and L2 remains in place to support volume and allow ecosystem partners to adjust to the precence of the Legacy Market. The ability to claim liquid rewards by moving over to the Legacy Market encourages users to begin the transition and pave the way for an explosion in V3 liquidity.

2. The preferred pool, Spartan Pool and necessary rewards distributors for native V3 tokenomics are launched, with the V3 markets providing fee revenue to ETH stakers and inflation, as well as 30% of the V3 fee revenue received for collateral staked in the Spartan Pool. At this point, non-migrated V2 stakers will still be receiving V2 fees, while the V3 Legacy Market will be receiving protocol-held assets contributing to V3 total liquidity growth. Under these circumstances, the V3 pool-market delegation system will be able to demonstrate the improved infrastructure provided by the new iteration of the protocol and encourage people to fully migrate.

3. Fees for those on the non-migrated V2 Synthetix implementation will be wound down as volume grows on V3, leading stakers to either close their positions and restake their assets within V3 pools or migrate to the Legacy Market. At this point governance will be ready to be granted to stakers within the Spartan Pool.

4. With the tokenomics laid out within this SIP now in place, protocol-held assets being granted to the V3 Legacy Market will also be gradually reduced, allowing for an ordered movement of positions or, where necessary, a forced migration. Once this is done, the migration would be complete and any further amendments to the rewards system could be made.

Rationale

The rationale behind the tokenomic design laid out within this SIP relates to both the migration process and the pursuit of the establishment of a flourishing Synthetix ecosystem built on Version 3. By maintaining a consistent value proposition for the SNX token as a collateral asset, a vehicle for receiving revenue and a governance instrument, these tokenomics help mitigate the risk that migration to V3 contributes to a loss of SNX value and liquidity. SNX, by remaining central to the production of liquidity, will continue to represent the token in its ability to generate value and provide services to the blockchain space. What is more, the community of active participants in one of the most dynamic governance systems in the cryptocurrency space, a community that has founded their relationship with the protocol on their acquisition of the SNX token, will be carried forward onto the protocol’s new, more robust and scalable architecture. This is achieved all while minimizing the need to incur development overhead and over complicate liquidity provision through implementing complex tokenomics represented by the likes of vote escrow.

Notes

This is a draft document and in its current form should not be considered final. There remain several unanswered questions regarding the ability to implement the design that would, if the SIP is received favorable, need to be discussed prior to developing it further. These include:

• This is a non-technical proposal and, as such, modelling would be necessary to answer questions such as would 30% of protocol fees going to the Spartan Pool be optimal as an incentive to increase liquidity while meeting the objective of optimizing SNX utility?

• Would requiring liquidity providers to simultaneously stake to two pools in proportional amounts calculated in USD have unintended consequences due to fluctuations in relative price and the need to account for this?

• Would the risk reductions applied to the Spartan Pool be sufficient to prevent overexposure to the SNX token’s illiquidity and volatility?

• What would be the impact of a position in the preferred or approved pools being liquidated on their position in the Spartan Pool, especially as it relates to maintaining the equilibrium between non-SNX collateral and SNX-acquired governance vote weight?

Copyright

Copyright and related rights waived via CC0.