Incentivizing a Healthy Liquid Staking Market | Space Recap
Creating a healthy liquid staking market with Superphiz, Nixo, and Hanni Abu.
Nov 8, 2023
For this insightful Twitter space, we were joined by decentralization advocate Superphiz, Executive Director of ETHStaker Nixo, and ETHStaker steward Hanni Abu, to discuss Super swETH and the creation of a healthy liquid staking market!
In case you missed it, here are the top questions from the space:
What is the problem with the current liquid staking market and what will happen if it continues along its current trajectory?
“To provide context to listeners that may not have an understanding of the current risks centralized entities pose: The consensus layer is important to keep decentralized because it is the most fundamental part of Ethereum. This isn't the same as a systemic DeFi risk. a risk to Ethereum's consensus layer (i.e. its validators) is a risk to Ethereum itself.
We have seen a lot of staking providers come online over the years, and the one that has been live since inception was Lido. Because they were very early and have very good user experience, they saw a lot of people pile into their protocol, but the problem is that Lido itself is not a totally decentralized protocol. It might be a smaller issue if Lido was a totally decentralized protocol, but Lido is controlled by a DAO and the DAO is controlled by LDO holders, with most votes being made by 2 to 3 people therefore posing a risk as there is a centralization vector there.
It is a legitimate concern that we definitely want to be dealing with and so we are encouraging new protocols to come online to suck the air out of Lido’s tires because it is the healthiest situation to be in.
That said, I believe that the current trajectory has been really positive. While this is a big problem at the consensus layer, I believe that the social impact that we have had on Lido’s staking dominance has been very heartening, and we have seen their numbers stagnant for a year and half. This situation could be much worse if it was an outside entity, so this is a healthy immune system response that we are seeing right now”
“There is obviously one very large LST platform, and over the past few weeks their market share has been declining while we have seen the market share of smaller providers grow, which is very positive for the future of Ethereum.
This new trajectory that we have been seeing over the past two to three months is turning this massive ship towards a more decentralized network. There are four times that I have seen this in the past month:
The ENS DAO treasury vote. ENS DAO delegates a lot of its funds to Karpatkey, who was previously staking these funds with Lido. As a result of this awareness, they have shifted towards a more decentralized product and away from the major centralizing product.
The Arbitrum Incentives vote. Lido asked for a large amount of incentives on Arbitrum to expand their reach on the network, but the community resisted this and they did not receive the incentive.
The LayerZero bridge. It was interesting to note that Lido reached out to the community to say they were doing something they didn't like, which is very valuable.
Vampire attacks. Swell and Diva have both launched Enzyme vaults where users can deposit stETH that will be natively unstaked from Lido and re-staked for swETH and divETH.”
“An entity becomes too large when it owns over 33% of the market, which is the warning sign that Danny Ryan assigns the label of an attack to. With just two entities at that 33% amount, you could gain a 66% majority of the validator set. The lower the market share the better because more parties are required to work together in order for them to attack Ethereum. That’s not to say that if somebody does have market share greater than that that they will attack, the key point is the fact that they could attack.”
– Hanni Abu
Swell has committed to self-limiting to 22% of market share. What are your thoughts on other solutions on the centralization risk?
“It is a multitude of things working cohesively together i.e self-limiting, vampire attacks with redemption, thereby reducing Lidos overall staked ETH, integrators such as EigenLayer and education.”
– Hanni Abu
“I think that this social layer impact that we are having is really a temporary solution while more protocol based solutions can come up. Social layer incentives are great but the biggest thing here is that we are making time for protocol devs to create EIP’s, which take years of research, discussion and implementation to put into a fork. These initiatives are ones that the core devs don't have time for, so it falls on the social layer to support core development.” – Nixo
“The state of research is not at a place where we could develop in-protocol limits right now so self-limiting to 22% is a short-term fix that gives developers breathing room to develop the protocol.
I don't love the need for the social layer, and so the better and more powerful Ethereum becomes, the less we will need to rely on the social layer. I acknowledge that there are a lot of unsolved problems that need to be solved before we can have this non social decentralization, so I really do view the social layer as a strong requirement that we need at the moment.”
“The one thing that is working against centralization in the staking space is generally the broadening of the market, not just within liquid staking providers, but also at the service provider level. There have been a lot of non protocol projects or teams that have been unintentionally enshrining market leading LSTs due to liquidity constraints and such, which just compounds the dominance of the market leader. I think as we see not just more diversity in the liquid staking space itself, but also across the service providing entities that live on top of, we’ll see more competition in the space and more inclusion of longer tail LSTs, which should long term assist in distributing stake across multiple providers.”
What can LSTs do together to promote healthy decentralization?
“This all boils back to education. I know that most stakers are in it for the yield, but it needs to be backed up with some education that says you may be getting 0.1% extra APY but the risk is that you are lessening the long term value of your investment by reducing the decentralization in the network. I don't know the best form of this education but I really think it falls on pool providers and exchanges and whoever is issuing these LSTs to educate their holders about why decentralization is valuable for the network, and how it affects the value of Ether in the long run.”
“A lot of it also comes down to working together. It doesn't have to be cut throat and every protocol should be welcoming to the new entrants in the space. From the integration side, I would love to see the teams working together more and approaching projects and getting all of the other minority LSTs integrated.”
– Hanni Abu
“There are a lot of initiatives that happen, i.e. Ledger. A tenth of all staked ETH is staked through Ledger with Lido. Ledger recently did a push to include more staking protocols in their in-app staking mechanism however companies like Ledger are not as familiar with the staking space so it is up to us to the social layer to educate and support the push to get these integrations through.
In this debate of Lido vs decentralized protocols, a big talking point is that it is a ‘winner take all’ market. What are your thoughts on that?
“The only people that are saying it is a winner take all market, are the ones that are trying to take everything. It's the same way that the only people that say centralization doesn’t matter, are the people that are trying to centralize the market. Anyone who has a real interest in the success of Ethereum is very interested in decentralization. Within Ethereum, any centralization vector is a weakness and we can't be fooled into saying that centralization is a strength — that is a profit motive and very self-serving.”
“The only time I agree with a ‘winner take all’ scenario is when it’s an infrastructure product creating a barrier for integration e.g. Ethereum. An LST is an ERC-20 token, we aren't making users climb extra hurdles in having a decentralized set of LSTs, so their reasoning for a winner takes all the DeFi liquidity. DeFi is very versatile and able to handle multiple ERC-20s and LSTs, and I don't think that’s a strong reason to have a winner take all scenario in this case.”