The Death of FCoin: A Tale of Bad Token Design

FCoin is a crypto alternate that started buying and selling in Could 2018. It’s possibly greatest recognized within the US and Europe for crippling the Ethereum community, however it’s well-known in Asia, and particularly China, for its revolutionary “Trans-Payment Mining” incentive program.

erformance of FCoin’s “Trans-Payment Mining” was so sensational that just about each crypto alternate is now dashing to repeat the motivation program. Certainly, inside just a few weeks after launching this system, FCoin’s 24-hour buying and selling quantity reached a whopping $17B on June 26, 2018. To place that into perspective, the mixed 24-hour buying and selling quantity on the highest 10 exchanges is simply round $6B. Nevertheless, the surge didn’t final lengthy. As reported on CoinMarketCap, FCoin’s 24-hour buying and selling quantity dropped to $Zero.16B on August 12, 2018.

What induced the fast rise and fall of FCoin? The FCoin “Trans-Payment Mining” incentive program has been controversial because the starting, however the incentive program truly works and works fairly effectively as demonstrated by the preliminary surge of each day buying and selling quantity. Though the FCoin staff made many missteps in attempting to repair the issue after it began, the fast fall is definitely attributable to basic flaws in its token economics design. The verdict isn’t absolutely on the market but, however it seems that FCoin is killed by its unhealthy token economics design!

Token Economics is a brand new instrument that has not existed earlier than within the web or cellular areas, however it performs a important position in any token undertaking. If utilized effectively, token economics helps a undertaking create a brand new enterprise construction and disrupt current incumbents. If not, a undertaking will crash and burn. By studying from the errors that FCoin made, different initiatives, particularly these crypto exchanges attempting to repeat FCoin’s mannequin to remain aggressive, could have higher token economics designs and might efficiently remodel many companies into a brand new period.

“Trans-Payment Mining” – A Nice Incentive Design

A good token economics design begins with incentive design since utilizing token as incentive is the brand new and disrupting power. A good incentive design requires deep understanding of the undertaking’s enterprise.

Based mostly on my conversations with individuals from exchanges, a very powerful factor that an alternate cares about is the each day buying and selling quantity. This shouldn’t be a shock provided that exchanges generate profits from transaction charges and excessive quantity additionally generates excessive liquidity. To extend buying and selling quantity, merchants (patrons/sellers) ought to be incentivized. The best, and maybe solely, manner to supply financial incentives to merchants is by discounting the transaction price.

The founder of FCoin, Jian Zhang, is the ex-CTO of Huobi and a veteran in alternate enterprise. It shouldn’t be a shock that the FCoin staff has insights from the crypto alternate enterprise and designs the motivation accordingly. To incentivize merchants, FCoin created a brand new revolutionary mannequin: “Trans-Payment Mining”, which is described in FCoin white paper:

What’s the incentive right here? The “Trans-Payment Mining” mannequin creates a notion to merchants that they’re successfully paying $Zero transaction price. This incentive design is clearly efficient, as seen from the massive buying and selling quantity surge in such a brief interval of time. Some argue that this gives mistaken incentives in that merchants come to FCoin to not do actual trades however to mine FT tokens, however opponents of FCoin’s method have forgotten that the aim is to extend each day buying and selling quantity and any commerce will improve the buying and selling quantity.

“Should you present incentives, customers will come”

“Should you present incentives, customers will come” is an underlying fact for crypto initiatives that has performed out time after time. Completely different from the normal faculty of advertising and marketing thought, token incentives within the crypto world are a buyer acquisition instrument in and of themselves. FCoin’s “Trans-Payment Mining” isn’t actually new, however it proved once more that the thought works effectively within the crypto house.

80% Income Distribution – FCoin’s Basic Token Design Flaw

As soon as a undertaking has a great incentive design, it additionally wants the correct token financial coverage, which addresses token provide, token demand, token circulation, and so on. That is important as a result of it would have an effect on the token value and the token value will influence the effectiveness of the motivation program.

In FCoin, the token provide is generated by the Trans-Payment Mining program. On a regular basis, new tokens are being minted into the market and trigger token inflation. In principle, with out token demand or if token demand is smaller than token provide, the token value will go down attributable to token inflation. The white paper doesn’t describe native token demand from a utility level of view and the truth is that it’s exhausting to create utility demand for an alternate enterprise. Even in case you can power utility demand comparable to requiring initiatives to purchase tokens as escrow to get their token listed, the utility demand will nonetheless be a lot smaller than the “Trans-Payment Mining” token provide.

FCoin does try to create incentives for token holders to carry FT tokens and therefore to scale back token circulation. The incentive is that 80% of FCoin platform income (e.g. buying and selling charges paid by merchants and picked up by FCoin) can be distributed to FT holders as dividends. The logic right here is that FT token holders wish to to obtain dividends and therefore will NOT promote their tokens. By doing this, the token circulation can be diminished, probably driving up the token value.

Sadly, this dividend method is the basic flaw in FCoin’s token economics design. As an alternative of driving up the token value, it induced the FT token value to break down. As proven within the chart under, the FT token value surged to about $1.26 inside first two weeks after the “Trans-Payment Mining” program was launched and since then dropped to $Zero.08 within the final 2 months, about 95% from the height. Because the FT token value collapses, the motivation program “Trans-Payment Mining” which relies on FT token value appreciating over time, stops working as effectively and the buying and selling quantity drops shortly consequently.

The Invisible Drive – Why FCoin’s Token Worth Dropped

As FCoin noticed,  paying dividends gained’t incentivize token holders to carry FT tokens. It is because paying dividends causes the token value to drop and creates a market notion that the token is shedding worth. In consequence, token holders’ rational response is to hurry to promote tokens and to promote as quick as doable, which can trigger the token value to fall sooner. This downward vicious cycle is pushed by a market power that’s invisible to most individuals. Nevertheless, it’s not actually new and there may be an financial principle behind it.

On the whole, we will categorize all tokens into two sorts: currency-like token and asset-like token. Most of the time, the 2 sorts of token can’t be blended throughout token economics design. The value of differing types of token is pushed by completely different guidelines. The value of currency-like tokens is pushed by provide and demand. When the demand is bigger than provide, the token value goes up; and when the demand is smaller than provide, the value goes down. The value of asset-like tokens is pushed by the worth of the underlying asset. For instance, if the token represents an organization’s property, much like an organization’s inventory, the value goes up when the corporate’s property will increase in worth, and vice versa. Completely different from token provide and demand which generally are exhausting to grasp and predict, an organization’s property are effectively understood and straightforward to calculate. Therefore the intrinsic worth and value of asset-like tokens could be simply calculated. Extra time, the market value of asset-like tokens will converge to its intrinsic value based mostly on the underlying asset worth.  

By paying dividends to FT token holders, FCoin makes the FT token an asset-like token or asset-backed safety (ABS). The invisible power driving the value of ABS is effectively studied and understood in firm inventory, which is one other ABS. From a company finance level of view, when an organization is paying dividends, the corporate’s asset worth will go down and therefore its inventory value will go down; and when an organization points extra inventory with out adjustments within the firm’s asset worth (e.g., a inventory break up), the inventory value will go down. In FCoin’s case, dividends are paid out by way of 80% income distribution and new tokens are being minted into the community by way of Trans-Payment Mining EVERY DAY! Are you able to think about the value curve of Apple inventory and the market response if Apple does a dividend payout and inventory break up daily?!

By combining these two forces, the FT token value ought to go down and go down quick. As an example the influence of these two forces on token value, let’s do a hypothetical easy modeling of FT token value based mostly on the FCoin mannequin.

Day ZeroDay 1Day 2Day Three
Income$10.00$10.00$10.00
Quantity of new tokens issued1016.726.2
Dividend$eight.00$eight.00$eight.00
Asset worth (+ income – dividend)$10.00$12.00$14.00$16.00
Quantity of tokens (+ new tokens)10203763
Worth per token$1.00$Zero.60$Zero.38$Zero.25

 

The assumptions listed below are 1) the corporate has $10 in property on day Zero; 2) the corporate has 10 tokens in day Zero; Three) daily the corporate generate $10 in income. As present within the desk above, the value drops 75% in Three days.

Provided that the “Trans-Payment Mining” is designed to incentivize extra buying and selling, let’s mannequin a situation of accelerating income by altering assumption Three) to the corporate generated income $10 on day 1, $20 on day 2, $30 on day Three. As proven within the desk under, the value drops sooner – 86% as an alternative of 75% in Three days. That is attributable to sooner token inflation attributable to increased income and decrease token value.

Day ZeroDay 1Day 2Day Three
Income$10.00$20.00$30.00
Quantity of new tokens issued1033.Three100.Zero
Dividend$eight.00$16.00$24.00
Asset worth (+ income – dividend)$10.00$12.00$16.00$22.00
Quantity of tokens (+ new tokens)102053153
Worth per token$1.00$Zero.60$Zero.30$Zero.14

 

For asset-like tokens, when the market value is increased than the token value calculated based mostly on intrinsic worth of the underlying property, the market will appropriate itself in the end and the token’s market value will finally attain the token’s intrinsic value. Therefore the collapse of the FT token value ought to be thought of regular and is anticipated.

In principle, the brand new FT token holders who purchase FT tokens by way of Trans-Payment Mining shouldn’t have the urgency to promote their tokens. It is because from a company finance level of view, dividends and inventory splits don’t scale back the worth of the stockholders. As proven within the desk under, token holders of every day nonetheless maintain the identical worth per token equaling the fee per token within the following days even after dividend payout and token inflation.

 

Day ZeroDay 1Day 2Day Three
Income$10.00$20.00$30.00
Quantity of new tokens issued1033.Three100.Zero
Dividend$eight.00$16.00$24.00
Asset worth (+ income – dividend)$10.00$12.00$16.00$22.00
Quantity of tokens (+ new tokens)102053153
Worth per token$1.00$Zero.60$Zero.30$Zero.14
Day-Zero token holder worth
— price per token$1.00
— dividend per day$Zero.00$Zero.40$Zero.30$Zero.16
— complete dividend$Zero.00$Zero.40$Zero.70$Zero.86
— token value after dividend$1.00$Zero.60$Zero.30$Zero.14
— complete worth$1.00$1.00$1.00$1.00
Day-1 token holder worth
— price per token$1.00
— dividend per day$Zero.40$Zero.30$Zero.16
— complete dividend$Zero.40$Zero.70$Zero.86
— token value after dividend$Zero.60$Zero.30$Zero.14
— complete worth$1.00$1.00$1.00
Day-2 token holder worth
— price per token$Zero.60
— dividend per day$Zero.30$Zero.16
— complete dividend$Zero.30$Zero.46
— token value after dividend$Zero.30$Zero.14
— complete worth$Zero.60$Zero.60
Day-Three token holder worth
— price per token$Zero.30
— dividend per day$Zero.16
— complete dividend$Zero.16
— token value after dividend$Zero.14
— complete worth$Zero.30

 

Nevertheless, the FCoin income distribution design and token unlocking schedule is extra sophisticated than the straightforward instance above. To make is straightforward to grasp (not 100% correct), mainly Trans-Payment Mining program doubles the token inflation out there for income distribution. That is an comprehensible design since FCoin additionally desires to create incentives for token holders of the 49% of “beforehand issued” tokens to carry tokens as effectively. Sadly, this design adjustments the financial worth of current token holders (together with merchants) and creates surprising incentives for merchants to promote tokens acquired by way of Trans-Payment Mining instantly.

Day ZeroDay 1Day 2Day Three
Income$10.00$20.00$30.00
Quantity of new tokens issued1050.Zero243.eight
Quantity of new tokens unlocked1050.Zero243.eight
Dividend$eight.00$16.00$24.00
Asset worth (+ income – dividend)$10.00$12.00$16.00$22.00
Quantity of tokens (+ new tokens)1030130618
Worth per token$1.00$Zero.40$Zero.12$Zero.04
Day-Zero token holder worth
— price per token$1.00
— dividend per day$Zero.00$Zero.27$Zero.12$Zero.04
— complete dividend$Zero.00$Zero.27$Zero.39$Zero.43
— token value after dividend$1.00$Zero.40$Zero.12$Zero.04
— complete worth$1.00$Zero.67$Zero.51$Zero.46
Day-1 token holder worth
— price per token$1.00
— dividend per day$Zero.27$Zero.12$Zero.04
— complete dividend$Zero.27$Zero.39$Zero.43
— token value after dividend$Zero.40$Zero.12$Zero.04
— complete worth$Zero.67$Zero.51$Zero.46
Day-2 token holder worth
— price per token$Zero.40
— dividend per day$Zero.12$Zero.04
— complete dividend$Zero.12$Zero.16
— token value after dividend$Zero.12$Zero.04
— complete worth$Zero.25$Zero.20
Day-Three token holder worth
— price per token$Zero.12
— dividend per day$Zero.04
— complete dividend$Zero.04
— token value after dividend$Zero.04
— complete worth$Zero.07

 

As proven within the desk above, the worth per token for tokens held by merchants dropped instantly after the dividend payouts. That is much like the situation the place an organization points new inventory to accumulate an undervalued asset which can dilute the worth of current stockholders. Within the crypto house, the fundamental assumption is that persons are rational. Realizing that its FT tokens acquired by way of Trans-Payment Mining will drop in worth and by lower than the transaction charges they pay, rational merchants will instantly promote the tokens earlier than the value drop as an alternative of holding the FT tokens.

The FCoin income distribution design causes the value of FT token to drop and creates incentives for merchants to promote instantly as an alternative of holding FT tokens. Though the value of FT token is perhaps bumped up to start with and supported alongside manner, the market power attributable to these two results is so sturdy that it’s going to crash the value assist effort and collapse the token value. The market notion of collapsing token value will discourage new traders (speculators) and encourage current token holders to promote extra and sooner, forcing the value to drop even additional and sooner. As soon as rational merchants work out the market value route, and that they gained’t get their full buying and selling price again if they can’t promote instantly, the motivation program doesn’t work anymore and buying and selling quantity shortly dries up.

Token Economics Design Can Make or Break a Promising Token Undertaking

Token Economics is a brand new instrument that didn’t exist earlier than in web or cellular house and utilized effectively, it would play a important position in decentralizing many companies and disrupting current incumbents.  However token economics design is actually complicated and counter-intuitive. A good token economics design requires not solely deep information of the goal enterprise area, good understanding of incentive design, and robust analytical expertise to create a community impact, but in addition profound grasp of the sport principle, financial ideas, finance principle, and financial coverage which might be the invisible forces governing the market.

The collapse of FCoin could be averted with a unique and higher token economics design. By taking note of incentives and gaining information about financial coverage, token undertaking founders can all contribute to enhancing the standard and success of crypto initiatives sooner or later.

About Tom Greenly

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