“The past instability of the market economy is the consequence of the exclusion of the most important regulator of the market mechanism, money, from itself being regulated by the market process.”
Since its debut last year, Liquity Protocol’s v2 stablecoin, BOLD, has shown that it has a distinct monetary foundation, particularly with its innovation of Protocol Incentivized Liquidity (PIL) that dedicates 25% of v2’s protocol revenue as a perpetual liquidity budget for BOLD. Per v2’s analytics, over $500K BOLD has been distributed to grow and uphold BOLD’s onchain liquidity through PIL thus far.
However, BOLD’s supply growth has stagnated, despite its inherent distinction as a decentralized and immutable stablecoin commonly pitched as The Ethereum Dollar. In my view, a large part of the reason for this inertia is that the protocol’s in-built redemption mechanism, which helps BOLD return to its $1 price peg when it trades below it, is insufficient as the primary means of reducing the circulating BOLD supply. This has constrained BOLD’s adoption as users are increasingly wary of redemption risks; understandably, they do not want to lose their underlying ETH or LST collateral.
In the above referenced quote, F.A. Hayek argued that the instability of market economies comes from excluding money itself from the same market processes that regulate everything else. This proposal positions BOLD with Hayek’s claim in mind: it makes BOLD more market-regulated by pairing permanent liquidity and associated swap fee burns as part of an enshrined public good infrastructure for the stablecoin.
This is achieved in alignment with Liquity’s native protocol token, LQTY, which is integral to BOLD’s viability in that it is the key to directing PIL. As is contended below, PIL can become the funding source for more durable onchain liquidity for BOLD vis-a-vis a permanently locked BOLD/LQTY pool that improves BOLD’s peg stability, deepens its liquidity depth and usefulness as a stablecoin, and ultimately strengthens LQTY’s value accrual as well.
Rationale for PIL as a Public Good
Liquity’s BOLD stablecoin requires more than a redemption safeguard if it wants to be widely embraced and recognized as onchain money. While redemptions are effective, they are also the part of v2’s system design that BOLD users have regularly complained about when peg stability gets tested. This trust gap has hampered BOLD’s adoption, in effect setting a self-imposed ceiling on its potential growth.
A permanent BOLD/LQTY pool would provide BOLD an onchain anchor of stable and sustained liquidity value, thus helping the market absorb excess BOLD in circulation before redemptions need to kick in by a combination of ongoing PIL contributions to grow the liquidity pool and recurring burns of its accumulated swap fees, as detailed below.
“In rare instances, a currency can be successful without a centralized hoard that backs it (e.g. Bitcoin), but this is the exception rather than the rule. Even in such cases, something more metaphysical must undergird the circulating currency’s value, such as ‘trust in the community.’ If there is no immobilized and stable value that the circulating currency represents, the latter will have no value itself.”
The essential tokenomics effect is that permanently locking BOLD in the pool from continued PIL contributions removes more of the stablecoin from free float, albeit not interminably. That BOLD only re-enters circulation when someone sells LQTY for it, which turns the pool into a market-making apparatus that makes BOLD the settlement asset for onchain LQTY flow. Conversely, if someone wants to buy LQTY efficiently, BOLD becomes the gateway for that too.
The critical point is the BOLD/LQTY pool does not replace redemptions. Rather, it can reduce how often redemptions need to be triggered by developing a deep and functional liquidity venue that is grown in continuity from PIL, thereby keeping BOLD at the center of LQTY’s trading flow. In that sense, permanent liquidity augments v2’s existing peg defense and does not compete with it.
Tokenomics Baseline Framework
From a tokenomics standpoint, the proposal’s foundational framework is noted below for Liquity AG’s consideration:
Liquity v2 directs 25% of its protocol revenue to PIL every week, as steered by LQTY stakers who vote on how PIL should be distributed to PIL initiatives.
PIL has totaled just over $500K since v2 relaunched last year, so a conservative and hypothetical 10% allocation of PIL to this proposal would have represented about $50K of value over that same period.
From LQTY’s total 100M token supply at genesis, 6.1% was allocated to the Liquity AG Endowment and 2% was allocated to the Community Reserve, representing 6.1M LQTY and 2M LQTY tokens respectively.
Therefore, a starter BOLD/LQTY pool can be modeled as $50K total value locked (TVL), split 50/50 between BOLD and LQTY.
At LQTY’s current price around $0.18, a $25K LQTY contribution would require about 140K LQTY tokens.
Uniswap v3 supports fee tiers of 0.05%, 0.3%, and 1.0%, with 0.05% being the most sensible choice for a low-friction pool modeled as a public good.
UNCX offers a Uniswap v3 locker with the option of permanently locking the underlying liquidity with an immutable lock duration.
As noted, this proposal does not require a large endowment or community reserve spend by Liquity AG to be initiated. Instead, the proposed BOLD/LQTY pool can be bootstrapped cheaply and then scaled over time from v2’s revenue and usage.
Proposed Bootstrap for BOLD/LQTY Pool
A $50K starting pool TVL is proposed to establish credibility and utility without draining LQTY genesis allocations. The suggested BOLD and LQTY commitments to start it off are small enough to test its value proposition, while still being sizeable enough to be both impactful and useful. It turns a modest portion of LQTY’s genesis supply into a permanent market primitive for the benefit of the Liquity ecosystem at large.
Here’s a breakdown of how the pool could be bootstrapped by Liquity AG:
Start with $50K TVL for the BOLD/LQTY pool on Ethereum mainnet.
Liquity AG seeds it with $25K in BOLD and $25K in LQTY in a Uniswap v3 full price range position set at a 0.05% swap fee.
Liquity AG permanently locks the BOLD/LQTY pool via UNCX’s v3 locker.
The UNCX lock could be managed in an automated and trustless manner via a smart contract developed by Liquity AG that can collect the linked swap fees in BOLD and LQTY and then send them to the zero address to be burned.
Liquity AG proposes a PIL initiative to replenish and expand the pool from a portion of v2’s protocol revenue weekly. A target of 10% of PIL is initially aimed for, which can grow with time as BOLD’s adoption improves.
Aside from driving the initial bootstrap, PIL proposal, and related smart contract development, Liquity AG would not control the UNCX lock, thereby aligning this proposal with Liquity AG’s organizational ethos as a non-profit committed to building decentralized onchain products.
Low Swap Fee to Sustain Utility
A 0.05% fee tier keeps routing cheap and slippage low. Since LQTY is not a stablecoin, 0.05% is still substantially lower than the higher swap fees common in other LQTY pools on Ethereum mainnet, so the pool can remain the cheapest venue for BOLD movement while still attracting meaningful volume.
The lower fee choice fits the pool’s intended purpose as a public utility, as it is not meant to be lucrative for independent liquidity providers to participate in. The pool’s central benchmark is functionality, with the fundamental goal being to provide a low-friction trading setting that serves BOLD’s overarching monetary purpose and extends its use-case as the settlement asset for onchain LQTY flow.
Moreover, the lower-fee pool is more likely to produce the best combination of usage and peg support for BOLD, with long-run supply reduction of LQTY from swap fee burns being an added bonus, as described in the next section.
Aligning BOLD with LQTY
Liquity v2’s initial bet on licensed “friendly forks” and bribes markets did not materially translate into a steady value accrual narrative for LQTY, thereby contributing to LQTY’s price decline, with the token currently trading near all time lows. It’s crucial to critique core tokenomics assumptions and explore new approaches to revive LQTY, particularly since the token is an indispensable part of v2’s PIL maintenence.
This proposal is compelling because it creates multiple paths for LQTY value accretion to align with BOLD’s growth and that are not in play with v2’s present design:
The initial BOLD/LQTY pool bootstrap uses LQTY itself, and assuming that liquidity is permanently locked as proposed, it would give the LQTY side of the pool a scarcity effect from day one.
The BOLD/LQTY pool creates continuous demand for LQTY through PIL. If PIL is used to fund more BOLD/LQTY liquidity over time, it’s effectively buying LQTY in the open market and pairing it with BOLD indefinitely.
Stronger LQTY value accrual should improve LQTY’s visibility across DeFi. That enhanced visibility can broaden awareness of Liquity v2 itself, as many users discover protocols via their tokens. More awareness can drive more BOLD adoption.
If swap fees are burned, then the BOLD/LQTY pool gives LQTY a more resilient narrative: the token would not just be a governance token as in v2 or a revenue-capture token as in v1, but an all-encompassing asset being acquired, locked, and reinforced via market usage and productive liquidity provision.
Recommended PIL Allocation
The ideal long-run PIL allocation in support of this proposal is likely not a single fixed percentage and it should instead scale with BOLD’s growth. A sensible framework for Liquity AG to propose to LQTY stakers would thus be as follows:
10% of PIL for bootstrap and early growth of the BOLD/LQTY pool.
20% or more of PIL once the permanently locked pool is clearly proving its value and BOLD is scaling into a much larger monetary asset.
As the BOLD supply grows, a greater PIL commitment becomes easier to justify because the BOLD/LQTY pool would need to scale with the expanding monetary base it supports. The protocol would want the permanent liquidity budget to be more aggressive so it can keep reducing free float, improve routing, and reinforce BOLD’s peg at a meaningful scale.
Notably, this proposal does not preclude a sizeable percentage of PIL from being directed to BOLD stablecoin pair initiatives to incentivize independent liquidity providers, which is helpful in fostering demand and utility for BOLD as well. Nevertheless, the status quo of this commandeering the near total use of PIL, as is the case now, is untenable.
Why the Burn Matters
If swap fees are burned, then trading activity directly reduces BOLD supply. That is a lasting supply sink from a verifiable market mechanism, and it is important because BOLD should not rely on redemptions alone to absorb excess supply, as previously explained.
“It makes no real difference whether it’s pure silver, debased silver, leather tokens, or dried cod - provided the state is willing to accept it in payment of taxes. Because whatever the state was willing to accept, for that reason, became currency.”
The analogy to fiat is akin to how taxes remove money from circulation and help consecrate a currency, as the late David Graeber highlighted in Debt: The First 5,000 Years.
The analogy to crypto is EIP-1559, which reinforced ETH’s moneyness by linking Ethereum’s usage to ETH supply reduction. BOLD needs a similar mechanism to facilitate its supply being made more responsive to the market process itself.
Why This Scales with Adoption
The best part of this proposal is it scales naturally. PIL is not fixed in absolute terms, as it contracts or grows with v2’s protocol revenue. That creates a DeFi-native flywheel:
More BOLD usage increases v2’s protocol revenue. More revenue grows PIL.
More PIL supports deeper liquidity for the BOLD/LQTY pool, which improves trade execution and peg stability. Better peg stability makes BOLD more attractive.
More LQTY value accrual improves Liquity’s brand visibility, which can stimulate greater BOLD adoption and awareness.
Conclusion
Liquity AG - it’s time to be bold, pun intended!
By allocating a small bootstrap from the LQTY genesis allocation to create a credible, permanently locked BOLD/LQTY pool, Liquity AG can then propose the use of 10% of PIL to start for the purpose of expanding the pool over time, thereby enabling more locked BOLD to further reduce its free float while generating ongoing demand for LQTY. Swap fees can be burned so market dynamics contribute to supply reduction for both tokens.
This is a better use of PIL than fleeting incentives to independent liquidity providers alone. The proposal turns Liquity v2’s PIL into permanent onchain infrastructure, strengthens LQTY’s value accretion and prominence, makes BOLD harder to destabilize, and gives BOLD a more plausible path to become The Ethereum Dollar.