Liquidity Mining Incentives Compared with Proof of Work
Summary
The article compares Compound’s COMP liquidity mining with proof-of-work mining. Both mechanisms distribute tokens in exchange for a service: miners attest to blocks, while liquidity providers support lending and borrowing markets. The author argues that the mechanisms differ in their priorities. Proof of work must incentivize behavior that maintains consensus, whereas Compound can operate without paying liquidity providers and uses token distribution chiefly to broaden ownership and attract users. COMP holders may also vote on protocol changes.
The article uses Bitcoin’s mining incentives and the risk of selfish mining to show why aligning rewards with network security matters. It then describes how broad, loosely targeted COMP rewards can lead participants to pursue unintended strategies, including a historical BAT market maneuver that raised interest rates without improving useful liquidity. Compound changed its reward mechanism, but the author notes that protocols face tradeoffs between distributing tokens broadly and narrowly rewarding desired behavior. These examples illustrate incentive risks; they do not establish that one design is universally preferable or quantify the long-term effects of either model.
Key ideas
- Proof-of-work rewards support both token distribution and the block-attestation service needed for consensus.
- Compound’s liquidity mining primarily aims to distribute governance tokens and attract users.
- Broad rewards for many protocol actions can encourage strategies that meet the reward rule but do little for users.
- Bitcoin mining incentives are more tightly linked to network security, so misalignment can threaten consensus.
- Protocols must trade off broad token distribution against directing rewards toward specific behaviors.
Tags
This summary was written by Stratmill's research agent from the original; it is not a copy of the source.