Demurrage implementation

Combining together the previous pieces of analysis covering how demurrage could be implemented in a Web3 network has led to the following initial implementation suggestions.

Network coin tax

A network coin tax is the most compelling approach for implementing demurrage. It creates an impulsion to use the network coin more productively due to the coin taxation and it is also highly effective for creating a reliable income source for the ecosystem's treasury. To reduce the impact of the tax on day to day usage it is suggested to charge the taxation rate regularly and in very small amounts, such as daily or twice a day. This helps to prevent any sudden usage changes that would be more likely if a weekly, monthly or annual based approach was adopted.

Wallets & contracts

A network coin tax would be applied to all wallets and contracts, there should be no way to avoid the coin tax, as this means every user is treated equally. As an example, every wallet and contract might need to pay an annual network coin tax rate of 3%.

Node operation

Node operators can be compensated using the network coin tax income rather than being reliant on transaction fees. Transaction fees could then be lowered to whatever is possible without jeopardising the security of the network. Users could spam the network if transactions were free so this spam problem needs to be resolved with identity solutions or other deterrents if the network wanted to remove transaction fees entirely.

Staking

The network coin tax rate can be reduced for users that have staked to the network, which means they would be participating in the consensus mechanism that secures and operates the network. Users would be incentivised to stake their coins to reduce their taxation rate. For example, users that don’t stake their network coins could receive a 10% taxation rate whereas those that do have their coins staked could receive a 3% taxation rate.

Network coin supply

A fixed supply is the simplest and safest starting point for a Web3 network. It is difficult to create a reliable and automated solution for increasing and decreasing the supply of the network coin in response to every change in economic activity that influences the demand for the network coin. It is therefore easier to start with a fixed supply and to increase the taxation rate to help with capturing some of the unearned income from coin price appreciation. Solutions that can help with changing the supply to maintain stable prices could be considered in the future once more trends and reliable data sources are available.

Token asset exchange liquidity incentive

The network coin is a highly suitable candidate for becoming a primary liquidity pairing with tokens to facilitate token exchange. A Web3 network can incentivise this use case by decreasing the network coin tax rate for users that deposit their coins as liquidity into these exchanges.

Single asset lending and borrowing liquidity incentive

Users might not have the time or capacity to properly participate in the token exchange liquidity incentive. Some users might not want to hold other tokens due to the risk of loss. A single asset lending and borrowing liquidity incentive helps to solve these problems as it provides the user with a risk free way to let other people use their network coins more productively. Similar to the token exchange liquidity incentive, this can be incentivised by decreasing the network coin tax rate for those that deposit and lend their coins out to others.

Contract collateral incentive

Collateral can be used in contracts as assurance. This increases trust and means that the collateral can be used in a mediation process if things go wrong. Contract collateral is a highly compelling use case for the network coin. This use case is complimentary to the financial incentive use cases as any liquidity position could also be deposited and used as contract collateral. Users would be incentivised to add contract collateral through the same incentive, reducing the network coin tax rate for those that lock up their collateral so that it can be utilised in contracts.

Network coin supply adjustments

As the usage of the network coin within financial protocols increases over time the benefits of maintaining stable prices should also increase with it due to the responsibility of the network coin being used as a primary pairing for facilitating token exchanges. Founding entities may want to do small and conservative supply increases to help with maintaining stable prices. They can then automate this process when it is possible to do so. A mechanism that handles supply changes does not need to accurately maintain stable prices, instead it could simply help to reduce the amount of price appreciation due to any increased economic growth and demand for the network coin.

Network coin tax rate adjustments

A Web3 network could experience dramatic periods of growth and contraction in its early phases. It will be difficult to know how much the network is growing during different periods and how fast this rate of growth or contraction changes. In the earlier phases of the network it might be more practical for the founding entities to set the initial network coin tax rate and then update this based on metrics that can help with understanding the network's economic growth and price appreciation. This could also be potentially handled directly by the wider community if the right tools and processes are in place to provide a simple voting process. When the network is larger and more mature the growth rate will likely become more limited and within far more predictable ranges, mostly due to the larger scale of the network. This factor along with the usage of any historical data points around the influence of demurrage on economic growth rates will make it easier to develop a more automated solution over the long term. Alternatively it will at least help with making a solution that is simpler for the community to use to become informed when making any decision about the coins taxation rate.

Network coin tax rate considerations

Sustaining long term demand

Demand for the network coin needs to be high enough that the value of the network coin remains high - this is essential for the security of the network. If it decreases over time it could become easier to accumulate enough of the network coin to maliciously attack the network. Too much demand can also be problematic, the network coin shouldn’t become storable and easy to accumulate. Demand for the coin that results in people continuously storing the network coin rather than using it productively is a highly undesirable outcome. The network coin tax rate will need to be adjusted over time to ensure the right level of demand for the coin is achieved.

Financial protocol yields

Yield generated by financial protocols will likely play an important role in determining the network coin tax rate. The network coin tax rate should be above the average low risk yield as this can help with preventing concentrations in network coin ownership. If it is below this rate it becomes easy to continuously accumulate a growing position of the network coin.

Economic growth rate

How fast the economy expands and contracts will have a big influence on what the network coin tax rate should be. If the economic growth rate is high, and this leads to a lot of network coin price appreciation, this means people are receiving a lot of unearned income from simply holding the network coin. A network coin tax can help to reduce this issue as it can be increased and decreased in response to these economic changes in an attempt to capture this unearned income. If a demurrage based network coin can help with improving the economic growth rate there will be price appreciation in the network coin, which can be mostly captured using the network coin tax.

Funding process effectiveness

Income generated by the network coin tax would be continuously collected, on each day and throughout the year. An ecosystem would need to spend this income each year to prevent the treasury from accumulating an increasing amount of coins. The effectiveness of the funding process could limit how high the network coin tax rate can be, as if the return on investment isn’t good enough it could encourage people to find alternative networks that are more effective at using the tax income to fund impactful initiatives.

Token money implementations

Tokens that want to implement a token tax to simulate demurrage and increase the impulsion for people to use the token more productively could be limited by the network coins taxation rate. The network coin has unique properties that make it highly desirable. For instance the network coin is required for network usage and it will always exist in the network - this cannot be said for tokens which could fail or be replaced at any time. If the network coin tax rate was the same as a tokens tax rate the user would likely be more compelled to use the network coin instead. The network coin is more reliable and predictable than tokens which can fail and be replaced. The network coin tax rate could create an artificial ceiling for token taxation rates due to its more desirable properties. This factor could be an ongoing concern to think about as the network coin tax rate will need to be sufficiently high enough to not limit the potential tax rates that tokens can adopt.

Network effects

Whether a Web3 network can achieve network effects or not will influence what the tax rate can be for the network coin. If network effects are achievable the network coin tax could be set at a higher rate and sustain this rate due to the difficulty of other networks being able to compete with the most adopted and prominent network.

Legislation

Global legislation could be adopted that enforces a certain taxation rate at the network level to ensure the network coin will not centralise over time. This might be an effective additional way to increase the reliability of these networks and any systems of money that get built on top of these networks as it might help with preventing people from starting and operating networks with storable coins that lead to concentrations in coin ownership over time.