Stablecoins play a key role in the crypto market, with 2024 witnessing a surge in new stablecoin launches. In such a competitive landscape, attracting liquidity to boost total value locked (TVL) has become essential for success. As a result, many projects are turning to incentives to drive greater adoption and usage of their stablecoins, for better or for worse...
Here are the Do's and Don'ts when incentivizing a stablecoin
Do's
Leveraging concentrated liquidity
The primary focus for teams developing stablecoins is to ensure their liquidity in DeFi.
Concentrated liquidity (such as UniswapV3) is often the most effective solution to incentivize liquidity efficiently. Although this may seem more complex and less accessible to retail users, concentrated liquidity effectively attracts DeFi professionals and whales who can strategically adjust liquidity and make a significant impact.
With Merkl, stablecoins creators can effortlessly incentivize concentrated liquidity or create liquidity walls. By designing incentives that reduce slippage when buying a stablecoin (as opposed to selling), increasing the TVL of a stablecoin become a seamless process.
Incentivizing markets where stablecoins are used as collateral
Stablecoin developers should focus on minimizing the perceived cost of capital for holding their stablecoin relative to other assets. This can be achieved by making the stablecoin usable as collateral across as many platforms as possible, with deep liquidity for borrowing or trading. In practice, this means incentivizing markets where the stablecoin is employed as collateral to borrow USDC (ideally paired with concentrated liquidity incentives).
Additionally, incentivizing assets deposited as collateral can encourage more users to engage with and utilize the collateral, which ultimately leads to increased the TVL. This strategy can also serve as a subtle method to encourage people to hold the stablecoin in a single-sided manner.
Don'ts
Incentivizing stablecoin lending
Incentives for lending stablecoins often end up being disproportionately costly relative to the actual value they generate. This is because borrowers frequently re-lend, leading to a situation where stablecoin developers may inadvertently incentivize the same stablecoin multiple times.
For example, $10 million in liquidity lent could actually represent the same $1 million being lent out ten times. Furthermore, borrowers may dump the lent stablecoins to switch to another, compounding the inefficiency. In such cases, even with $10 million of stablecoins lent, if 90% of it is borrowed and dumped, the effective cost of attracting that $10 million in liquidity could be significantly higher. Assuming a 5% cost to attract the $10 million, the real cost of capital in this scenario could rise to 50%.
Spreading incentives across multiple pools
This strategy often leads to further fragmentation of liquidity, ultimately resulting in a worse overall experience. While this approach may allow for the promotion of a vanity metric, such as showcasing high trading volume, much of that volume would likely be driven by toxic arbitrage rather than genuine market activity.
Incentivizing pools with volatile assets
In this case, the cost of capital is higher because liquidity providers expect a greater return to compensate for the risk of impermanent loss.
Using bribes to attract liquidity
Dealing with bribes (paying governance token holders to direct new token emissions to a specific pool) can be ineffective in the long run. While bribes may seem appealing, they are based on market inefficiencies. Over time, they will become less efficient than direct market incentives.
