Is Staking Rewards a Cost for Blockchain?
In the cryptocurrency community, there has always been a debate about whether staking rewards should be considered a cost for the network, as these token incentives increase the overall token supply (thus diluting passive holders). This controversy is further complicated by the fact that different parties have different definitions of “cost” and different understandings of what constitutes a cost. The purpose of this research article is to define from our perspective whether staking rewards are a cost for a distributed network.
What are Staking Rewards?
Staking rewards are provided to token holders who choose to stake their tokens on a Proof-of-Stake (PoS) network. This process involves locking up digital assets to help validate transactions and secure the blockchain network. The staked tokens serve as collateral for validators, who commit to acting in an honest manner. If fraudulent transactions are validated, a portion of the collateral will be slashed. These collaterals are denominated in the native assets of the blockchain (e.g., ETH for Ethereum, SOL for Solana).
Staking rewards lead to inflation in the token supply, as the rewards are distributed to honest validators through newly minted tokens. Validators stake their capital to secure the network. For example, as of September 18, 2024, the annualized inflation rates for ETH and SOL are approximately 0.8% and 5.0%, respectively, and these are entirely generated by staking rewards.
Controversy:
From one perspective, the network value is influenced by the number of tokens, and staking rewards introduce new supply, distributing the same value to more tokens, thereby lowering the token price. On the contrary, another view holds that the network value is defined by market capitalization, and therefore staking rewards are not a cost for the network as they represent a pure value transfer from non-stakers to stakers. Our view is that both perspectives are correct, but they simply address the issue from different angles. Staking rewards are a cost for the token price, as the supply increases, but they are not a cost for the network value, as the token supply affects the total number of tokens, not the total value. The table below illustrates the hypothetical dynamics of token value due to changes in supply from period t to t+1:
[Table]
We believe the key point is that, although the overall network value remains unchanged, the increase in token supply leads to a decrease in the value of each token. We do not believe that increasing supply will alter the network value. And if one believes that token value will not be affected by an increase in supply, it is akin to believing that money will fall from the sky.
From the perspective that staking rewards are merely a value transfer from non-stakers to stakers, we further illustrate this point in the figure below. The figure shows the process of token price and value transfer in a PoS network from period t to t+1. We assume 60% of the token supply is staked, with an inflation rate of 10% (through staking rewards). It can be seen that the network value remains unchanged, as the only significant variable between these two periods is the token supply.
[Figure]
As shown in the table, the token value is diluted by approximately 9%, further proving our belief that staking does not affect the network value but dilutes the value of the tokens. The change in network value for non-stakers is the same percentage as the overall change in token value. For stakers, their initial capital staked is diluted just like non-stakers, but the income they receive from staking rewards outweighs the loss caused by dilution. Investors can monitor the staking yield of these rewards through on-chain data or third-party staking indices (such as the CESR Index – a comprehensive Ethereum staking yield index) that track such income on the Ethereum network.
So, are staking rewards a cost for the network? We believe that staking rewards are not a cost for the overall network value. However, staking rewards do represent an expenditure for token holders at the current moment.
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