Fundamentals: Aleph Zero and its Inflation Mechanism
Inflation is the bogeyman of economics, almost always seen in a negative light. This isn’t always the case, though, as inflation is a crucial element for maintaining sustainable growth, as we will soon learn through the description of Aleph Zero’s inflation mechanism.
In the past few weeks, we’ve received numerous queries regarding the inflation mechanism in the Aleph Zero ecosystem—and today, we want to dive deep into how inflation makes staking possible for the broader ecosystem.
In Proof-of-Stake blockchain protocols, a certain group of users called validators and nominators are responsible for the system’s functioning. Validators verify the truthfulness of the transactions, whereas nominators vouch for the validator’s honesty. Both groups involved must stake their tokens, introducing a financial incentive for remaining honest. For assisting in maintaining the decentralized structure of the blockchain and verifying the transactions, validators and nominators are compensated. Inflation is a key element that makes this process possible—but how exactly does it work?
Why Do We Need Healthy Inflation?
In traditional capital markets, a controlled influx of capital into the circulating supply provokes consumers to buy now rather than wait because they are aware of the potential price growth that is lurking around the corner. In the context of blockchain ecosystems, many of the same arguments apply. Aleph Zero’s token supply will be supplemented by 30 million tokens per year—at least until that number is voted to be increased or decreased by the decentralized governance. Now let’s go through the multiple reasons for introducing inflation:
The Basic Arguments:
- Firstly, the nodes securing the chain (i.e., validators) need to be incentivized to do so, and the rewards for the work are procured by increasing the circulating token supply.
- Secondly, the nominators need to be remunerated as well, as they play a similarly important role in securing the system by choosing the more trusted validators over the less trusted ones.
The Advanced Arguments:
- The ecosystem in its entirety benefits through the constant influx of funds into the treasury. Currently, 10% of the 30M tokens that are dedicated to maintaining inflation will be redirected to the treasury per year. These funds will benefit the Aleph Zero blockchain as they will be spent on ecosystem growth, ensuring the constant development of the network.
- one of the economic arguments for maintaining a healthy dose of inflation can be attributed to the fact that because it is distributed among stakers, its existence provides an incentive for long-term holders and reduces the risk of panic token sales in the face of the ever-changing market conditions—staked tokens have a two-week unbonding period. Besides helping to choose trustworthy validators, staking can be seen as an act of faith in the token, as this practice makes it impossible to engage in quick sell-offs. As such, lock-ups are very beneficial for the token economy and should be incentivized.
The Ecosystem Treasury and Vested Tokens
As mentioned before, 30 million tokens are being introduced into the current circulating supply of tokens per year. That number will be distributed among validators, nominators, and the ecosystem treasury. The former group will receive 90% of the tokens, whereas the ecosystem treasury will benefit from the remaining 10%. The funds that make their way into the ecosystem treasury will be used to ensure the ongoing development, growth, and sustainability of the Aleph Zero project through multiple initiatives such as, for example, the ecosystem grant program.
When it comes to the tokens that are currently vested, similarly as in many other chains (e.g., the entire Polkadot and Cosmos ecosystems), the system allows owners of such coins to stake them, and users may choose the destination at which the rewards will be accumulated similarly as in the case of staking unvested tokens.
Keeping Inflation Under Control
The coin economics mechanism at the heart of the Aleph Zero blockchain ensures that inflating the circulating supply of AZERO tokens serves only to further the best interests of the community and the network we are collectively building. We are confident that the solutions adopted thanks to our involvement with Substrate will guarantee a responsible and safe policy to help us avoid inflation’s negative impacts. Moreover, do keep in mind that the number is subject to change as soon as decentralized governance is in place.
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