An adage sometimes heard by crypto pessimists is that blockchain technology has a bright future, but cryptocurrencies don’t. This notion disregards that cryptocurrency tokens and blockchains are two sides of the same coin. While there are some use cases for blockchains that do not require a token economy, such as distributed private or consortium databases, most use cases rely on the exchange of value in one form or another. In the case of permissionless blockchains, it is not possible to construct them without aligning the incentives of its users through tokens.
Moreover, a single-token model is often not enough to reflect the whole incentive system that revolves around a blockchain network. Projects, therefore, often split up the economical and functional properties of their blockchains among two or more tokens. Let us take a look at projects that have implemented a dual-token strategy and their rationale behind their tokenomic setup.
Theoretical Background
In most cases, dual-token economies aim to create one token as a store of value, while the other token is used for payments on the network. The projects behind these tokens often argue that using a single token for both purposes induces some awkward incentives for token holders. When token owners sense that they will reap a high return for holding their tokens, they are reluctant to spend them on the network. In result, tokens tend to stay put in their owners wallets rather than circulate throughout the network.
Of course, active network users may still be willing to spend some tokens for the services a network offers. However, since a lot of token owners are not willing to separate themselves from their tokens, the supply side starts to drain heavily. While this may seem like a good thing in the short run, as the token increases in price, it creates an illusory boom.
After all, the value of a utility token comes from its usability within the network, which suffers when the token price, and thus the price of network services, rises. When the prices get high enough, investors will sell their tokens en masse, bursting the bubble they have created and sending the token price into a downward spiral. By separating the investment and spending functions of tokens, blockchain networks can become more resilient against wild price swings.
Another reason for dual-token models is the regulatory uncertainty imposed by the SEC’s unclear view on whether a token can be regarded as an unregulated utility token or as a security that is subject to SEC regulation. After STOs have so far mainly been used to sell equity or investment bonds for companies outside of the core cryptoeconomy, blockchain projects are increasingly looking to issue security tokens because of their improved regulatory certainty and investor protection.
Although the SEC has explicitly stated that a security token can become a utility token, once the underlying network is sufficiently well developed and decentralized, there are no fixed rules that can be applied to determine that this is in fact the case for a specific token. As it is still very difficult to obtain them by a non-accredited investor, security tokens are not suitable as payment tokens. Hence, some projects are creating an investment token to conduct a security token offering (STO), while creating an additional utility token for payments.
Ontology
Ontology is a high-performance smart contract platform which uses ONT tokens for staking and governance, while they use ONG as utility tokens for processing transaction fees (gas). Their goal is to decouple the price swings of ONT tokens from transaction costs. The rationale behind this is that stakers who receive ONG as rewards have to sell their rewards on the market in order to pay for the upkeep of their nodes. This keeps ONG in circulation, rather than locking them up in staking wallets.
Furthermore, Ontology uses an incentive curve where rewards diminish for nodes that stake a large amount of ONT. This shall prevent the centralization of governance power within a few number of nodes.
Gnosis is a platform for novel market mechanisms, especially known for their software solutions for prediction markets. Gnosis uses GNO tokens that were sold through a Dutch auction for staking, while the staking rewards are being paid out in OWL tokens, which are the preferred payment token for services on the Gnosis network. The emittance rate of OWL is algorithmically adjusted to ensure that the total supply of OWL equals roughly 20 times its monthly usage.
Furthermore, the prices of network services and fees are fixed in such a way that 1 OWL can purchase $1 worth of services. This makes the pricing of services predictable and indicates that OWL will in fact be used as the prime payment method, although it is possible to use GNO or established cryptocurrencies as an alternative method. Gnosis expects that many of its users will stake GNO and utilize their rewards, for example, in paying transaction fees, subsidizing transaction fees for prediction market traders, or funding market makers.
Terra
Terra is payment network based in South Korea with partnerships throughout Asia. Under their tokenomic model, they operate a stablecoin (Terra), which is backed and secured by an unpegged staking token (Luna). In reward for staking Luna and thus securing the network, investors gain a share of the transaction fees levied on Terra payments. This gives investors an indication of how to value Luna tokens.
This is a very particular case of a project making slick use of circular dual-token economics, as the Terra stablecoin is fully collateralized by Luna’s market capitalization. Whenever the payment network attracts more users, Terra needs more collateralization. However, since a growing user base means an increase in total transaction fees distributed to Luna holders, investors will value Luna higher and the market cap will increase accordingly.
CERES
CERES is a US-based startup aiming to provide financial infrastructure services to the legal cannabis industry. CERES is currently in the process of becoming compliant with SEC regulations for the emittance of their CERES tokens through an STO. Once deployed, CERES Coin will be a dollar-backed stablecoin, while the transaction fees collected on the payment network will be distributed to CERES token holders.
In this regard, the tokenomic model of CERES is similar to Terra. The difference between the two models is that Terra’s Luna tokens are utility tokens since they have a tangible function on the network, as a backing method for the Terra stablecoin. In contrast, CERES seeks to register both their coin and their token as securities under SEC regulation.
Strictly speaking, it wouldn’t be necessary to register a stablecoin as a security, but CERES takes this additional step in order to have more regulatory oversight. This leaves some open questions: first of all, it is unclear whether the SEC will even consider regulating a coin that fails the Howey test. Secondly, there may be restrictions on reselling securities, depending on the exemption they are filed under, which would be counterproductive for a payment coin.
Conclusion
There are some tokenomic benefits to using a dual-token model, instead of using only a single token to cover all network functions. The main benefit is that investment and utility functions can be separated. This means that investors can use the blockchain network with the spending tokens they generated without having to sell their investment tokens.
This both promotes token holding and spending at the same time, while price swings on the investment tokens don’t affect the price of network services. On the other hand, if network usage increases, this increases the valuation of the investment token. Another benefit of dual-tokens is that they make novel use cases possible, such as backing a stablecoin with the investment token, or filing the investment token for an STO, while the secondary token operates as a utility token.
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