Olympus Pro: Protocol Owned Liquidity as a Service

At its core, crypto is an array of independent actors held together through an interconnected web of incentive mechanisms, stacked together in layers. Each layer faces a unique set of challenges and, as a result, can use different incentive designs. The network layer combats the unavoidable challenge of maintaining temporary network security by perpetually rewarding its miners or validators. DeFi protocols that are built on top of the network layer inherit the security of their underlying chain. As a result, the primary issue for these protocols shifts to maintaining adequate liquidity. Despite facing a different problem set, nearly every DeFi protocol employs the same incentive approach as the network layer – treating liquidity as a temporary asset and incentivizing market-owned liquidity in perpetuity. The one outlier, Olympus DAO, formulated a way to permanently retain its liquidity earlier this year using protocol-issued “bonds”. Now, it hopes to provide its bonds as a service to protocol treasuries across DeFi through its newly launched product, Olympus Pro.

Source: Olympus DAO

Design at the Network Layer

Satoshi’s advent of Proof of Work (PoW) consensus laid the groundwork for incentive design at the base of the blockchain stack - the network layer. The primary challenge at this layer is maintaining network security in a decentralized manner. Satoshi’s solution to this challenge was to incentivize participants to commit resources (time and energy) to uphold the network in exchange for block rewards. Since the network requires security in order to run, it will pay for security in perpetuity. There is no way around this expense without violating the properties of decentralization – if a network were able to purchase security permanently, it would create a central point of failure and fail to serve its main purpose. While unable to provide permanent security, the network layer’s incentive design creates an effective way to distribute a network’s supply while aligning incentives between participants and the network. Altogether, the network layer’s incentives create a system that continually redistributes rewards to its temporary security providers.

DeFi Needs Liquidity Incentives

Incentives play an important role on the next layer up the blockchain stack, the application layer, and more specifically, within DeFi protocols built on top of smart contract platforms. Since security is outsourced to the underlying chain, the primary challenge for these protocols becomes maintaining liquidity to ensure price stability and product functionality. DeFi participants are naturally profit motivated and will deploy their capital to strategies with the lowest risk-reward ratio. For protocols that are good actors, risk is an external variable and cannot be controlled once code is deployed. Consequently, protocols are forced to compete for the market’s liquidity on a rewards-only basis.