Exploring Tokenomics: How to Design an Effective Token Plan?

Original author: kenton.eth

Original compilation: Ismay, BlockBeats

*Editor’s note: The points program has become an important tool for projects to acquire user loyalty and promote product rise, the author of this article, Kenton, founder of Sense Finance and former MakerDAO integration engineer, discussed in detail the design, implementation and advantages and disadvantages of the points program in practical applications, from the successful experience of projects such as Ethena, Napier and Blur, we can see that a reasonable points strategy can not only effectively improve the KPI of the project, It can also occupy an advantage in the market competition. However, the points program also faces problems such as lack of transparency and user fatigue, and needs to be further innovated and optimized. *

A new era of digital loyalty in Web3 is dawning, driven by an innovative points system. Since Blur launched its groundbreaking points program in 2022, teams have embraced this new motivational phrase and capitalized on it. With the launch of each new points program, the program continues to advance in the field of incentive design, discovering new reward mechanisms and incentive behaviors. By 2024, a diverse ecosystem of points programs has flourished, with each project adding a unique touch to the ever-evolving points metaverse. This rapid evolution has created a rich variety of rewards and targeted behaviors that provide unprecedented opportunities for user activation and retention. However, for Newbie builders, navigating the complexities of “integral economics” can be daunting. That’s about to change.

By engaging in dialogue with the issuer and analyzing the 20 long point plan, this guide reveals the benefits, criticisms, and practical applications of token economics, applicable to both new and established token issuers.

Part 1 provides an introduction to points, while Part 2 provides a comprehensive overview of tokenomics in Web3.

Are you ready to upgrade your incentive plan? Let’s delve into it.

Part 1: Introduction to Points

What is points?

Fundamentally, points are a form of digital reward unit, whose value is reflected in their utility or tangible benefits, whether it be exclusive access, product discounts, or direct monetary value. Strategically deploying a points program is not only meant to foster loyalty, but also to drive product adoption, amplify network effects, and shape user behavior by accelerating the rise of the product.

Why are points important?

The loyalty program establishes a mutually beneficial relationship between the brand and users. The company gains loyalty, rise, and data, while users are rewarded for repeat usage. Well-designed loyalty programs help drive long-term engagement and deepen emotional connections, both of which are crucial for product defenses.

Generally speaking, companies/projects in Web2 and Web3 can benefit from the rewards program in the following ways:

Marketing - When combined with the referral program, points can expand marketing channels.

rise - Because points provide value, they drop the effective price of products/services, enabling point programs to increase conversion rates within marketing channels and drive core key performance indicators (such as the number of active users) to rise.

Stickiness/Loyalty - The points program can increase the stickiness of the product, thereby improving the lifetime value (LTV) of users and reducing churn. Studies have shown that loyal members spend an average of 27% longer, so when the average LTV exceeds the cost of loyal members, product stickiness can be achieved.

Market Timing - Dynamic point program can help products with network effects (such as social media platforms and financial markets) get started. By rewarding early adopters, companies can improve the user experience (UX) of the product until critical mass is reached.

Users can also find value from the reward program in the following ways:

Incentive value - This value can be manifested in the form of discounts, free products, exclusive access and benefits, as well as currency.

Brand Identity - An effective loyalty program is not just transactional rewards, but also makes customers feel valued and emotionally connected to the brand. The pinnacle of loyalty is when customers develop a sense of psychological ownership towards the brand.

Part 2: The Token Economics of the protocol

Traditional Points Program

Although loyalty programs have existed in Web2 for decades, their adoption in Web3 introduces new dynamics and opportunities. In Web2, we are familiar with airline loyalty programs such as Delta Air Lines’ SkyMiles, and credit card reward programs such as Chase Ultimate Rewards. These programs have successfully driven customer retention and spending, worth billions of dollars annually - sometimes even surpassing the company’s core business! However, Web3 elevates the concept of points to new heights.

Web3 Points Revolution

The first project to introduce points in Web3 was BLUR, which triggered a series of reactions in the Cryptocurrency field in 2022. Many projects followed suit, some of which reached impressive scales.

For example, Eigenlayer’s reward program distributes tokens worth $1.8 billion annually, assuming a capital cost of 10% Annual Percentage Rate (APR) for its $1.8 billion total value locked (TVL). Other noteworthy projects include Ethena, LRT plan (EtherFi, Swell, Kelp), and Blast.

Unique Advantages of Web3 Projects

In addition to the conventional benefits, Web3 projects can also gain the following unique advantages from the points program:

Incentives are available upon launch - projects can launch loyalty programs faster than tokens. This enables projects to immediately provide user incentives and drive rise from the beginning. Tokens, on the other hand, require careful design, distribution planning, and timing considerations, which may be difficult to prioritize during protocol launch. Tokens themselves are also products that should not be rushed to market.

Token Conversion Potential - Points can be designed to potentially convert to Tokens in the future, which increases its inherent monetary value. This allows the team to effectively ‘borrow’ Liquidity from future Token Generation Events (TGEs) to fund current incentives.

Increase flexibility - The point plan allows the team to flexibly adjust its TGE schedule, Airdrop distribution, and incentive structure without hindering rise. This flexibility makes it possible for a more effective go-to-market (GTM) strategy. In addition, unlike governance-approved incentive plans, the team can freely adjust the point plan. While Token governance is the ideal ultimate goal, in the early stages, the team’s flexibility can be its competitive advantage.

Market Timing - Tokenissuance tends to perform better in Bull Markets. The points program allows projects to accumulate momentum and community during Bear Markets, preparing for successful Tokenissuance when market conditions improve.

It is worth noting that these benefits are not limited to the situation before TGE. Projects like Ethena and EtherFi have also received similar benefits for their second season incentive plans even after token issuance.

Points Program Design

The points program in Web3 has developed multiple complex mechanisms, many of which are used in combination. The most effective plans include behavior, foundation, and enhancement, with some starting to experiment with incentive plans. Let’s delve into each aspect.

Planned behavior

The action plan details user behavior and actions to earn points, such as depositing on L2 or trading on a new AMM. Including:

Holding Unlocked Assets - Assets that users can freely access (such as LRTs, Pendle YTs, and Ethena sUSDe collateral deposits on Morpho)

Hold locked assets - Assets that users need to wait for a period of time before they can withdraw (such as locked Ethena USDe, native stake on Eigenlayer, Karak, and Symbiotic)

Provide Liquidity - Similar to unlocked assets, but with the risk of passive selling of deposited assets (such as the Thruster LP position staked in Hyperlock 01928374656574839201)

Social Interaction - Like, Share, Comment and follow

Plan Basics

The plan basics include the most important details of the points program, such as the points issuance schedule, timeline, and Airdrop scale. In many cases, the points program is divided into several seasons, each usually lasting 3-6 months, and each season has unique basic terms.

1. Distribution Schedule - holderlong long time to obtain points once, and the number of points obtained

· One-time reward

A one-time point allocation for specific actions. Used for initiating actions and marketing. For example, BLUR offers a one-time reward for listing Non-fungible Tokens within 14 days, Lyra offers a one-time reward for participating in Twitter/X Space activities, and Napier offers rewards for social interaction and recommendations.

· Continuous Rewards

Fixed Supply Issuance - The total supply of credits for the entire program (e.g. Hyperliquid) or within a Phase/Season (e.g. Morpho*) is fixed. While both reduce dilution for users, there is minimal uncertainty in fixed-plan provisioning, while fixed-phase provisioning allows teams to be more flexible in scheduling distributions. Teams typically use a fixed supply issuance basis to provide users with additional reassurance.

Variable Distribution - (such as Eigenlayer, all major LRTs, Ethena, etc.). The total supply is variable and a function of TVL. Accumulated at a certain point per USD or ETH participated daily, the variable distribution schedule dynamically dilutes early depositors. Although the expected Airdrop payment (in USD) attracts new deposits, users hoping to eliminate dilution must increase participation in sync with the rise in total deposits. The team likes this distribution schedule because it eliminates the operational complexity of ensuring fair distribution of points to all participants. To reduce dilution for early users and increase urgency, the team will release a decreasing cumulative rate schedule (such as 25 points per day in July, 20 points per day in August, etc.).

2. Time - The duration of distributing points

· Clear and vague - Most projects provide a fixed point plan/seasonal duration (e.g., 6 months), but some projects provide a range (e.g., 3-6 months). Teams seeking additional flexibility will choose a vague timeline, although this may hinder rise.

· Conditional - Some plans/seasons are designed to end early when key milestones are reached. If the expected season Airdrop allocation is fixed, this will increase the sense of urgency to participate. For example, Ethena had a $10 billion TVL milestone in the first season - this target was exceeded within seven weeks.

*Although Morpho distributes non-transferable $MOPRHO Token as incentives, its operation is similar to that of a points issuer.

Plan to improve

Plan promotion is the primary lever for team adjustments, aiming to reward users with higher relative point share through specific and targeted actions. Here is a list of different promotion mechanisms:

Improved Service Quality - Projects can improve the quality of products for one user group (such as Liquidity Providers) by incentivizing the ‘service quality’ of another user group (such as traders). For systems where users can differentiate based on ‘service’, such as Uni v3 pools, projects can allocate points based on user contributions to product user experience (such as Liquidity). Examples include BLUR, which rewards LPs by offering quotes closer to the base price of Non-fungible Tokens, and Merkl, whose incentive mechanism favors competitive quotes and earning more long Money Laundering from Uni v3 LP.

Recommend - Recommend others and earn a portion of their points (e.g. 10%). This helps in marketing and incentivizing Whale/high volume users acquisition. There is a risk of recommending through one’s own Address. Some projects may require referral codes for accessing the application, generating additional marketing buzz, although conversion rates may decrease. Examples include Ethena and Blackbird.

Tiered Referral Boost - an extension of the simple referral system. Users can earn not only their referrer’s share of points (i.e., level 1), but also their referrer’s referrer’s share of points (i.e., level 2). The purpose is to encourage users to recommend people who are expected to actively recommend others. There is a risk of recommending through one’s own Address. Examples include Blur and Blast.

Basic Enhancement - The project can add a magnification enhancement to attract and cultivate a large number of users. The basic idea is that the accumulation rate of your basic points increases with the basic usage, so as to earn rewards faster at the same usage level. Non-mass users will be underestimated and difficult to attract. For example, Aevo has a basic volume boost for traders.

Market Launch Boost - The project will use a launch boost to attract Liquidity and launch new markets before network effects take effect. The launch boost typically has an expiration date, but other thresholds can also be explored. For example, some LRT projects (such as EtherFi) use a two-week double launch boost for each new Pendle market launch.

Loyalty Boost - Giving extra points to users who pledge loyalty to the product (i.e. proving the use of product A instead of B). This is particularly effective for products that rely on network effects; when competitors’ networks shrink, the relative value proposition of the product is further enhanced. BLUR quickly attracted market share from OpenSea after its launch using this boost. This boost is more effective for Non-fungible Tokens, due to their scarcity, especially when a collector typically owns only one unit, forcing them to choose loyalty; however, for replaceable Tokens, users can spread their balance across long Addresses to avoid unnecessary pressure.

Random Reward Boost - Drawing inspiration from Skinner box experiments, some projects attract more long-term participation and follow by introducing uncertainty in the size or timing of rewards. Blur’s gift reward system uses loyalty scores to determine the rarity luck when distributing gift packs. While users don’t know the absolute size of the rewards, they know the relative quantities between each gift pack. Similarly, Aevo uses a ‘lucky’ volume boost system, where any transaction by a user has a chance to receive a volume boost, increasing the rewards for that transaction; both projects use a tiered boost system, with the highest boost frequency being the lowest (e.g., a 1% chance of a 25x boost).

Ranking promotion - In order to encourage competition among users, the project has set up leadership promotion for the top 100 point holders. This will concentrate the ownership of points among top users, but it may lead to higher absolute KPIs as users compete for higher rankings. Although not much promotion has been done, Blur used this promotion in the third quarter.

Native Token Lock-up Position Boost - Projects that hold existing native tokens will provide boosts to holders who demonstrate long-term belief. As this may reduce circulating supply, teams should expect increased volatility of their tokens. Examples include Ethena’s $ENA and Safe’s $SAFE.

TVL rise - Projects can incentivize user promotion and marketing through point increases based on TVL rise. Examples include 3 Jane, whose AMPL-style point program normalizes point ownership by TVL, and Overload, which promises to increase Airdrop distribution upon reaching certain TVL milestones.

Collective Elevation - Incentivizing social pressure and coordination for collective improvement. AnimeChain is the first project to attempt this approach, using Squads as a collective for shared improvement.

Locking and Boosting - In addition to rewarding the decay plan’s historical stickiness, some projects have begun to try to reward the future stickiness boost. Examples include EtherFi’s StakeRank 1-2x boost in the second quarter and Hourglass’s Liquidity locking 1-4x boost for different terms.

Planned Rewards

Finally, the planned incentive is the immediate benefit other than the expected Airdrop. The speculative drive of future Airdrops has driven the demand for most tokens, but some projects are trying to provide additional utility for token holders, such as the ETH Dividend provided by Rainbow Wallet for token holders.

Although this component is currently small, I believe that a longer team will try to integrate holder rewards, drawing inspiration from Web2 mechanisms, such as product fee discounts, event access, and other benefits.

Integrate all elements

The long nature of these building blocks makes the design of the points program creative. Once the team has identified its goals (user acquisition, product improvement, marketing, etc.), it can combine long building blocks sequentially or in parallel to achieve maximum effect. Here are some examples of creative use cases that go beyond traditional ‘deposit here’ point strategies to increase Total Value Locked (TVL):

Ethena’s strategy is to distribute points to USDe holders and increase returns for sUSDe holders.

Napier’s strategy is to incentivize social interaction and assets holders of other projects to increase partnerships and expand marketing coverage.

Blur’s market entry strategy leveraged various incentive mechanisms in the long-short investment to quickly establish supply and demand in the Non-fungible Token market and rapidly gain market share upon its public release. By utilizing random promotion gift packages, their high-level strategy is as follows:

User Acquisition - Airdrop 0 rewards private beta testers to attract the most active Non-fungible Token traders.

Launch Supply - Airdrop 1 rewards new listings for existing Non-fungible Token traders.

Build supply from loyal users - Airdrop 2 is larger in scale than Airdrop 1, with greater rewards, and provides boosts to loyal listers who transfer Liquidity from other Non-fungible Token markets.

Stimulate demand - Airdrop 3 rewards competitive bids to incentivize volume.

After designing its points program and market entry strategy, it will shift its focus to plan implementation. Points accumulation calculation, data pipeline, price feed, and points data storage are all part of the background of the points program. Once the background is completed, the project will focus on consumer implementation, usually a public dashboard that displays user points balance and points leaderboard. Many projects build their implementation from scratch, but some outsource the work to developer shops and other infrastructure providers.

Next, when the project is ready for its token generation event (TGE) and the first Airdrop, they will explore methods to distribute tokens to their point holder. Although the Airdrop mechanism is not included in this post, the team should consider AirdropToken in the form of Options, fixed and dynamic allocation, linear and non-linear distribution, vesting, Lock-up Position, Sybil prevention, and distribution implementation. Those interested in learning more about long can refer to this post to quickly grasp the relevant content.

Criticism and Shortcomings of the Points Program

While loyalty programs have proven to be effective, they are not without criticism. Loyalty programs are entirely centralized incentive mechanisms. Points accumulation calculations, data storage, program timelines, and standards are often opaque to users and typically kept in off-chain databases. Therefore, the issuance party of points must prioritize transparency as much as possible to establish users’ trust. If users cannot trust the terms of a loyalty program, they will not value those points and will instead hastily chase rewards.

Although for legal reasons, teams before TGE usually cannot disclose upcoming Airdrops or the allocation for point holders, they can invest in concise communication, timely disclosure of plan adjustments, and quickly fixing errors; EtherFi has set a good example in handling computational errors.

Other public criticisms, such as the unfair allocation of points to holders and the vulnerability to Sybil attacks in Airdrop distribution, actually unfairly blame the points program, when in fact it is a flaw in the Airdrop plan. Points are just an exact way of incentive and record the “points share” owned by the user. The Airdrop terms determine how, when, and what kind of reward points holders will receive.

As we saw in Eigenlayer, users are not dissatisfied with their points balance. What they are dissatisfied with is the amount of points converted to Airdrop and the undisclosed claiming criteria. After 11 months of deposit, the points holder only received 5% of TGE, and they feel they have been “farming” with yields far below the market average at the time. In addition, many points holders were unexpectedly geographically locked, unable to claim their $EIGEN shares. Although the team has complete discretion over Token allocation, they can easily avoid the latter issue by geographically locking the product in advance. The same goes for Blast - users are not dissatisfied with their points balance. Blast Airdropped 7% to points holders and required the first 1000 Wallets to be partially locked up for 6 months. For a plan of less than 6 months, this is quite consistent with other Airdrop seasons (such as Ethena, EtherFi, etc.).

In short, the effectiveness of the points program has been proven, but there are also issues such as centralization and lack of transparency. The points issuance party should pay attention to transparency construction and properly handle Airdrop plans and legal Compliance issues to maximize user trust and participation.

Although not a critique of the planned design, fatigue in points is becoming an issue within the ecosystem, as seen in public forums and private discussions with Decentralized Finance Whales. Understanding the value of a point takes time and effort. For each new plan, users need to establish an initial model and continuously update their assumptions to ensure their capital or actions yield the best return. With new point systems flooding the ecosystem, users struggle to keep up, resulting in fatigue and slow migration between point systems. For example, suppose you have two options: point A with 1000 units per day, or point B with 2 million units per day - which one is more valuable? Is the more valuable one valuable enough to justify risking capital? The answer is not immediately obvious. Projects that cannot immediately differentiate their point systems from all others will have weaker influence from their points.

The final and quite subtle side effect of the point system is that they tend to obscure the Product Market Fit (PMF). Points are a great bootstrapping mechanism, but they can hide the organic interest that is crucial to finding PMF. Even after PMF has been validated, teams need to build enough organic traction to sustain the product/service before tightening the incentives. Variant’s Mason Nystrom refers to this as the “warm start problem”. For teams that have not validated PMF yet, I suggest validating PMF in a closed beta program before introducing points. For teams that have already validated PMF, the situation is a bit more complicated, but Mason suggests that teams “take additional measures to ensure that Token rewards are used for organic usage and drive important metrics such as participation and retention.”

In summary, although the points system has performed well in the initial stage, the team should pay attention to transparency issues, points fatigue, and the masking of product-market fit issues. Through timely communication, reasonable incentive mechanisms, and ensuring organic user participation, the team can maximize the effectiveness of the points system while avoiding potential negative impacts.

Future Outlook

Looking to the future, I expect the points program to evolve to address the most pressing issues, such as plan transparency and point fatigue.

In order to enhance the transparency of the total points supply, distribution logic, and accumulated history, future points plans or some of their content will exist on-chain. Examples of on-chain points implementation include 3 Jane’s AMPLOL and Frax’s FXLT points. Another points software provider is Stack, which builds and manages the infrastructure for on-chain points plans.

Solving the problem of point fatigue is a more complex challenge. Although there is often a discussion on how to differentiate plan designs in private chats and social media, the key to reducing fatigue may lie in allowing users to quickly and confidently assess the value of points. This ability will significantly simplify the comparison between various point opportunities, making decision-making more direct and less overwhelming. Although not part of point plan design, secondary markets (such as Whales Market) can help users price points and reduce fatigue, although their liquidity is insufficient to support most point exit strategies. However, as these markets mature, they may become indispensable in price discovery, providing exit strategies, and creating a more dynamic point economy.

In general, the future loyalty program will focus on higher transparency and user friendliness, addressing the main challenges currently faced through on-chain implementation and the development of secondary markets.

Conclusion

Points have become a powerful tool in the Web3 ecosystem, bringing benefits beyond traditional loyalty programs. They enable projects to reward loyal core users, kickstart network effects, and fine-tune their market entry strategies in a more predictable manner. This leads to more effective product development and ultimately creates value for end users.

With the maturity of this field, I expect the design and implementation of the points program to further innovate. The key to success lies in balancing transparency and flexibility, and closely integrating the points program with the overall project goals and user needs.

For builders and projects in the Web3 space, understanding and leveraging the power of well-designed incentive programs may be a key factor in achieving sustainable growth. As we move forward, incentives may continue to be a fundamental component of rise incentive structures, shaping the landscape of Decentralized Finance and other areas.

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