What sets Avalanche apart from others?
Why should you care about understanding the economics and governance parameters for crypto assets you invest in and own?
Do you want to know how to even find and make sense of this data beyond YouTube videos and taking other people’s word for it, aka secondary sources?
Given that these protocols are programmable forms of smart money with their own unique economic factors such as inflation rate, supply, and a lot more, if we better understand how these parameters function, we can better evaluate their value, longer-term potential, and factors that directly and indirectly affect price, usage, and more.
In many cases, we can also participate in some form in the governance (decision-making and voting processes) of the protocols we own.
How cool is that?
As far as where to find said data: we can refer to the project’s original whitepaper (primary source publication from the development team) and secondly, open-source financial data on the blockchain which is an immutable, public ledger after all, useful for this exact purpose.
Refer to the block explorer, for the purpose of this article we will use avascan, Avalanche’s blockchain explorer.
A block explorer is an online tool (ledger) to view all transactions that have taken place on the blockchain, the current network hash rate and transaction growth, and the activity on blockchain addresses, among other useful information.
In this article I will highlight some key economics and governance factors of Avalanche ($AVAX). I later briefly compare them to those of Ethereum.
Product-Market Fit & Use Case
The Avalanche platform is an open-source, high-performance, scalable, customizable, and secure blockchain platform.
It is one of the fastest smart contracts platforms in the modern day blockchain industry, as measured by time-to-finality (1.5 sec).
The Avalanche bridge from Ethereum also has the second highest activity as measured by TVL (total value locked), with $6.9B being bridged as of Nov 2021.
The Avalanche platform targets three use cases:
i. building application-specific blockchains, for both private (permissioned) and public (permissionless) deployments
ii. launching highly scalable and decentralized decentralized applications (dApps)
iii. allowing the building of complex digital assets with custom rules, covenants, and riders (smart assets)
In this way, the platform seeks to solve the fragmentation in regulatory and geographical differences in the world’s financial markets by creating a fast, scalable platform for deploying, transferring, and trading digital assets in one ecosystem.
AVAX Token Economics
Its native token $AVAX has three use cases: for payments on the network, for staking, and for atomic swaps.
It is also used as a base for a unit of account for exchange.
For the use case of payments, AVAX allows thousands of transactions per second, in a fully trustless, decentralized manner, providing a value proposition over Visa for merchants to transact with lower fees.
Avalanche has achieved a throughput of 4500 transactions per second with a higher potential possible, < 3 second finality with the majority happening in <1 second, and theoretically the network is able to accommodate millions of validators that can all participate in consensus, though the current number of validators are 1179 as of Nov 2021.
The AVAX token is also used in staking and securing the Avalanche network; in order to validate, a participant must lock up coins and stake.
Validators, or stakers, are compensated for their services based on the amount staked, duration of staking, uptime, and response latency.
The AVAX token also serves as the universal unit of exchange from which the Avalanche network will be able to support trustless atomic swaps natively on the platform, enabling native, truly decentralized exchanges of any type of asset.
Atomic swaps are automatic exchange contracts that allow two parties to trade tokens from two different blockchains, eliminating the need for centralized third parties when executing trades.
Monetary Policy of AVAX
The objective of the AVAX monetary policy is to balance the incentives of the end user to stake the token vs. using it to interact with the services available on the platform.
In this way, participants in the platform collectively act as a decentralized reserve bank. More information regarding the governance of the monetary policy of Avalanche is in the below Governance section.
Maximum Supply — Capped: 720M AVAX
Supply at Launch (Sept 2020), for allocation and vesting information, see Token Allocation section below. — 360M AVAX
Free Float Supply — supply more directly available to the market: 220.29M AVAX
Circulating Supply: 223.85M AVAX
Liquid Supply: 235M AVAX
Market Capitalization — Nov. 2021: $29.8B USD
Fully Diluted Valuation: $96B USD
The AVAX token has a capped supply at 720M tokens, and 360M of the tokens were available on the mainnet launch in September 2020 (with the majority locked in vesting periods between 1–10 years); the remainder 360M AVAX tokens will be released over time to staking validators.
Note that the reward rate is subject to governance and allows the token holders to determine the rate at which max supply is ultimately reached.
As with Bitcoin, reward rates will decrease over time as it gets closer to the capped supply (although at a much smoother rate rather than infrequent halvings).
It is important to note that unlike other capped-supply tokens which bake the rate of minting perpetually, AVAX is designed to react to changing economic conditions.
As of Nov. 2021 now, the inflation rate is currently at 39.9%; this is markedly higher than that of Bitcoin or Ethereum, however note that unlike ETH, all fees are burned which long term should create deflationary pressures.
Also note that inflation emissions are subject to governance over time and can be reduced, so one needs to better understand the conditions under which this will lower and adapt and how this affects the total inflation rate over time.
Liquid Supply Curve for AVAX (Source: Messari.io)
The objective of the emissions function for AVAX is to reach a capped supply in a similar fashion to Bitcoin’s emissions curve, yet maintain the ability to govern the rate at which the system reaches said limit.
Fees & Transaction Costs
Fees paid for many transactions on the Avalanche network are burned, reducing the supply, and increasing the scarcity of AVAX.
There can be deflationary pressure created if the number of AVAX burned exceeds the amount minted in staking rewards (which is a factor controlled through governance, discussed below).
Unlike Ethereum’s EIP 1559, the entire fee is burned in the Avalanche network. All transaction fees in the Primary Network (X chain, P chain, C chain) are paid in AVAX which are burned, not paid to miners, which benefits everyone.
The minting process offsets the transaction fee burning, therefore there is no danger of the system grinding to a long term halt due to gradual destruction of coins, plus note that the minting function and fees burned can be adjusted by governance.
Transaction fees differ depending on the type of transaction.
Simple payments of AVAX carry little cost while creating new subnetworks carry the heaviest fees.
Fees carry a sliding-cost function where the fee is set by a globally verifiable fee-function and not by the issuer of the transaction. As the network congestion increases, fees increase.
After specified time periods, the function is recalculated to accommodate natural increases in transaction volume over the network.
Unlike Ethereum’s model where every transaction pays some gas, Avalanche adopts a transaction tier model for two types of transaction processing mechanisms, and one model requires no fees.
Future developments will support free frequency-limited transactions which do not require fees in coins but require pre-computation.
Staking & Minting
Running a validator and staking with Avalanche provides competitive rewards of between 9.69% and 11.54%, as of Nov 2021, depending on the length for which one stakes.
The maximum rate is earned by staking for a year, whilst the lowest rate for 14 days. Approximately 61% of the entire supply is currently staked.
This encouragement to lock one’s stake up for a longer period to receive higher rewards means less tokens are moved and sold on the open market than would be otherwise.
The minimum amount needed to currently become a validator is 2000 AVAX which can be reduced over time via governance as price increases. As a criticism, that is 258k USD as of today to become a validator so it is out of reach of many market participants.
Validators can also charge a small fee to enable users to delegate their stake with them.
Minting in AVAX is done via uptime and response latency, which negates “rich-get-richer” compounding effects since there is no leader accumulating rewards.
Market Cap & Trading Volume
The market capitalization (of circulating supply) in Q4 2021 is 29.8B USD, with a 24H trading volume of 2.8B today (23 Nov 2021), and a fully diluted valuation of 96B USD.
Binance offers the most 24H trading volume as of now in the AVAX/USDT pairs with 837M USD volume, or 29.8% of total volume. The total real 24H trading volume is approx. 1.75B USD, with a volume turnover of 5.62%.
Avalanche’s 1Y Sharpe Ratio is 2.76, while the 30D Sharpe ratio is 7.9 owing to the larger volatility the last 30 days as compared to volatility and range in BTC.
Where did I find all this? Open-source financial data on the blockchain.
AVAX metrics. Source: https://avascan.info/ dated 22 Nov 2021 3:20AM UTC
Avalanche Bridge & TVL
Avalanche offers a bridge from Ethereum to Avalanche.
The total amount Bridged as of 22 Nov 2021 3:20AM UTC is 6.2B USD, most of which is wrapped Ether, USDC, and wrapped BTC.
AVAX bridge metrics as of 22 Nov 2021.
As of 23 Nov 2021, the Avalanche ecosystem has $12.42B USD in Total Value Locked, with 22% of that having increased over the last 7 days. (Source: defillama.com)
Launch, Funding, & Initial Token Allocation
Author Note — This section is pure data to understand the launch and allocation (so we have some idea of who owns the tokens, what % split, and at what cost basis).
AVAX Initial Supply Breakdown (Source: Messari.io)
Note — as compared to many other public blockchains, significantly less amounts of the initial supply at launch was allocated to public sale than for Ethereum or others.
A much greater % of initial allocation is controlled by insiders including VC firms and the team which can be considered as a possible risk in the AVAX token distribution.
- 50% of AVAX tokens allocated to staking rewards
- 9.26% of the tokens are allocated to the Foundation. These tokens are used for various ecosystem-building initiatives, including marketing, bounties, incentive programs, and more. These have a 10 year vesting period.
- 7% of the tokens are allocated to Community and Development Endowment — to groups and individuals who are developing core tooling and infrastructure on Avalanche as well as supporting Avalanche through community building and marketing efforts. These have a 1 year vesting period from the date of the award.
- 0.27% of the tokens are allocated for the Testnet Incentive Program. Participants were able to complete challenges to earn up to 2000 AVAX and these tokens are locked for 1 year.
- 5% of the tokens are allocated to strategic partners, with the mandate of being distributed to groups, organizations, and enterprises that are building businesses using the Avalanche technology and network. These have a 4 year vesting period.
- 2.5% of the tokens are allocated for airdrops to various communities to onboard people into the Avalanche ecosystem.
- 10% of the tokens are allocated to the founding and non-founding team members of AVA Labs. These have a 4 year vesting period with the team members and founders.
Compared to many other projects, more AVAX supply is controlled by fewer entities.
Avalanche has had 3 funding rounds…
- Private Seed Sale in Feb 2019 for 6M USD
VC Firms Andreessen Horowitz, Polychain Capital, MetaStable, Initialized Capital, as well as individual investors Balaji Srinivasan, Naval Ravikant, and Ramtin Naimi participated with 18M AVAX allocated at a price of $0.33 per AVAX
2. Private Staking Round #1 Sale in June 2020 for 12M USD
Participants included Galaxy Digital, Bitmain, Initialized Capital, NGC Ventures, and Dragonfly Capital, among others. 24M AVAX were allocated at a price of $0.50 per AVAX.
3. Public Token Sale in July 2020 for 42M USD
Public sale with 72M AVAX allocated at three options
i. $0.5 per AVAX with one year vesting schedule with quarterly unlocking
ii. $0.5 per AVAX with an 18 month vesting schedule with quarterly unlocking. This option allowed purchasers to a much larger set of tokens than option i.
iii. $0.85 per AVAX with no lockups. Maximum check size of $5000 USD to prevent concentration and incentivize distribution.
The Ava Labs development team is a world-class team of experts with collective experience from leading Fortune 500 finance and tech companies as well as blockchain companies.
The Founder & CEO is Emin Gün Sirer, a prominent computer scientist, known for his contributions to peer-to-peer systems, operating systems, and computer networking.
Avalanche is a highly inclusive platform, enabling anyone to connect to its network and participate in validation and governance first-hand. Any token holder can have a vote in influencing key financial parameters and evolution of the ecosystem.
Due to Avalanche’s Proof of Stake consensus, validators only need modest hardware requirements and it doesn’t use enormous amounts of energy. Avalanche’s consensus mechanism is theoretically able to scale to millions of validators participating in consensus at once, offering unparalleled decentralization compared to that of Bitcoin, for which in the present, there exist 5 mining operations which control the majority of Bitcon’s hashing power.
The consensus protocol does not need a leader to reach consensus like that of PoW, PoS, or DPoS. This factor leads to increased decentralization of the network without sacrificing scalability.
The protocol creates 1–2 seconds to achieve finality, 1000–10,000 transactions per second (TPS), and the network does not need to agree on participants’ identities to achieve consensus.
In the process to achieve consensus, validators randomly poll other validators to determine whether a new transaction is valid. After a certain number of this repeated random subsampling, it’s statistically proven that it would be almost impossible for a transaction to be false. All transactions are finalized immediately without other confirmations needed.
This means that there are no blocks as seen in traditional blockchains, but rather parented transactions known as vertices. Therefore, plus given the fact that there are no miners, there is no centralization of hash power through pools.
It is an egalitarian ecosystem in which all nodes in the network are born the same (no leads and none have special rights). Since there are no miners, there is no centralization of hash power through pools.
The network also supports high Byzantine tolerance — up to 50% of the nodes can be Byzantine and try to imbalance the network however they will be unable to do this in a way that causes two nodes to decide on two different colors at the same time due to the way consensus works as described above..
More details about the consensus protocol Avalanche uses is in their consensus whitepaper.
Avalanche provides on-chain governance for critical parameters of the network where participants are able to vote on changes to the network and settle network upgrade decisions democratically, including factors such as the minimum staking amount and time, minting rate, transaction fees, and others.
This enables the platform to perform dynamic parameter optimization through a crowd oracle.
Staking rewards, fees, airdrops are all influenced by governance and are all levers to change monetary policy.
Staking rewards are set by on-chain governance and are set by a function to never surpass the capped supply.
To induce staking, the fees can be increased or the staking rewards can be increased. To increase engagement with the platform services, fees can be lowered and the staking reward can be lowered.
One key difference between other governance platforms and Avalanche is that unlimited changes to arbitrary aspects of the system are not allowed.
Only a predetermined number of parameters can be modified via governance, rendering the system more predictable and increasing safety.
All governance parameters are also subject to limits within specific time bounds, introducing hysteresis, meaning that changes to parameters are highly dependent on their recent changes.
Once a parameter is changed using a governance transaction, it becomes difficult to change the same parameter immediately and by a large amount, but this difficulty in both time and degree of change decreases over time since the governance transaction.
This prevents the system from changing drastically over a short period of time and allows users to safely predict system parameters in the short term, while having control and flexibility in the longer term.
For a decentralized system without a central custodian, a system must exist to democratically find accepted values for critical system parameters discussed herein.
Avalanche uses its consensus mechanism to build a system that allows anyone to propose special transactions that function as system-wide polls that any participating node may issue.
Token holders participating in governance can also determine whether AVAX is eventually capped, uncapped, or even deflationary, and the rate at which the max supply is reached is governable.
Now that we have explored these details about the use case, economics, and governance of the AVAX token and Avalanche ecosystem, we are much better equipped to understand what we are invested in.
Of course, this was not an exhaustive analysis of every single factor.
But even so, does this affect your thesis and conviction in holding some AVAX long term?
It might, it certainly does for me — given how many use cases Avalanche has and the monetary policy of AVAX (given that all fees are burned, its capped supply unlike that of ETH, deflationary pressures can exist based on governance decisions, the time to finality and tps of the system), I am bullish on AVAX and plan to hold some portion that I will not sell based on short term volatility.
Does this mean you should buy some AVAX now?
That’s your personal decision based on your own risk tolerance, plan, conviction and understanding of the product-market fit and other factors, plus it’s also experienced significant upward pressure already in the last week so you have to plan your entries based on your own risk/time horizon.
Given that it has this valuable use case and product-market fit, and its market cap is only $29B today as compared to other protocols that are currently valued at a Market Cap of 2–3x or more, it can still do well medium and longer term.
Some comparisons were made in monetary policy and governance differences to Ethereum (today at $508B market cap).
A case could be made that Avalanche outperforms Ethereum in at least transactions per second, with ETH coming in at 13–15 tps, but ETH 2.0 will improve this substantially.
However, some valid criticisms or caution could be warranted — AVAX is seeing rising fees with rising demand in block space as of late, which is to be expected in blockchains, but at the moment, the fees at times rival those seen in Ethereum.
The CEO has stated that “this is the first time we are hitting these volumes. Bear with us as we observe the system in a new part of the operating envelope and adjust accordingly.”
Can Avalanche truly solve the scalability problem? We will see.
That’s all on Avalanche for now.
Next time you invest in a protocol, it’s worth doing at least a cursory analysis of these 2 crucial factors — token economics and governance (and use case of course) to understand your thesis, risk, and conviction or participation in the protocol.