I’m a great believer in the initiative that the Nu team is going for and I’ve posted my thoughts on the current protocol in several places with constructive feedback and analysis of suggestions for improvement. One area that has been bugging my little brain is the mechanism of reacting to shortage of supply when the price of Nubits is attempting to break above the peg of $1. I’ve been thinking deeply regarding that matter cause, as much as I believe in it working, I still feel it’s too centralized with a tremendous amount of trust being put on custodians who have no financial risk if they choose to run away with their grant’s NBTs. Here is a short summry of my thought process.
Examining current setup:
When the price of NBT is attempting to break above the peg of $1, it reflects a market demand that exceeds the market supply. The system reacts by generating new NBTs from thin air and trusting them to custodians that would then introduce those NBTs into the market to increase the supply and balance the market’s demand and supply. This is the current mechanism of how the Nu network holds the peg in the case where the peg attempts to break on the upper side and the mechanism is sound economically and has proven effective. Rewards from the sale of those newly created NBT gets distributed to Nushares holders as dividends.( Note: we are not discussing the manner of how the peg is held on the lower limit when supply exceeds demand. This is a separate issue that is already being discussed on other threads and I’ve included a proposal of how to deal with it in a decentralized matter. Check the links below)
Problem this proposal is addressing:
The current mechanism is sound economically and has proven effective in maintaing the peg. By controlling the supply and demand in the market the peg can be maintained due to economical laws that we will not discuss here. Having said that, there is an implicit major assumption that is being made and needs to be true for the current mechanism to work. TRUST IN THE CUSTODIAN. Since the custodian is getting a hold of those newly created NBTs, he can sell them at any price he chooses to himself. The network has to trust in that the custodian will choose his selling prices in a manner that supports the network (around $1 ± some fees to hold the peg). But, the custodian would have no financial reciprocation if he chooses to sell the NBT at $0.01. He can’t be prevented from doing so. One would ask why would a custodian sell at a much lower price when he can sell at $1 ? the answer would be is that the custodian WILL be making money regardless what price he sells the NBT at because he never paid for them. His investment is $0 and therefore as long as he sells the NBT for higher than $0, he has a positive net profit. Whether the custodian then takes the sales revenues and distribute it among shareholders is a different issue. He could just sell each NBT at say $0.8 to accelerate his sales and then run away with the money without giving any regard to holding the peg, supporting the network, or paying divedands. That is too much power to be trusted in a few people regardless whether they were voted on by the public shareholders or not because they hold no risk whatsoever aside from reputation damage which is mostly not affected since most custodians are using Pseudomonases. How do we address this issue? We know we need some mechanism of introducing newly created NBTs to the market to hold the peg but we can’t blindly trust a few people with that much power then they have no risk ? How do we still control the supply by the network and provide the custodian features without the risks involved with trusting humans? Those are the questions and issues this proposal is aiming to solve
Premises the solution is based upon:
- NBT is only created for the purposes of holding the peg on the upper side. Parking mechanim is elimanated or replaced with the NBT burning for NSR that was introduced here: [Proposal] Solution to the problems of Asymmetrical control in NuBits
- The client is aware of total supply of NBT that were generated
- The Nushares holders can vote on a PPC/USD exchange rate reflecting the current market exchange price. They will probably use feeds to automate their voting.
- The holders of the newly created NBT will have a personal financial interest in holding the peg or be as close to it as possible
Proposed solution:
Forget about the custodian system. Currently, custodians do the following:
Nushareholders -> generate NBT for custodian -> custodian sells NBT -> custodian buys PPC -> custodian pays divedands to shareholders
By eliminating custodians, we allow any user to purchase NBT for PPC directly (probably going to be large exchanges or big investors that want to make profit) we get the following simplified flow:
Investor -> pays X PPC divedand to Nushares holders -> Nushares holders generate NBT equivilant to the amount paid in PPC that reflects a 1 NBT = 1$ by knowing the the current PPC/USD exchange rate
This is very simplified as there are more equations involved with determining the exact numbers but the premise remains the same: Eliminate the middle man and the need to trust the middle man.
Here are the details of how the economical aspects of this system work (not technical aspects):
- There would be a minimum of the amount on NBT that can be purchased using this system which can be voted on by shareholders. Why? Because the lower the amount of PPC paid, the more likely share holders with low equity won’t get divedands because their shares are too low. By setting a minimum that can be voted on, you’re giving a higher chance for small share holders to get divedands as well. Also, you’d be limiting your purchasers to exchanges, investors, and liquidity providers rather than casual crypto users.
- The excahnge rate of PPC/NBT would be determined as a function of PPC/USD exchange rate and an interest rate that is voted on by the public or can be determined by economical equations if there are means to achieve that with math alone. Note **** the interest rate could be positive or negative ****. A positive interest rate would reflect a time when market demand exceeds market supply and the peg is breaking it’s upper limit therefore a positive interest rate would encourage purchasing of newly created NBT. On the other hand, a negative interest rate would reflect either a peg holding steady or a shortage of demand in the market and therefore a negative interest rate would discourage the purchase of newly created NBT because it would be cheaper to purchase already exisiting NBT in the open market and therefore no rational investor would pay PPC to purchase new NBT at a rate above what the market is already providing. I hope this part makes sense. I’ll probably rewrite it to clarify in the future.
- Example of rates:
Scenario : Market demand exceeds market supply. Peg is reaching $1.25.
Nu network determined that the PPC/NBT exchange rate for newly generated NBT would be equivalent to purchasing NBT at $0.9 (by knowing the PPC/USD rate). In essence it’s selling NBT at $(1-(interest rate)) where interest was determined to be $0.1
A big exchange comes in and sees an opportunity. It pays the Nu network PPC equivelent to $0.9 * (minimum order of NBT) and purchases a large chunk of of NBT at a very comfortable price. The exchange now goes around and sells that newly created NBT at $1 or even a little higher but less than the current price of $1.25.
Another exchange sees the opportunity as well and does the same purchase then goes around the to seel the newly created NBT. Both exchanges will attempt to sell those NBT quickly before the price drops and they’ll compete with each other at lowering prices until the peg returns to $1 but it’ll never go below $0.9 as we’re assuming the exchanges are rational and don’t want to lose money.
I hope the example clarifies how the system would work. In essence, the exchanges, investors, and liquidity providers would spot an opportunity to make money by purchasing the NBT at a lower price than market price and they turn around to make a profit on it. The Nushares holders would already have gotten paid as the purchase is done by paying divedands. The peg is prevented from going too low because there is a financial risk on the exchanges side as oppose to the custodian’s zero risk setup. Also, the peg is prevented from going higher because as long as the opportunity exists to make the purchase of newly created NBT, exchanges will compete to make the profit. It’s true that one exchange might say if the price is current’y $1.25, why would i want to sell at $1? well, because even if you place your sell orders at $1.20, another exchange that made the same deal you did would go around to undercut you to sell at $1.10 or $1 … the upper peg would be maintained by market competition and profit seeking behavior. And, the market will have a flow of supply introduced to it by profit seeking behavior which is the best human behavior we can count on
Hurdles and obstacles:
At the moment, the biggest hurdle I see that’s blinding me from seeing anything else is a techical limitation. The current peershares implementations (including Nubits) has no means of tracking divedand payments. It’s true that the payments are completly handled by the peercoin client but for this system to work, a method of tracking divedand payments and verifying who made the payment and whther the divedands were distributed correctly needs to be done somewhere in teh peershares (Nubits) protocol. This is needed to verify true PPC payments for purchasing newly generated NBT. I am not too savy with the blockchain system nor wiith Nubits or Peershares but i believe that it could be done with collaboration between Nubit team, Peershares team, and Peercoin core team. The solution to be created would be beneficial not only to Nubits but also to any entity that uses the Peershares protocol to sell products and wants the payments to go directly to shareholders rather than having to trust a third party as a placeholder.
I will edit this later for formatting and fixing grammer and spelling. I’m bit too tired from typing lol …
Looking forwared to hearing your thoughts on the matter in a constructive manner supported with analysis and use cases if possible.
Thank you
Indigoman