[Withdrawn] Motion to create a new Tier 6 (Restricted Network Access) of liquidity

tomjoad · December 7, 2015, 2:06am

Reference thread: [Discussion] Tier 7 liquidity: Volume-dependent transaction fees and "Restricted Network Access" status

Motion RIPEMD160 hash: Revoked

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Tier 6 shall be redefined as the following paragraph and added to the liquidity operations model:

Tier 6 (Restricted Network Access)

This liquidity is unlocked through substantially increased transaction fees during periods of extreme crisis. It has zero maintenance costs but may impair the perceived quality of NuBits in the short-term. When Tier 6 is used, Nu is in a state of “restricted network access”, which is a form of capital control.

Shareholders will exercise individual discretion, but should consider setting transaction fees at a level that enables Restricted Network Access status when buy-side liquidity is at 10% or lower of total network liquidity. It would be expected that if Tier 6 (Restricted Network Access) is used, transaction fees would be initially set at a very punitive rate and then slowly lowered as the crisis passes.

This new Tier 6 would not be introduced to liquidity operations until volume-dependent transaction fees are enabled in the protocol.

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Introduction

To preface this discussion, I believe this concept – Tier 6 (Restricted Network Access) - will finally allow perpetual network stability. It is infinitely scalable, perfectly decentralized, and a logical complement to the existing macroeconomic policy used in Tier 5 (Parking rates). It will operate best with volume-dependent transaction fees, but can be applied with our current static variable transaction fees. Tier 6 (Restricted Network Access) is a Nu-specific innovation that further adds to our prestige as a network on the cutting edge of digital monetary policy.

I believe it is critically important for the network to vote for this motion, for many reasons that I will outline below. To begin with, here is the proposed definition:

Tier 6 (Restricted Network Access)

This liquidity is unlocked through substantially increased transaction fees during periods of extreme crisis. It has zero maintenance costs but may impair the perceived quality of NuBits in the short-term. When Tier 6 is used, Nu is in a state of “restricted network access”, which is a form of capital control.

Our liquidity operations model has evolved over time, with each iteration improving the network over its previous form. From the very beginning, shareholders have expressed a desire to implement features that protect the peg of NuBits. That has been both an ethical decision as well as a business one, because every currency requires trust and safety to be widely adopted. Tier 6 (NSR sales) introduced a significant new protection mechanism that allowed shareholders to attempt the withdrawal of value from the market capitalization of NuShares to reduce the circulating supply of NuBits.

Unfortunately, while Tier 6 provides some additional security, the underlying economic incentives are deeply flawed. It is likely these flaws are hindering adoption of NuShares.

Why is Tier 6 (NSR sales) flawed?

Tier 6 (NSR sales) requires us to sell an asset (NSR) at the bottom of its valuation to support NBT, requiring greater dilution. It requires us to trust a multisig group. It may require multiple auctions and multiple custodial grants to “mop up” all the excess NBT in a severe crisis, creating a disincentive to purchase NSR when the crisis first begins if the crisis is perceived to be catastrophic. Even in good times, Tier 6 (NSR sales) threatens the perceived scarcity of NuShares because any investor knows the NSR supply could quadruple overnight through a NSR custodial grant in an emergency. It is slow, it is centralized, and it is inefficient.

Why is Tier 6 (Restricted Network Access) a better solution?

Tier 6 (Restricted Network Access) can be applied in whatever block duration it takes to adjust a transaction fee, which could be very rapid if we design volume-dependent transaction fees with that capability. It has no scalability limits, in that we have full control of setting a transaction fee between 0%-100% with volume-dependent transaction fees. It requires no centralized trust of a multisig group. It improves the perceived scarcity of NuShares, which will increase the number of users advocating for our network. And, it is a tried and tested macroeconomic tool for currencies, just as interest rates (Tier 5) are. It is fast, it is decentralized, and it is efficient.

Example of a scenario where Tier 6 (Restricted Network Access) is applied:

To begin, here is an example of an “extreme crisis”:

It is September 23, 2019. The NuBits network has been operating for five full years and has gained popularity across a wide variety of retail and banking users. Daily US-NBT transaction volume has exceeded Bitcoin, and the price peg of US-NBT has maintained a perfect $1.00 US. There are 100,000,000 US-NBT in circulation.

Sensing a threat from the growing popularity of US-NBT, regulators from a major world government declare US-NBT illegal on October 1, 2019. There is immediate market panic. NuShareholders predict that users may attempt to sell up to 50% (50,000,000 US-NBT) of all NuBits over the next few days, overwhelming the ability of Tier 5 (Parking Rates) liquidity to support the peg in the short-term. The value of NuShares plummets, which would have reduced the effectiveness of the original Tier 6 (NSR Sales) anyways.

Shareholders are aware that setting unreasonably high interest rates with Tier 5 will inflate the circulating supply of US-NBT past what is sustainable in the long term. Shareholders will have to make the difficult choice of setting rates so high they may never sell another new US-NBT again, or letting the peg fail and hoping speculators will purchase discounted US-NBT. These US-NBT discounted purchases may eventually restore the $1.00 US price, but US-NBT would have lost much of its credibility during that period. There is a chance the US-NBT price peg may be lost permanently. The network no longer has the USD reserves to satisfy all NuBits users, and must now prioritize liquidity according to NBT users’ willingness to pay.

Variable transaction fees – and especially volume-dependent transaction fees - provide shareholders with one final course of action through Tier 6 (Restricted Network Access). After the major world government declared US-NBT illegal, shareholders realize that an extreme crisis is taking place. They immediately begin to vote for an emergency transaction fee proportionality constant that will significantly raise transaction fees at all volume levels. Within perhaps 1000 blocks, the transaction fee for a 1500 NBT transaction has increased from the standard 0.25% to a staggering 50%. Transferring 1500 NBT through the network will now cost (and destroy) 750 NBT. Over the following weeks, as NBT are destroyed by those users who value access to the network most, shareholders gradually reduce the proportionality constant until transaction fees are back to historical network norms.

This example demonstrates just how powerful volume-dependent transaction fees could be in maintaining NBT asset pegs. During times of emergency, the network can differentiate among its users to prioritize those who are willing to pay the most to reduce the supply of NBT for us. Over time, shareholders would slowly vote the proportionality constant back to normal rates as the circulating supply of NBT reduces to match the decreased US-NBT demand. This is similar to parametric order books, a mechanism that penalizes users who quickly sell large amounts of NBT.

In theory, this new Tier 6 (Restricted Network Access) mechanism will allow US-NBT to remain $1.00 US forever in the very long-term. However, during an extreme crisis only those users who are willing to pay a significant transaction fee to move their $1.00 US-NBT through the network will be using Nu’s fast and efficient blockchain. Nu can guarantee US-NBT users that a US-NBT will be worth $1.00 US forever, but with the caveat a user may have to wait an uncertain length of time to access its full value if a serious emergency is occurring. This is not a normal state of operations, where tight liquidity is prioritized. It is an emergency where there are no other options.

It is likely that optimal proportionality constant rates will be determined in advance of emergencies through a set ratio of buy-side liquidity to sell-side liquidity. As a simple example, if buy-side liquidity fell below 10%, a recommended emergency proportionality constant of X would be voted for, whereas if buy-side liquidity fell below 5%, an increased recommended proportionality ratio of 2X would be voted for.

Tier 5 (Parking Rates) and Tier 6 (Restricted Network Access) are complementary macroeconomic policy tools

Shareholders would have complete control to vote according to prior recommendations or take no action at all – just like all other Tiers of liquidity. A fundamental principle of Nu is that external actors cannot coerce shareholders into making decisions that are contrary to their individual interests. Shareholders can choose not to utilize Tier 5 (Parking Rates) during times of crisis. Likewise, Tier 6 (Restricted Network Access) would only activate if a majority of shareholders support it. However, given that it has zero impact on their NuShare equity holdings, shareholders may be more inclined to use Tier 6 (Restricted Network Access) than the old Tier 6 (NSR sales). This is an important fact to point out - that this Tier 6 is more likely to be authorized by shareholders.

Tier 6 (Restricted Network Access) is a form of capital control. However, it should always be temporary in nature. No user who holds NuBits would be forced to sell at a discount, and it would be expected that the network returns to its normal transaction rates over time.

Economists support the concept of Tier 6 (Restricted Network Access)

The International Monetary Fund (IMF) has published an extensive series of articles and papers on capital inflows and outflows. In the case of Nu, our largest risk comes from capital outflows (ie. NBT being sold for fiat). One excellent IMF paper that is relevant to our network is here: http://www.imf.org/external/np/pp/eng/2012/111412.pdf beginning on page 25. In particular, points 42, 45 and 51 are very relevant to our network. This paper shows there is empirical evidence that capital flow management measures such as Tier 6 (Restricted Network Access) are perfectly acceptable as part of a toolkit for managing a currency, as long as they adhere to certain criteria, such as being temporary in nature.

Summary:

Want to make your NuShares more attractive to invest in? This motion should significantly help the desirability of investing in NSR. With the implementation of this motion, there will no longer be a risk of unlimited NSR dilution to buy back NBT in an emergency.

Tier 6 (Restricted Network Access)’s form of capital controls will make our network perform more similarly to national currencies that are managed by professional economists. It is a perfect complement to the parking rates of Tier 5. It transfers part of the risk of using NuBits to NuBits users, just like most other currencies.

It is a much more powerful, decentralized, and efficient tool than the existing Tier 6 (NSR Sales).

While we hope to never use it, it would be an important piece of our liquidity operations model. We could safely make the claim that 1 US-NBT will always be worth $1.00 US in the long-term, as long as a user is willing to forgo access to the network during times of extreme crisis. This should sound familiar to anyone who has ever used a national currency.

I truly hope shareholders consider all aspects of the logic I have provided, and address any shortcomings they identify. I have kept the motion text vague enough to allow a great deal of discretion in its application, but will consider changing the text if there are improvements to be made.

I am very enthusiastic about the power this new Tier 6 would deliver to our network.

Nagalim · December 7, 2015, 2:16am

So this motion won’t take effect until Nu 3.0? Seems speculative on a function we haven’t even begun developing yet.

All this motion does is tell us to burn our nsr with no additional protections to replace it.

tomjoad · December 7, 2015, 2:29am

I addressed this in my opening paragraph. It is possible that additional timing language could be added if shareholders felt that the current static variable transaction fees are unsuitable for implementing Tier 6 (Restricted Network Access).

Nagalim · December 7, 2015, 2:38am

So, have you looked at transaction histories to find out how high the txn fees would have to be to generate x nbt/day? If we needed to get 10,000 nbt in a week, what should the static fee be? That would mean we’d need to get almost 1 nbt/block. As only about 1 in 10 blocks have an nbt txn, that means we’d need a 10 nbt fee, or even more. How would pools handle this? How would exchanges handle this? How would our PR survive this?

Are we a currency, or just a settlement network for the wealthy?

jooize · December 7, 2015, 2:51am

If it comes to utilize this, we’re already in trouble, and what’s the alternative? Selling NSR seems unreliable, especially in comparison.

I’m interested in hearing more.

mhps · December 7, 2015, 2:51am

This motion changes the fundamental prospect of Nubits as a cryptocurrency.

Currently NSR is not only the company stock but The Volatility Coin since dual direction burning is enabled. I can understand why some shareholders are uncomfortable with it. However capital control is not a good measure to those who believe in free trade and market economy, especially in the cryptoworld. Look at Greece and Cyprus, the governments may well have chosen the best course of action during the crisis but their financial reputation is ruined, because people know the authorities have an easy way out when shit hits the fan and will never have the will to try hard to prevent the crisis from happening again in the first place.

How do we convince the Nubits holders that Nushare holders will be on the same boat with them?

Nagalim · December 7, 2015, 2:55am

We are buying over ten thousand dollars of NSR a week. So compare the inverse of what we’re experiencing with buybacks to a 10 NBT fee. These buybacks have gone on for months, could we survive a 10 NBT fee for months? And when 10 NBT is less effective because our network is shrinking, do we go to 25 NBT? 100 NBT? Comparing 3 months of dilution (the inverse of what we’re getting now with buybacks) to months of completely stagnating the network and ostracising our user base, I choose the dilution. (Or better yet, a combination of the two and not burning our tools for no reason)

jooize · December 7, 2015, 2:57am

But will the dilution be effective? Who will buy NuShares when the network is in that situation? How low may NuShares fall?

Nagalim · December 7, 2015, 2:59am

I’d assume it would fall to slightly lower than it was before the buybacks. What data do we have to make any kind of predictions about implementing huge Txn fees? We don’t even have data about implementing non-trivial Txn fees.

What happens if we spike the Txn fee to 500 NBT/KB and no one makes any more txns at all? Then we are forced to leverage NSR on a marketplace that laughs at our unusable product and we blackswan without mercy.

There is always an optimal Txn fee that will generate the most funds and shareholders need to seek it out. It is not always the case that a higher fee = more funds, there is a maximum. We should not link the fee to peg pressures but instead be smart and analytical about what fees give the most total profit.

tomjoad · December 7, 2015, 3:40am

I disagree. If NuShareholders aspire to offer a pegged cryptocurrency that is capable of adapting to different market conditions, it must create new macroeconomic tools to deal with those conditions. What I’ve proposed is a classic economic tool used worldwide. If shareholders have objections to this particular tool, they should debate it using logic, and not an emotional appeal to our flawed current approach of selling an asset that is impaired during a crisis. What I’m proposing is uncomfortable perhaps, but a substantial improvement to our operations - both in peg maintenance and NSR desirability.

I’ve identified in the OP that using this Tier will probably damage our short-term reputation, but with that damage comes a more sustainable peg in the long-run.

Capital controls are not fun and I hope we would never have to use them. However, they are a proven powerful tool if we want to ensure our peg is maintained. The IMF literature above makes that very clear. If shareholders desire more reserves backing the peg, they should be voting for increased Tier 4 reserves, not the utilization of NSR sales. Or, we should be dreaming of other macroeconomic tools that will complement our existing one (Tier 5).

Leaving it to “the free market” would mean letting the peg fail, which is unacceptable to me.

NuShareholders’ selfish interests are to maintain a perfect peg over the span of decades or centuries, because it will be the most profitable for them. Their economic interests are already aligned with NuBits users.

dysconnect · December 7, 2015, 6:10am

The only justification for us to do NSR buybacks is tying NSR to NBT. Without selling NSR to burn NBT such practice is unacceptable; not that I don’t like to see NSR rise in value, but it’s simply indefensible. Without a reason to do buybacks (or dividends) there’s no value in NSR. Transaction fees can be considered another layer of protection, but it must not replace the ultimate baseline of NSR backing.

Cybnate · December 7, 2015, 7:17am

I’m also a little bit uncomfortable to just sell all NSR in Tier 6 and lose the line of defence at all. I think it is still a line of defence which can be used to some extent before e.g. tier 7 kicks in.

From a PR perspective it also looks better when the Shareholders has something at stake when the peg threatens to fail. Some dilution of value before capital controls kick into place is appropriate in my opinion. Even if it is not the most effective control. It would make sure the Shareholders stay sharp to minimise the risk of share dilution to protect the peg instead of falling back on a ‘relaxed’ capital control where the users are punished in the first place before the Shareholders feel the pain.

Alternative which comes to mind is to increase T4 significantly but we are also struggling with a proper store of value there (currently BTC). Will need to find a better solution for that first.

Won’t support this motion without compensating frameworks in place for now.

cryptog · December 7, 2015, 7:59am

I like the idea of using tx fees to defend the peg 1) but I do not think selling NSRs as another way of defense should be removed 2) .
I think 2) should be the last line of defense, in any circumstances because we must preserve the concept of the ratio of liabilities (nubits) over assets (reserve + nsr market cap) since Nu is not 100% reserve backed.
Therefore, I would like to see:

before 2)

So 1) should be called Tier6 and 2) Tier7 in this perspective.

Sentinelrv · December 7, 2015, 10:50am

I would support this as additional tier 7, but not as a complete replacement for tier 6. I find that too drastic and possibly dangerous. We don’t necessarily have to dilute ourselves by 100% though before emergency tier 7 measures kick in. It can be set to activate before we lose all of tier 6.

masterOfDisaster · December 7, 2015, 10:54am

I very much appreciate another layer of defense for the peg. Introducing T7 as “restricted network access” could be a new last line of defense.
Yet I consider removing NSR sale from T6 unhealthy.
This doesn’t meet the promise that the value of NBT is backed by the value of Nu, represented by NSR.
From a customer perspective this looks like customers need to pay the bill (or wait until fees are low or NBT are completely worthless…) and not the bank.

We need to sort the flow between the tiers out, need to gain more experience and practice with FLOT, T6, etc.

We don’t even have a clue how high to raise the parking rate based on what condition.
How would NSR holders know when to activate such an extreme measure as restricted network access?
Instead of replacing T6, I’d be in favour of discussing this as another layer. Activating it should be trated just as restricted as the effects of activating it.
I fear, restricted network access damages the reputation of Nu - supposedly more than selling NSR…

mhps · December 7, 2015, 12:10pm

Nubits changes from being almost free to move around to not being to buy a coffee without paying like 50% tax, on the protocol level. That was what I meant by fundamental prospect.

You can claim it will recover “soon”, but in a situation in your example it might take years. Before capital control one always finds capital exodus, aggravating the problem. After capital control the life blood of the economy is frozen, aggravating the problem even more.

I think shareholders should prepare for low NSR prices. For example through hedging with other assets, and creating futures instruments (which at the same time increases liquidity)

tomjoad · December 7, 2015, 2:29pm

Thank you everyone for the feedback so far. It appears there will need to be some compromises made to have this motion more seriously considered, as is often the case with contentious motions.

I have an idea that will hopefully make the motion more appealing, which I will present later today.

tomjoad · December 8, 2015, 1:34am

Shareholders raised several concerns that I think are valid.

@Nagalim pointed out that the motion discussion above focuses on a Nu 3.0 state with volume-dependent transaction fees.

Response: After thinking about it, I think my idea is unsuitable for static variable transaction fees, because it will unfairly penalize smaller transactions. The motion language will be amended to reflect this.

Both @mhps and @cybnate raised concerns that this move would be seen as NuShareholders abandoning their responsibility to share the risk of the network with NuBits users, and that the capital controls could be in place for an extended period of time.

Response: There is a solution that addresses those concerns, and that is simply making Tier 6 Restricted Network Access, and Tier 7 NSR sales.

Restricted Network Access, as I’ve defined it, is brutally efficient. It is fast, it is decentralized, and yes, it is unpleasant. It would be the strongest tool we have in stopping an emergency. It is also undesirable to have in place for very long because it will damage the network’s reputation.

NSR sales are slow, centralized, and unlikely to be very effective for the economic reasons I listed above. You cannot reliably back asset #1 (NBT) with an asset #2 (NSR) that gets its value from the demand for asset #1. It is inefficient.

However, I can see the public relations benefit of having NuShareholders “risk” their own assets during times of crisis.

So, a solution that I hope would satisfy proponents of both approaches is to have Restricted Network Access as Tier 6, and NSR Sales as Tier 7. In a catastrophic emergency (like my scenario in the original post) Restricted Network Access will immediately stop the bleeding within a matter of hours. At that point, shareholders can begin coordinating Tier 7 NSR sales, and then slowly lower the capital controls as funds are raised to bring the network back into equilibrium. Think of Tier 6 as a bandaid to prevent complete collapse, and Tier 7 as proper medical care that will hopefully heal us faster.

From a logical perspective this should satisfy everyone, because:

If you believe NSR sales are an effective form of peg defense, then Restricted Network Access shouldn’t be in place for more than a few hours, days or weeks. NSR sales will begin, funds will be raised, and then capital controls will be lifted. Plus, NSR will be more likely to maintain their value during the sale because the dilutions will be slower and more gradual, as opposed to an emergency unlimited dilution that accepts lower bids. The peg will be maintained.

If you do not believe NSR sales are an effective form of peg defense, the peg will still be saved while better measures can be thought of. The peg will be maintained.

I understand that capital controls should only be used in the most catastrophic of scenarios. Using Restricted Network Access as Tier 6 to stop the bleeding while Tier 7 NSR sales work to reduce the controls in place is a compromise that I hope will be received better by shareholders.

To shareholders who are still uncertain, please take the time to imagine what would happen in a scenario where 50% of our demand disappeared overnight. Hoping for rapid NSR sales through a multisig group to a body of speculators willing to value NSR at a high rate is not likely to occur. It would be disappointing if we ignore powerful tools because they feel unpleasant, and because other options feel more convenient.

I look forward to further feedback. I hope I am communicating my enthusiasm for the concept of increased peg stability, and not my enjoyment of imagining capital controls.

Nagalim · December 8, 2015, 3:14am

What mechanism are we using to get a majority of the network to respond in a matter of hours? For the capital control to take effect shareholders have to vote in a very high fee, correct?

tomjoad · December 8, 2015, 4:33am

Yes. High transaction fees would have to be voted for, in whatever block duration our protocol required for a transaction fee switch to occur.

This is an important point that should be reinforced - just like NSR sales from custodial grants, it will require a majority of voting consensus at any given time to enforce capital controls. Shareholders could very easily vote for this motion, and then never actually use the tool. This is just another macroeconomic mechanism for us to add to our currency management toolkit.