Solana staking reward adjustment proposal, what impact does it have on SOL price?

Editor's note: This article discusses the proposal to adjust the Solana stake rewards, highlighting the issues in the proposal, especially the impact of high stake rewards on Decentralized Finance returns, the pressure of Inflation on dumping, etc. David countered by arguing that there is a close relationship between stake returns, network security, and market demand, and that stake rewards should be determined by the market.

The following is the original content (for ease of reading comprehension, the original content has been slightly reorganized):

I am very concerned about the Inflation reduction measure SIMD-0228 proposed by Solana, especially the current version proposed by TusharJain and kankanivishal from multicoincap, as well as MaxResnick1, especially without addressing some critical risks and issues.

After listening to the latest Solana validator conference call, I believe that the arguments for implementing this change are seriously flawed.

Here is my summary of the points raised, and I will refute them one by one in the following tweets:

High stake reward rates are detrimental to the yield of Decentralized Finance

2: Inflation increases the pressure of dumping, which should be compared with network fees

3: High stake rewards reduce the demand for ETFs

4: The return on stake is not as tax-optimized as capital gains in the United States.

5: Higher stake returns do not lead to higher prices

6: The stake formula will optimize the stake ratio, thus addressing security issues (in my opinion, this is the most important security risk and a wrong practice)

Argument 1: High stake rates are detrimental to Decentralized Finance yields.

Rebuttal 1: SOL stake is the risk-free rate of return on Solana. Just as higher risk-free rates on government bonds lead to an increase in interest rates on the credit curve, higher stake returns will drive up Decentralized Finance rates and profits.

Argument 2: Inflation increases the dumping pressure, which should be compared with the costs.

Rebuttal 2: This is not valid, just like unlocking does not necessarily bring dumping pressure, whether dumping depends on the choice of the holder. Validators can choose to restake. Inflation has a smaller impact on liquidity than other supply factors. Instead of comparing dumping pressure with fees, it is better to compare it with capital flow. You can look at the capital flow of the Solana ETP as a measurable indicator, but the demand from funds and individuals is greater and more important.

Argument 3: The reduced stake rewards have decreased the demand for ETFs.

Rebuttal 3: Just because someone uses this argument to explain the weak demand for ETH ETF does not mean it applies to Solana as well. Look at many European SOL ETPs, which take the entire stake income without charging fees, these products have attracted significant capital inflows (see above). Moreover, US ETFs are also close to allowing stake, so in the long run, this argument does not hold true.

Point 4: stake returns are not tax-optimized like capital gains.

Rebuttal 4: Solana is a global decentralized network, and we should not optimize solely for US tax policies, as tax policies can change at any time. This is similar to how equity investors may overlook the impact of tax changes on stock valuations.

Argument 5: Higher stake returns will not lead to higher prices.

Rebuttal 5: The real world proves this point is not valid. Just look at the pricing mechanism of conventional currencies. The appreciation of one foreign currency relative to another currency is usually based on interest rate differentials. Relatively higher interest rates will lead to a stronger currency. Here is a chart of the USD/JPY and the yield spread between the U.S. 10-year Treasury and the Japanese 10-year Treasury as an example.

Argument 6: The stake formula will optimize the stake ratio to solve security issues.

Rebuttal 6: It also needs to optimize the number of validators and stake distribution. Running Solana validators is very expensive, and the number of validators is already declining.

Rebuttal 6 (continued): The analysis that must be conducted in order to safely pass this proposal, but what I have not seen yet is:

Simulate how many of the currently active small validators will become unprofitable and exit under the new proposal. It is necessary to analyze under different network activities and SOL price assumptions, especially in bear market scenarios, considering a 80% decrease in MEV, base fees, and prices. Then check the current Solana validator list to see how many current validators will become unprofitable and exit in these scenarios.

We can discuss how many validators Solana needs. It may not artificially inflate to 100,000 like ETH, but we also do not want Solana to become a Cosmos chain with only 100 validators.

Moreover, as supporters have put forward the argument of U.S. taxation to promote this proposal, and we are also unsure of the SEC's decentralized testing standards, so we may want to keep the number of validators above 1000 in order to maintain SOL's status as a commodity.

In short, this proposal should not be passed unless someone has at least completed this analysis.

The proposal indeed raises the right question: how much Inflation is needed? However, before making any changes, we have other questions to answer. I do agree that this number may be too low and should be more dynamic. Just like companies do not need to pay a fixed amount to suppliers or offer a fixed return to financiers, the market should determine this number, so I support this direction. We just need to slow down and do more work to understand its impact.

This may actually be a high-level solution to address this risk.

My sincere suggestion is that we should not assume and generalize its impact. Data analysis should be conducted to show all assumptions and data.

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