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Recommendation for New, Capacity-based Vault Reward Distribution Model
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Capacity-based Vault Revenue Distribution

tl;dr.

  • The current Vault reward distribution model is based on how much iBTC has been minted with a Vault.
  • This model presented itself unsuitable, both in terms of fairness, capital efficiency, and benefit to protocol growth.
  • The proposed v2 model hence takes into account iBTC capacity, i.e., how much BTC a Vault can secure, unrelated to how much is already being used.
  • The v2 model focuses on increasing minting capacity for new users ahead of the Interlay 2.0 DeFi hub launch, which aim to onboard significant numbers of BTC DeFi users onto Interlay.

This is a discussion post proposing the new model ahead of deployment to the Kintsugi testnet and as auxiliary information to the Vault block reward adjustment discussion.

The actual activation will require a dedicated governance proposal by the community.

Problem

In v1, Vaults revenue is composed of volume-based bridging fees (mint and redeem) and block rewards in the native INTR token, as operational subsidy while bridge revenue is growing.

Both income streams are distributed among all Vaults, \emph{proportional to how much iBTC was minted with each Vault}.

This model presented itself non-optimal. In absence of BTC liquidity flowing into other parachains due to macroeconomics and slow enactment of unique DeFi opportunities, Vaults are forced to self-mint iBTC in order to earn rewards. This has two negative effects: on one hand, the APR for Vaults is less predictable. On the other hand, the bridge is kept at high capacity without the BTC flowing into DeFi applications: Vaults do not need to take extra risk considering high block rewards, and not all operators are comfortable with DeFi liquidity provision (and they should not be forced to).

Solution

Capacity-based Reward Distribution

The proposal is hence as follows:

Distribute block rewards based on available minting capacity, i.e., locked collateral and the (custom) thresholds, rather than using minted iBTC as basis.

The key benefit Vaults provide to the Interlay ecosystem is for users to be able to mint iBTC and to bridge it back to BTC. This new model hence focuses on incentivizing total mint capacity, i.e., how much iBTC a Vault can back in total.

The total mint capacity of a Vault is measured by the provided collateral divided by the (custom) secure collateral threshold.

Vaults that are not accepting new issue requests, have zero capacity.

Vaults with more collateral provided or lower / no custom collateral thresholds provide more capacity overall to the network, taking on a higher risk and thus receive higher fees.

vINTR holders will vote on a weighting between each collateral asset, depending on multiple factors, including risk, benefit to protocol security, and capital cost (also considering external factors).

The same capacity of a Vault with two different collateral assets might result this in a different reward.

The issue, redeem, and replace fees are not affected by this.

The exact model is as follows:

v2 formulas

Expected Impact

This ensures that vaults are incentivized to provide sufficient minting capacity to allow users who want to use BTC in DeFi to mint new iBTC. This simultaneously serves as exit liquidity for vaults who want to withdraw their collateral.

In addition, vaults that are willing to take up a higher risk of being liquidated receive proportionally higher rewards for doing so.

To avoid excessive risk taking, the protocol enforces an lower limit on the collateral threshold that determines the risk for a vault.

This proposal is an important step to scaling the iBTC bridge ahead of the Interlay 2.0 DeFi hub launch, which aims to attract new (BTC DeFi) users to both Interlay and Polkadot as a whole.

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Hi,
Totally supportive on this one.
It is currently pretty annoying to have one's vault fully redeemed every 2 weeks or so and have to put back in to get rewards in an infinite loop since most then redeem back on someone else. Loss of time for everyone and bringing 0 value.
I could see as a side effect:

  • a short term diminution of iBTC liquidity as self minting vaults might redeem back, but I understand this is not an issue as currently most of it is doing nothing
  • a increase of the locked collateral (self minted iBTC somehow swapped for DOT and put as collateral), further reducing APY, which is why I'm definitely not a fan of the extent to which you are willing to cut the vault block rewards. (I definitely get the intent and agree on the concern on sustainability, but find the cut excessive)
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@wd9B...grYv

re. the more collateral being locked and impacting APR - this is why the proposal (https://interlay.subsquare.io/post/12) aims to stabilize the Vault income by regularly reviewing and making it easy for vaults/community members to request adjustments.

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Great! Then it should be fine to be more moderate in the cut and readjust if the effect is not satisfying? :)

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@wd9B...grYv

It all depends on what the community determines as justified and sustainable. See the competitor analysis in
https://interlay.subsquare.io/post/12

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I was unable to review the diagram, it does not load. Therefore I could not see what the new game might be. It helps to look at this as a game and see what strategies payers may come up with to maximise their gain.
As far as I can tell, the only change in the model is that you get penalised if you keep your vault "inactive" after self-minting all your iBTC. For the existing vaults, there does not seem to be any new incentive to actually use the iBTC (perhaps reducing risk?). The sniping mentioned above should go away, which is good.

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