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:

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.