Proof of Deposit -- Summary and FAQs

Governance
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Hello from Cambridge Cryptographic and the Proof of Deposit team!

We would like to thank everyone who has engaged with our original thread:
Proof-of-Deposit – initial proposal and request for feedback
making it the most commented-on post in the history of the Celo forum (with 123 replies!)

By popular request (and to keep things manageable) we are starting a new thread here.

This document summarises Proof of Deposit and lists 19 FAQs derived from the original forum thread and numerous other discussions over the past few months. Particular thanks to @Pinotio.com, @ChrisO, @ezechiel, @Nadiem, @roman, @Slobodan, @marek, @MarkusBerlin, @Tim, for asking great questions.

Topics covered in the document include:

  • How to prevent a Terra-style death spiral.
  • Role that stickiness of demand and real-world use play in stability.
  • How to give cStable users agency (who may hold little or no Celo token).
  • How PoD helps Celo’s mission to empower underserved communities.
  • How PoD protects against centralisation of validators.
  • Security implications of PoD.

We have also put together a Proof of Deposit slide deck.

Plans going forward:

  1. Modelling effect of PoD,
  2. Discussion of results of modelling,
  3. Formal governance proposal.

Hope you’re all keeping well :slight_smile:

John

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(comments welcome on PoD Summary / FAQs / Slide deck)

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Can you update the FAQ to explicitly call out that validator’s block network fees are not going into PoD rewards? Block gas fees should still just flow directly to the validator and not eligible to be dispersed.

This was the security issue that I called out originally that allows validators to artificially boost their yields above market rate by rebating back via their block’s gas fees.

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This is a great project. It is going to help people in developing nations to protect against inflation. Rooting for it !

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they can already protect against local currency inflation by swapping to cUSD

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Well gents, gave it a decent skim and it seems a few significant concerns have been omitted from your FAQ summary. Working on reading it detail over the next day or two.

First, what is your assessment of the regulation risk increase if PoD is implemented?
My assessment is that any interest bearing coin poses a very high likelihood of becoming flat illegal in the European Union. In the USA IMO the PoD feature will push Celo’s stable coins toward a status where it would be called a security and that means it likely only accredited investors will be able to hold them. Those are huge risks that could impose a monumental limitations on Celo’s plans.

Second, I don’t see where you have addressed the issues for Muslim people using interest-bearing financial tools. This is another huge risk that could actually make Celo’s services unusable by 1/4 of the worlds population.

Good night y’all.

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but not the inflation in USD, of course :wink:

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Hi, Yes we will add that in. Thank you for binging this up. I remember your discussion with Ying on the subject.

By the way, can you tell me Celo’s current strategy to cope with this? In other words, what are Celo planning to do when the block rewards subsidy runs out, and the system is sustained entirely on transaction fees?

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Morning John,

Thanks, when can we expect an answer on those items?

And yes, I have asked that about how Celo intends to get profitable in various ways.

I’ve have asked that in my questions about PoD because I want to know where all the money comes from to pay all that interest to the stable coin holders. That’s another FAQ the PoD proposal hasn’t addressed, PoD’s costs are just buried inside a budget item that Celo hasn’t got a good way to pay. I would argue that at this point in history, and just like Terra, all the money that the whole Celo eco-system is living on is capital from investors and speculators, there is no customer base to support it.

My concern with PoD, is that transaction fees would need to be some huge number like 5% of the value of every transaction, essentially it might require a de-facto sales or property tax of 5% which would negate any benefit from PoD.

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Of course :wink:

That is a whole 'nother ball of snakes.

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I dont know what the foundation has in mind when we get to a point where validators no longer get the current block reward subsidy.

There’s some potential future paths to take when block rewards run dry:

  1. block transaction fees is enough to entice validators to keep running infra, then this is the happy case
  2. block transaction fees is NOT enough to entice validators to keep running infra, this is the scary case

In scenario 2 where transaction fees alone is not enough, then lets break this into two hypotheticals:
2a. the network flops and nobody wants to use the network, thats why fees are trivial, in this world, we should just shutter the network
2b. the network is still successful and people do use the network, but we scaled the technology so much that we have 500M gas blocks and fees are trivial due to tech being too good

In scenario 2b, it’s interesting because direct gas fees are trivial but the network as a whole is still very valuable. In that case, I would imagine operators like me who do arbitrage, liquidations, and other DEFI on the network will come in and just subsidize the validator infra bill and provide validators as a public utility.

I think as long as the network has a healthy amount of user and real activity, someone is going to come in and keep the lights on for the global validator & public RPC infra. A healthy network = a healthy DEFI ecosystem for arbitrage, market making, and liquidators.

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TX fees should actually go down over time if we’re successfully scaling the network’s technology towards 500M gas blocks. Having some huge TX fee is a drag on economic activity, its best for it to be kept to a minimal.

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Gotta do the math @diwu1989

If the protocol is paying 5% interest on the Celo stable coins, based on today’s outstanding coin value in USD which is ~$100,000,000 that’s $5,000,000 in interest cost alone.

If I make an assumption for arguments sake that the average transaction is $20 (I don’t know the real number) and that transaction costs the user 0.001 then it takes 5 Billion transactions just to cover the interest cost.

Double that as a swag to cover validators. Were at 10 billion transactions just to break even and we haven’t even paid any staff or anything else.

Add another 5-10 billion transactions to cover overhead.

This math scales up linearly, if PoD generates great inflow as they suggest and 10x’s Celo’s outstanding stable coin supply, add yet another zero.

We’re getting close to 1/4 of a trillion transactions per year on chain to be workable.

I’m also going to suggest that my $20 figure is really low (it assumes a number that might be possible under mass adoption circumstances) and with PoD the stated goal is to bring in traders money from exchanges, more likely much larger transactions. So a more realistic average might be 200 or even 2000 per transaction. Now add a couple more zeros to the transaction total.

The volume numbers are staggering, way beyond what even Visa probably does.

If my math is even close, the 0.001 fee is way too low. IMO it is low only because of investors subsidizing the project.

Where will the money come from to pay all the costs?

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You can’t keep paying the POD 5%.
That 5% is just a “introductory” rate to get people to come in the door, it has to taper towards 0% eventually.

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Not temporary to my knowledge, it’s proposed to be built into the block reward system at the validator level.

The proposal suggests that it will stabilize at 5%.

I fully agree that it will be impossible for the protocol to pay that in perpetuity.

The cost of running the protocol sooner or later has to be covered by the fee’s the customers pay. I’m thinking Celo’s fees will be going up considerably over time. 1% would not surprise me.

If you add in PoD paying 5%, the transaction fees could reach 6 to 10%. Depending on the number of transactions.

These are guesses. I’ve asked for real numbers but not gotten a response.

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If tx fee go to even 1%, people will leave the network because many other networks have trivial fees.

Computers are cheap, consensus algorithms can be improved, blockspace will keep increasing, network fees should trend towards 0% not the other way around.

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@diwu1989 I agree that fees should be cheap to stay competitive, but the tx fees are the protocol’s only customer based revenue source, right?

Eventually, for Celo to be self supporting, those tx fees have to cover all the costs of running the protocol (all the validator costs, all the Devs, …) and the foundation’s costs too, right?

Then add the cost of paying all the stable coins 5% interest. The cost numbers look to me like they will drive the protocol broke, just like Terra.

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For a start I’m going to address two of the ‘elephants’ from the first page.

From the FAQ paper:

The duty-of-care to the end user is critical for Celo because of its focus on underserved communities. Robustness of cStables is the highest priority. From the wider economy, conditions for robustness against financial shocks are well known. Money should be backed by capital reserves, where these reserves consist predominantly of a single asset: Short-dated government bonds. Short-dated government bonds are the only asset which reliably strengthens during times of financial stress (risk-off sentiment). Without an analogous asset, robust risk management in crypto is impossible, because effectively hedged portfolios cannot be constructed. This is a major challenge for decentralised stable coin reserves, which cannot include e.g. tokenised sovereign bonds, since bonds are classified as securities under US law. Including centralised stable assets such as USDC in the Celo reserve is a sensible short-term measure, but availably of such assets cannot be relied upon in the longer term. PoD catalyses transformation of Celo token into the crypto analogue of a short-dated government bond. PoD does this by driving liquidity on exchanges using incentives.

Cambridge Cryptographic’s assessment that the government bonds are the only asset that strengthens in times of financial stress is a reasonable assessment IMO, at least as far as the context of this discussion.

What has been left out of the FAQ’s specifically, is why.

First elephant:
Here in the USA, with regard to government bonds, we regularly hear the following phrase: “Backed by the full faith and credit of the United States.”

To be blunt here, Celo does not enjoy the credit rating, nor the taxing authority of the US government and those two factors alone are the reasons that government bonds are considered safe.

No market incentive nor any fancy software mechanism can can fool any reasonably smart investor into thinking Celo is safe by comparison.

The assumption posited and comparison made within Cambridge Cryptographic’s argument that Celo stable coins might or should be considered similar to or even in the same class as government bonds is disingenuous at best.

Second elephant:
The other glaring problem with Proof of Deposit is that ‘if it works as advertised’ it will create a huge and ongoing cost to the Celo protocol, that cost is expected ‘per Cambridge Cryptographic’s estimates’ to be about 5% on all outstanding stable coins.

With roughly 100 million dollars worth outstanding today, that’s $5 million yearly.

The transaction volume needed to support that expense is beyond immense, nearling the point of being completely unbelievable.

I have asked for modeling, it has not been provided.

The other possibility that has not been discussed is that the Celo transaction fees at $0.001 mechanically limits the interest payable to an incredibly small inconsequential number.

Again without realistic modeling …

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Utter nonsense from you as usual. Gold strengthened in purchasing power during a crash of risk assets for hundreds of years. This is nothing to do with the credit rating of any government.

If you don’t have even a basic grasp of economics or economic history, why are you wasting peoples time writing garbage on this forum?