In traditional Proof-of-Stake consensus, incentive alignment between network participants is largely siloed between two categories of actors: blockspace producers and blockspace consumers.
Blockspace producers (validators and their delegators) rely on on-chain activity to drive sustainable demand for the blocks they produce but have no way to directly support and incentivize on-chain activity. Similarly, blockspace consumers (applications and their users) rely on secure blocks to facilitate their transactions, but can’t collaborate with blockspace producers to influence on-chain activity.
Proof-of-Liquidity, Berachain’s heavily modified variant of Proof-of-Stake, aims to solve this problem by integrating application incentives into the consensus mechanism itself. If you are new to Berachain, check out our “First Look” article to learn more about the Berachain basics.
The Berachain Tri-Token Model
To enable Proof-of-Liquidity, Berachain uses a tri-token model that separates the native staking and governance asset from the native gas asset:
BGT
As the native staking and governance token, BGT sits at the center of Proof-of-Liquidity. A validator’s weight in consensus is determined by their BGT delegation weight – while all validators on Berachain have the same probability of producing a block, a validator’s BGT delegation weight will determine the amount of BGT they emit. BGT is non-transferable and can only be earned by locking a specific asset (e.g., an LP token) into a reward vault that receives BGT emissions from a validator. BGT can be burned 1:1 for BERA, Berachain’s native gas token.
BERA
BERA is the native Berachain gas token. Unlike BGT, BERA is transferable and can be purchased on the open market. While BGT is the primary token used in staking operations, all validator operators are required to provide an initial bond denominated in BERA.
HONEY
HONEY is Berachain’s native stablecoin. It is the only interest-bearing asset on the BEND and is the base token for all collateral, payouts, and deposits on Berachain’s native perpetual futures platform.
The PoL Incentive Landscape
One of the defining aspects of Proof-of-Liquidity is the broad range of incentives it makes available to participants in consensus. In addition to protocol-enshrined incentives provided to validators, delegators, and liquidity providers, Proof-of-Liquidity also allows applications to create their own incentives to influence the behavior of both validators and users. The following sections will break down each category of incentive available in Proof-of-Liquidity and how each one is earned.
Protocol Fees: Transaction Fees and Block Captured Value
One source of rewards for Berachain validators and delegators is fees generated by the protocol itself. In addition to the priority fee portion of transaction fees, validators and their delegators also earn from Block Captured Value. This category of rewards consists of fees generated by Berachain’s native DEX, stablecoin, and perpetual futures exchange. Protocol fees are distributed to BGT delegators proportionally to their share of their validator’s total delegated BGT.
BGT: Emissions and Reward Vaults
BGT emissions are similar to standard inflationary staking rewards on most Proof-of-Stake chains but are distributed very differently in Proof-of-Liquidity. Validators emit BGT, Berachain’s native staking token, proportional to their BGT delegation weight. However, validators do not earn BGT rewards directly, nor do their delegates – instead, validators earn the right to direct BGT emissions to reward vaults of their choosing.
Reward Vaults are Berachain smart contracts where users can lock one particular asset (e.g., an LP token representing a liquidity position in a specific pool) to earn a share of the BGT the vault receives from validators. Any application on Berachain may create its own reward vault, pending governance approval.
BGT Emissions Flow (℅ Berachain docs)
This mechanism for BGT distribution creates a degree of separation between those who receive BGT emissions (vault depositors, e.g., liquidity providers) and those who direct BGT emissions (validators and delegators). Validators and delegators can capture the BGT rewards they produce and direct, but to do so, they’ll need to lock the appropriate asset in the reward vault their validator directs emissions toward.
Therefore, the BGT rewards earned by a given Berachain participant will depend on three factors:
- The reward vault(s) they lock assets in
- Their share of the assets locked in each reward vault
- The total amount of BGT their reward vault(s) receive
Reward Vault Incentives: Creating a Marketplace for BGT Emissions
A consequence of this BGT emissions mechanism is that applications whose reward vaults receive more BGT emissions from validators will be better equipped to incentivize user behaviors like liquidity provision. However, with only so much BGT to go around over a given period of time, applications need to compete to win BGT emissions from validators.
Incentives provide a mechanism to enable market-based competition for BGT emissions – any application that creates a reward vault may also create an incentive associated with the vault. This incentive is a contract-enforced agreement that establishes an exchange rate between BGT emitted to the vault and some amount of another asset.
Rewards Vault Incentive Flow (℅ Berachain docs)
For example, if a new DEX launches on Berachain, it may create a reward vault where users deposit LP tokens and establish an Incentive that distributes 5 of the DEX’s native token for every 1 BGT a validator emits to the vault. Validators would then weigh the value proposition of this DEX’s reward vault incentive against incentives available from other vaults to determine where they’d direct their BGT.
The PoL Flywheel
The combination of these different reward types creates an incentive flywheel within the Berachain ecosystem that aligns all network participants:
Users who lock assets in application reward vaults that receive emissions from validators will be rewarded with BGT. They can then delegate these BGT emissions to validators to earn more rewards from BCV, transaction fees, and incentives while also exerting more influence over the BGT emissions vaults receive.
Validators will compete for delegation not only on fees and reputation, but also based on their emission direction strategies, the percentage of vault incentives they share with delegators, and even their degree of alignment with specific applications.
Applications will be able to tap into the consensus protocol itself to incentivize user activity, allowing them to leverage native BGT emissions to reward user behavior rather than relying solely on inflationary liquidity mining incentives.
Proof-of-Liquidity overview (℅ Berachain docs)
Basic Participation Approaches
Because Proof-of-Liquidity’s incentive landscape is far more complex than standard Proof-of-Stake, users have much more flexibility in the way they choose to participate in consensus. Each participant’s risk appetite and willingness to actively manage their liquidity will inform the choices they make around where they provide liquidity and which validators they choose as delegates.
Users who want to participate in Proof-of-Liquidity but prefer a hands-off experience similar to traditional Proof-of-Stake chains may choose to provide liquidity to pairs of tightly correlated assets like the HONEY/USDC pair on the BEX. This allows them to stake their LP tokens to a reward vault and accumulate BGT without the need to worry much about impermanent loss. They may then choose to delegate the BGT they earn to a validator who is directing emissions to the HONEY/USDC reward vault. This would allow the user to earn rewards from transaction fees, Block Captured Value, and incentives that are denominated in stable assets, all while marginally increasing the amount of BGT their pool receives.
A more experienced DeFi user who is comfortable shifting their liquidity around may instead take a more active approach to participating in PoL by delegating to a validator who more actively manages their BGT emissions. These users may follow the lead of their validator when it comes to liquidity provision, parking their liquidity in vaults that are receiving BGT emissions from their chosen validator. Delegators who follow this approach will accept more risk if they provide liquidity to volatile pairs to earn incentives in volatile assets but can potentially outperform a more hands-off strategy.
As BGT rewards are decoupled from validator selection, delegators are also free to mix and match their approach – an experienced DeFi user may decide to delegate their BGT to a validator that takes a more passive approach while simultaneously moving their LP positions to different applications, following the BGT emissions of a validator who takes a more active approach. This would allow the user to earn incentives paid out by their validator in relatively stable assets while accepting the risks of providing liquidity to more volatile pools in an effort to increase their total BGT earnings.
Beyond Liquidity Provision
While this article has primarily focused on participating in PoL through reward vaults that accept LP tokens as the deposit asset, vaults may accept any type of deposit asset. Because of this flexibility, the scope of on-chain behavior that non-native applications can incentivize is far broader than just liquidity provision.
Reward vaults that accept an LP token as the deposit asset implicitly incentivize liquidity provision – in order to earn BGT from the vault, a user must lock an LP token, which they can only earn by providing liquidity. In other words, the distribution criteria for a reward vault’s deposit token defines the behavior the vault incentivizes. Applications can incentivize any type of on-chain activity with reward vaults by distributing vault deposit tokens to users who participate in that activity.
As an example, if the DEX discussed earlier in this article wished to incentivize trading volume in addition to liquidity provision, it may distribute its own $VOL token to users based on their trading volume. The DEX could then create a reward vault that accepts the $VOL token – assuming that this vault is approved by governance and can consistently capture BGT emissions, users will be incentivized to trade on the platform to earn $VOL, which they can then deposit to the new vault to earn BGT emissions.
Looking Ahead to Berachain Mainnet
While it’s impossible to predict the full range of strategies and on-chain behavior that will emerge from Proof-of-Liquidity’s first real-world implementation, it’s clear that this novel consensus mechanism provides an advantageous foundation for Berachain’s DeFi ecosystem. Between consensus-level incentives driving deep liquidity to native applications, the ability for third-party applications to tap into consensus rewards to incentivize complex user behavior, and an impressive lineup of applications ready to go live on day one, Berachain is poised to leverage Proof-of-Liquidity to define the next chapter of DeFi.
Figment’s Involvement
Figment currently operates a validator on Berachain’s Bartio testnet and will be live on mainnet on day one. If you’re interested in participating on Berachain, Figment offers a host of services aimed at delivering safe and reliable staking rewards on Berachain for your assets. To keep up to date with the latest Berachian news, please subscribe to our newsletter here.
For information on how to stake Berachain with Figment, reach out to us here to talk it through step-by-step.
