Distribution of Capital in Crypto Networks

In a recent conversation between the developers of Placeholder and USV, Fred Wilson commented that the business failures he observed were the result of an “original sin” committed at his birth (in a team, business approach, or other significant decision).

In the world of cryptocurrencies, the original sin, which we often observe, is expressed in the fact that insiders own too much of the systems that position themselves as “public” and “egalitarian”.

Although what is considered “fair distribution” is a normative judgment, it stems from the consensus reached in the crypto industry: to create balanced playing fields where everyone gets the opportunity to achieve financial sovereignty.

If a small number of insiders own about half of the blockchain network (just go to Coinmarketrate.com and after reading about blockchain projects, you will see that this is a very common phenomenon), this seriously limits the redistributive effect of this technology. Instead, he makes a bunch of people obscenely rich.

In truth, these people would still be doing phenomenally well, even if they measured out a smaller portion for themselves. When they take everything in their power, they justify it by saying that “it has always been like this” or “we have a fiduciary duty to financiers.”

Many of us who rotate in the crypto space are working on creating open technologies. The main part of the process is open. But there is a sphere that remains behind the scenes. This is what keeps more secrets – the initial financing of projects.

While this is partly due to regulatory and social norms, the most ominous detail is that crypto insiders are able to prepare the ground in their favor by hiding details from the public.

The more insiders get away with it at an early stage, the stronger they become. And this force is disastrous for the crypto industry as a whole.

Behind this opaque veil are hidden the same norms that in the past led to a huge imbalance of wealth and power. If we do not consider what is happening at this stage of the emergence of crypto networks, we are doomed to the appearance of the same “rake”, and the repetition of the same mistakes.

Where money grows

Two groups of people involved in the creation and segregation of assets in crypto networks are the people behind the creation of the blockchain project (creators), and early investors (whether in the form of venture financing, hedge funds or hybrid structures).

The creators want to release a product, and if they do not have the finances to support themselves and their blockchain team, they will turn to financial structures that will provide funds to finance the enterprise.

Although institutional investors are often demonized in the cryptocurrency world, they are very useful because they allow entrepreneurs without starting savings to try their luck with an idea. If this succeeds, they will receive significant benefits. If this fails, they will be able to abandon the business project. And this will not mean that they have invested their entire financial fortune in it.

But there are situations when the relationship between blockchain entrepreneurs and crypto investors becomes unhealthy. Especially when there is an opportunistic behavior of the latter, who seek to take advantage of a certain asymmetric direction of cash flows and information between a crypto investor and a blockchain entrepreneur, combined with the inexperience of a crypto entrepreneur.

If this is your first venture: be careful!

We have observed this trend in many situations. Predatory behavior of financiers is very common in the crypto space.

Information asymmetry gives a crypto investor an advantage: if he is able to force a businessman to sign a contract before another crypto investor tells him that the conditions violate the rules, then the crypto network risks losing its balance forever because of this.

A good way for a blockchain entrepreneur to protect himself is to reach out to those who have already gone through a similar process of raising money: ask them about the reputation of various investment channels, what they regret, the conditions they consider fair, etc.

Talk to other blockchain businessmen who are part of the portfolio of the crypto investor you are negotiating with to find out about their experience. Try to collect more than one variant of the conditions.

Leveling the playing field

In order to achieve structural social change, crypto entrepreneurs and crypto investors are required to work together on this change. Otherwise, the default situation is to reproduce how everything has always been done.

Although blockchain is a technology that equalizes the rules of the game and opens access to finance, the degree of redistribution of the cryptocurrency movement will depend on the social norms that we promote and adopt.

The hypothesis is that in order to be effective, crypto networks need more distributed ownership than a traditional company (companies do not use their shares to stimulate the growth of supply and demand, as is present in crypto projects, with their crypto assets).

Insiders should be understood as blockchain developers of crypto projects, crypto investors attracted before the launch, and closest consultants – all those who risk the failure of the business started and get zero value of the invested labor and assets.

25% for crypto developers seems too high for some: for example, bitcoiners criticized the allocation of 20% of rewards for Zcash blocks to people who contributed to the blockchain project. But 25% is still at a low level, compared to the usual practice when developers take 40-50% of assets for a blockchain project.

But the approach is not perfect. We don’t always achieve our goal, and when we don’t achieve it (that is, when more than 25% of the blockchain is in the hands of insiders), this often happens because we expect inflation to work over time as a redistribution tactic.

In addition, when the management of the blockchain is transferred to token holders, the planned release is subject to changes at the beginning (ironically, when outsiders become token owners, they tend to quickly manifest an internal state).

Another way to look at relative segregation is to analyze the multipliers obtained by outsiders in relation to insiders.

For us, the range of what we consider viable, and what could help society move towards greater fairness, is that outsiders are owed 2 to 4 times more than blockchain developers. Blockchain insiders represent a much smaller community in terms of quantity, and it follows that multipliers must be in these values.

To achieve this goal, insiders need to have from 20 to 33% of the blockchain network. As part of the dispersal of funds among blockchain developers, it is necessary to strive to ensure that blockchain entrepreneurs have about twice as much as crypto investors: the team is more important than everyone, and this must be reflected in the distribution.

Then the community receives from 67 to 80% of tokens (two, and four times higher than that of blockchain developers).

Summing up

Some say that crypto networks should not have the savings of blockchain investors, as is the case with Bitcoin. Depending on the ambitions of the project, it is a viable alternative for some blockchains and entrepreneurs.

For the creators, the main thing is to have a vision of what, in their opinion, will be a fair segregation of the finances that they will create, and also that there will be depositors who will conform to these values.

After you go beyond the initial offer and distribution, the design of your blockchain network mechanism will give you a second chance to determine where the power and resources are going.