As new blockchains like Binance Smart Chain (BSC) and Polygon capture the defi market, the pressing issue of fragmented liquidity and interoperability takes center stage, challenging the future of decentralized finance.

Introduction

In the defi summer of 2020, we saw the meteoric rise of defi. Ethereum was the undisputed dominant network for defi, with the lion’s share of users and capital. Ethereum’s ecosystem was filled with dozens of novel decentralized applications (dapps) that captured billions of dollars in liquidity with hordes of users. This euphoric period wasn’t all rainbows and 1000X’s however – gas costs on Ethereum skyrocketed, and transaction finality slowed to a crawl of several minutes. With these prohibitively high gas costs reaching hundreds of US dollars just to complete a simple token swap, we saw solutions quickly emerge to give users who were economically barred from interacting with the exploding defi space a home.

A case in point was new blockchains – namely the centralized Geth fork by leading exchange, Binance, Binance Smart Chain, with its near-free gas costs and lightning-quick transaction finality. BSC wasn’t Ethereum’s only contender, there also was the Ethereum side-chain Polygon, and a promise of Layer 2 (L2) Rollups. These new leaner networks quickly snatched large swaths of market share from Ethereum’s once dominant grasp – Ethereum’s control of total defi total value locked (TVL) dropped from 95% in 2020 to 50% in 2021. Many more novel networks were released to great fanfare with Fantom, Solana, Cosmos, Avalanche, Optimism, etc… However, with one issue solved, a bigger issue was created in our now multichain world – a lack of interoperability.

Interoperability on the blockchain refers to the ability of blockchains to communicate with other blockchains. Without interoperability, users (and liquidity) are stranded on siloed islands made up of hundreds of chains – that’s undesirable! To solve this new requirement of moving capital between these chains, bridges were created to enable users to travel with their capital from chain to chain. Users wanted to move their capital to these new chains in order to interact with new and exciting ecosystems with unique feature sets.

While bridges seemed like the perfect solution to this problem, they have observably failed at offering a secure and frictionless method for users to safely and quickly transport their capital, accounting for over half of all hacks in defi, equaling the loss of $3.6b in 2022 alone, ouch. Bridges also remain slow, as seen in L2 <> Layer 1 (L1) Bridges requiring users to wait for weeks or more to receive their funds back on Ethereum. Bridges also generally charge fees or introduce slippage when moving user liquidity, and commonly will issue “IOUs,” such as USDC.e on Avalanche, which silos liquidity even further.

Why does fragmented liquidity matter? When compared to traditional financial systems, defi has a severely siloed liquidity, which significantly lowers capital efficiency. Capital efficiency relates to the productivity of assets. In defi, the liquidity of USDC on Ethereum, for example, can’t be shared with the USDC liquidity on Avalanche, resulting in higher slippage, fees, and most importantly, drastically lower yields. Imagine if an asset like ETH’s liquidity could be shared between all of the chains it is present on. This would result in exponentially higher capital efficiency, and yield for users. More on this later.

The current landscape of defi is a multichain world that consists of hundreds of disparate blockchains that all have unique characteristics and ecosystems of daps. The leading dapps in defi typically operate on one specific blockchain and are restricted to only enabling users to transact with assets native to the dapps underlying blockchain. Some dapps have tried to scale by deploying isolated versions of their codebases onto many chains, but this offers no solutions to any of the issues users face, such as liquidity fragmentation and a fractured user experience. These liquidity siloes again severely harm capital efficiency (your yields).

The backbone of defi has always been lending & borrowing markets such as Makerdao, Aave, and Compound, which alone currently account for 30% ($15b) of the total TVL of defi ($52b). At the base level, these base layer applications serve to act as non-custodial and decentralized banking systems, an important cornerstone of defi. However, the issue is that these applications are generally outdated, seeing little innovation in the otherwise fast-paced defi ecosystem. Secondly, these mainstay applications have remained on Ethereum, or have offered siloed deployments of their codebases to “altchains”. Most importantly, they all lack interoperability. Unlocking interoperability would serve to offer exponentially better user experiences and yield streams for users! It’s a need of the hour.

Overall, very few innovations have been offered in the cornerstone sector of lending & borrowing since Aave V1, Compound V1, and Liquity from years ago. When we did see a “second generation” of lending & borrowing released with dapps like Euler, Alchemix, Gearbox, and Abracadabra, they were able to garner massive adoption with incremental improvements. We’ve yet to see a full-scale next-gen of the defi money market.

When new chains emerge, usually with a rapid influx of users and liquidity, developers quickly fork these extremely outdated codebases (Aave V1 & Compound V1) to capture the demand, which serves to create little more than dire security issues. For example, Metis had a Compound fork called Agora that lost $80m USD in a hack. Gnosis had an Aave fork called Agave that lost $11m USD. Binance Smart Chain had a fork of Compound called Venus that was hacked for $200m USD. Celo’s Moola Markets, a fork of Aave, was hacked for $8m. Polygon’s Easyfi, a Compound fork, was hacked for $60m. Avalanche’s Blizz Finance, an Aave fork, was hacked for $8m. Suffice to say, forking three-year-old fragile codebases is not a great practice. However, users need access to these important cornerstone dapps on new chains, and isolated multichain deployments take too much time to be properly developed onto new chains to meet the demand.

The lending & borrowing market has seen few solutions to the lacking feature sets that users want in money markets in 2023, such as access to efficient leverage, permissionless lending and borrowing, and long-tail and LP token support. Most important, however, is the need for support for cross-chain lending & borrowing opportunities.

Tokenomics Woes:

Another major issue has been the mechanisms that protocols have employed to attract users and liquidity i.e. Liquidity Mining. Liquidity Mining has shown to be effective in the short term but causes catastrophic problems shortly then after for defi applications looking to gain market share.

Inevitably, mercenary capital providers rent their capital to the liquidity mining dApp as long as the incentives remain valuable. The problem is when you give away something for free, its value quickly becomes “free” (zero) in kind. Once the incentives dry up in quantity, or more generally, sharply fall in value, liquidity providers leave and move to the next liquidity mining geyser, leaving the protocol economically disabled.

Generally, Aave V1/Compound V1 forks employ even more illogical hyper-inflationary liquidity mining programs to make up for their outdated functionality (as seen with Fantom’s Geist & Avalanche’s Blizz). In the case of Geist, which had $12b in TVL at one point, now has less than $100m. What did Geist gain from this liquidity mining extravaganza? Nothing. Hyperinflation as Jerome Powell knows too well doesn’t work long-term. TVL, as Tapioca pointed out in its legendary “Death of Liquidity Mining” Mirror article, stands for “Total Value Locked”- yet it isn’t locked, and its “value” is quite subjective. Therefore, a new economic growth model is necessary for the next-gen of defi protocols.

Info: https://defillama.com/protocol/geist-finance

The entire paradigm of liquidity mining puts protocols in an untenable situation of requiring a perpetual state of inflation to keep their rented liquidity. Few solutions have been proposed besides Olympusdaos’s Olympus Pro bonding programs. When looking at liquidity mining emissions as expenditures, and fees and POL as the DAO’s balance sheet, liquidity mining observably has failed.

Users of today have become wise to the illusion of “70,000% APYs” featuring yields that are totally made up of incentives, and now demand real yields. The real yield movement has seen strong adoption from users who no longer want to worry about how much of the yield they’re receiving is “fake,” or from incentives, rather than compounding the base asset that they supplied.

True cross-chain interoperability when paired with defi’s backbone of lending & borrowing markets, and a new tokenomics model (and decentralized omnichain stablecoin) would create:

• Wider ranges of yield opportunities on a plethora of assets – thus higher capital efficiency and in turn higher real yields – no need for fake yields made up of incentives.
• Frictionless transportation of funds from chain to chain – removing the security woes, slippage, and wait times archaic bridges offer with current stablecoins.
• A seamless experience, removing a lot of the friction that defi currently is defined by. Lend, leverage up, and borrow against any and all of your assets without needing a bridge in the first place.
• Sustainable growth through a full-scale revamp of the defi token model, which would better aligned interests of investors, liquidity providers, and the protocol itself.

This is what the omnichain future offers, and the future isn’t too far away, let’s explore!

Introducing Tapiocadao

Tapiocadao is the first ever omnichain money market, which is powered by Layerzero. Layerzero offers a highly customizable message-passing network that currently connects over 20 EVM & Non-EVM blockchains. Once a Layerzero endpoint is deployed, that chain can seamlessly interact with any other chain that has an endpoint. This allows entirely seamless and trust-minimized interoperability. This is achieved with no middle chain or middleware protocol.

Tapiocadao utilized Layerzero’s message-passing network to support 20 chains and even more as endpoints are deployed, which defragments liquidity and maximizes capital efficiency. Some of the chains Tapioca plans to support include: Arbitrum (as its host network), Ethereum, Optimism, Polygon, Binance Smart Chain, Zksync, Starknet, Avalanche, Celo, Gnosis, Fantom, Aptos, Sui, Cosmos, Berachain, Solana, and many more.

For more information on how Layerzero works, you can read Blocmate’s guide here.

How does Tapioca support so many chains? Well, to support a new chain, Tapioca only needs to deploy small proxy contracts that send and receive messages to Tapioca’s smart contracts on Arbitrum. This allows Tapioca to support hundreds of chains with little development, nor any inherent security risks. This alone is extremely innovative and gives Tapioca a huge lead on its competition in quickly supporting the newest hottest networks, but the innovation doesn’t end there.

This design creates a seamless experience for users to borrow and lend their assets from many different networks, with no more liquidity silos, more lending opportunities, and higher capital efficiency (more real yield). What’s there not to love, eh?

First, let’s take a look at a hypothetical example to get a better understanding of how Tapioca would work in practice:

Again, there are money markets spread all over defi – for example; there is Benqi on Avalanche, Venus on BSC, Geist on Fantom, Sonne Finance on Optimism. The funny thing is, these are all forks of Compound V1.

There are also multichain money markets like Aave V3 that are deployed on multiple chains in singular instances per chain, meaning all of the liquidity on each of Aave V3’s deployments are isolated from one another. Imagine if you could deposit collateral on Avalanche but borrow tokens on Fantom, or lend on Ethereum but receive a yield on your assets on a dozen chains simultaneously. Tapioca effectively connected the fractured world of defi, and the opportunities from this innovation are literally endless.

Not only is Tapioca the first-ever cross-chain money market, but has also created the first-ever omnichain stablecoin. Tapioca’s usd0 can mint and burn chain to chain with no slippage, wait times, etc, and is completely decentralized & censorship resistant. This means Tapioca’s usd0 is not backed by USDC and other centralized tokens.

This is very interesting from a growth standpoint as there’s been a gigantic hole in the market for truly decentralized censorship-resistant stablecoins. On the current market of “decentralized stablecoins,” FRAX is collateralized by USDC, DAI is currently collateralized heavily by fiat coins (this was the reason for the founder of Maker, Rune’s Endgame Proposal), MIM is minted through a multi-sig and has a history of onboarding poor collaterals (along with centralized tokens), and lastly, Liquity’s LUSD remains heavily siloed to Ethereum.

Most important, however, is the aforementioned fact that usd0 will be the first cross-chain stablecoin, which means your liquidity can now travel with you across chains. You don’t need to use a bridge at all. usd0 actually can mint and burn chain to chain just like transferring a token between two wallets on Ethereum. This ushers in a whole new level of composability in the very important space of stablecoins, and Tapioca effectively has filled the largest market needs with the protocol itself and usd0. Product Market Fit or “PMF” isn’t even a question here.

Lastly, one of the most interesting components of Tapioca is its totally new tokenomics model that evolves decentralized finance to an entirely new level that’s never before been seen – focusing on sustainability and the creation of POL (Protocol Owned Liquidity).

While Tapioca has a huge number of innovative features, let’s start with a section on the tokens involved.

The Tokens

The Tapioca DAO has four tokens:

1. $TAP acts as the backbone of the protocol. TAP can be compared to Curve’s CRV in that its true power (and juicy yields) are not unleashed till locked. TAP is not emitted at all – no liquidity mining, rewards, nothing. Therefore, TAP will have very strong value retention with this entirely new innovative token economy that requires everyone to buy in – TAP is never issued for free. TAP also has very strong utility when locked which makes it (in our opinion, which may or may not be biased) to be one of the strongest protocol tokens ever to be released, with a long-term minded inflation schedule. From Tapioca’s docs, it is likely it could take in the excess of 10 years to reach 90m TAP of the 100m total (which TAP also features a fixed supply). While the FDV or “Fully Diluted Valuation” could appear high and potentially harm its rise, we believe smart money will see the mechanics and sustainable inflation and buy-in.

2. twTAP is an innovative escrowed token model which utilizes Tapioca’s Time Weighted Average Magnitude Lock (twAML) system and is an omnichain NFT which means, it’s transferable! The best way to explain twTAP is if users controlled the value of time with veCRV, while twTAP also doesn’t decay over the course of the lock like veCRV.

Imagine for a second if during the height of the Curve Wars participants had to lock longer than four years to get the max reward (1 veCRV per 1 CRV locked), and shorter periods of time during the current bear market. This in itself ensures TAP will be heavily locked, not to mention twTAP lockers receive all of the protocol revenue from the platform’s fees which are generated from users lending & borrowing on 20+ chains. Yeah…

Most interesting is lockers will also receive half of the yield generated on Tapioca’s DAO-owned LP pairs, which use Arrakis Finance’s Uniswap V3 Vaults; these dual profit streams for lockers are (in our opinion) one of the most attractive token locking incentives ever seen, especially with the introduction of Uniswap V3 DAO LP yield sharing – users trading Tapioca’s usd0 (and TAP) paying out lockers is quite the flywheel. twTAP also offers option gauges to control the total options distributed per market. This could introduce a “Curve War” effect from protocols such as Jones DAO, GMX, Benqi and others incentivizing their own assets’ markets, as they would be incentivizing their lending markets to remain deeply liquid.

3. oTAP is an omnichain NFT that lenders receive each week after locking their lent capital for a period of time. oTAP is simply an American call option on TAP, or the right (but not an obligation) to purchase TAP below its market value.

To simplify this, lenders who lock capital will get the ability to purchase TAP at a lower price than it is trading on the market. This offers a “guaranteed” profit or you could use it to gain more twTAP and thus more protocol revenue each week. This discount can range from 5% to 50% depending on the length of the lender’s lock and the current “AML” (more on that later).

The genius part is the use of call options instead of bonds creates a price floor for TAP. These discounts aren’t constant. If a lender with a 50% discount receives oTAP when TAP is $2, they can buy TAP at $1. If TAP were to drop to $1.50, their option is still at $1.

If the price of TAP were to fall enough, the options would become out-of-the-money or unprofitable to redeem, and thus would expire. Secondarily, oTAP creates POL from users redeeming the call option. Tapioca supplies this POL to its Arrakis UniV3 LP pairs, which is how Tapioca makes its assets liquid on many chains. Speaking of its assets…

4. usd0 is Tapioca’s non-algorithmic and over-collateralized CDP (Collateralized Debt Position) stablecoin which could be compared to Abracadabra’s MIM due to both platforms using Bentobox & Kashi. However, usd0 clearly has taken notice of MIM’s mistakes and shortcomings, and also implements quite a few completely new features.

There’s no multi-sig that mints usd0 like MIM – it’s instead constantly minted trustlessly when collateral is supplied. usd0 is also instead minted with network tokens and liquid staking derivatives, such as ETH, AVAX, MATIC, etc and Lido stMATIC and Rocket Pool’s rETH. This gives usd0 censorship resistance in that it is not backed by centralized tokens like USDC, and also through using higher quality collaterals that would protect it from short-fall scenarios MIM encountered with LUNA, wMEMO, and FTT.

usd0 is also not minted with fixed interest rates but elastic interest rates- Tapioca values ETH as the most attractive collateral, so all collaterals feature a “debt ratio” to ETH. If usd0 is collateralized by $100m in ETH, MATIC’s interest rate will max out when MATIC debt reaches $50m (1:2 debt ratio).

Most importantly, usd0 (and TAP) use the Layerzero OFT20 token super-standard to give it the ability to be natively composable- transporting between chains instantly with no fees or slippage from within the token contract. Therefore, it’s the first truly cross-chain decentralized stablecoin.

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