DeFi Narrative Changes | Ethereum Shanghai Upgrade May Stimulate The Outbreak Of The Liquidity Staking

2023-02-28, 10:24

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## TL；DR
With the deployment of Shanghai's upgrade, liquidity staking derivatives (LSD) have gained significant growth momentum in the entire market. After the successful deployment, it is expected to improve the incentive mechanism of <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> blockchain users, thus promoting the popularity of liquidity staking, and the number of users using liquidity staking will increase.

## Liquidity Staking - Have Your Cake and Eat It Too
Liquidity staking is also known as "reward pool staking", which refers to the process by which users obtain liquidity through staking tokens. Users participating in liquidity staking can obtain derivative tokens of staked tokens at the same time as staking tokens to obtain liquidity. Taking the staking of <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> as an example, if we understand the staking behavior on <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> as a "time deposit" of a bank, then the liquidity staking is equivalent to a "current deposit". The quantity of derivative tokens obtained by staking Ethers is equal to the quantity of staked Ethers. The derivative tokens can be put into the wallet or used on the dApp. Meanwhile, the stakers can sell these derivative tokens at any time, or exchange stETH into ETH in the Curve or <a href="/price/balancer-bal" target="_blank" class="blog_inner_link">Balancer</a> liquidity pool to unlock their staked ETH.

![](https://gimg2.gateimg.com/image/article/1677579698111.png)<center>Number of stakers and validators in ETH as of February 28 - Source Dune  </center>

To stake directly on <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a>, you need to deposit at least 32 Ethers (approximately $51,840), hold at least 4G memory and 2T solid-state hard disk devices, and activate the validator software. For most users, the technical requirements and cost threshold are too high. Unlike staking directly on <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a>, staking on the network of liquidity staking service providers can stake any amount of Ethers without any setting, which largely eliminates the barriers to entry into the market.

## <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> Shanghai Upgrade May Stimulate the Outbreak of The Staking Track
The <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> Shanghai upgrade is the most anticipated network fork after the <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> Merge last year. The Shanghai upgrade will introduce a series of EIPs, including the widely watched beacon chain withdrawal. The withdrawal test network "Zhejiang" was launched on the 1st of this month and successfully simulated the withdrawal of staked ETH. On the evening of the 10th, the <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> Foundation announced that the  Shanghai+Capella (Shapella) mainnet upgrade was entering the final pre-release stage - the public testnet, while Sepolia, another long-existing public testnet, would be upgraded on February 28.

The longer the lock-in period, the more important the liquidity staking will be. Compared with the staking ratio of tokens in most public chains, the staking rate of <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> is relatively low, and other public chains usually use high annual yield to attract users, which is easy to cause the value of staked tokens to shrink. However, <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> entered the deflationary stage after Merge. With the continued development of <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a>'s ecosystem, the staking economy of <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> has strong attraction and sustainability. Most people in the industry also expect that the future of liquidity staking will flourish with its popularity because liquidity staking can solve the problem of token liquidity and maximize capital efficiency while ensuring the liquidity of the stakers.

![](https://gimg2.gateimg.com/image/article/1677579751222.png)<center>Ether has entered a net deflationary state since January 15 this year - source: ultra sound money </center>

### Lido vs <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a>
Lido and <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a> are two prominent projects in terms of Ether staking providers.

Lido Finance provides liquidity staking services for five cryptocurrencies: ETH, MATIC, SOL, KSM, and DOT. No matter which of the first five cryptocurrencies users deposit on the platform, Lido will give users a corresponding number of st-type tokens (st-type tokens are similar to the vouchers that people get when they take gold as collateral). When users choose to stake Ethers, there is no limit on the minimum staking amount. Any amount of Ethers can be staked in Lido.

In the scenario of Ether staking, after <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> completes the withdrawal upgrade, users can redeem the corresponding number of ETHs held by stETH through the Lido protocol. Each time a user redeems ETH, the Lido protocol will destroy a stETH to ensure that the ratio of the number of stETH to ETH is 1:1.

In addition to staking ETH/MATIC/SOL/KSM/DOT to get annual yield, users can also trade st-type tokens or staking in the mainstream DeFi projects such as <a href="/price/aave-aave" target="_blank" class="blog_inner_link">Aave</a>, Curve, and <a href="/price/uniswap-uni" target="_blank" class="blog_inner_link">Uniswap</a> to get income. These st-type tokens have their own annual yield, which is equivalent to that users can stake these st-type tokens in addition to the income from initial staked tokens, so as to obtain two incomes.

Take ETH as an example (only for illustration):

🔹 Deposit ETH in Lido to obtain stETH

🔹 Deposit stETH in <a href="/price/aave-aave" target="_blank" class="blog_inner_link">Aave</a> and lend ETH

🔹 Repeat step 1 and cycle the whole process.

Lido's business model: Let’s take Ether as an example. Users stake <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> and get an equal number of stETH. The staked Ethers are distributed evenly among 54 node operators in 32 ETHs. Then the node operators can start to validate the transactions on the <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> beacon chain. In the Lido protocol, 90% of the proceeds of staked tokens belong to the staker, and 10% of the proceeds are used as the protocol income. Of the 10% of the protocol revenue, 5% will be distributed to the node operators, and 5% will enter <a href="/price/lido-dao-ldo" target="_blank" class="blog_inner_link">Lido DAO</a> (the governance token is LDO).

<a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a> only focuses on providing Ether staking service. In <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a>, users need to stake at least 0.01 Ether. After staking a certain amount of Ethers, users will get a certain amount of rETH. rETH represents the number and time of Ethers deposited by users. That is to say, the ratio of Ethers to rETH is not fixed. The specific ratio is calculated by rETH: ETH = ETH stake + Beacon chain reward.

What users can get: Since beacon chain rewards, priority fees, and MEV rewards will continue to accumulate, it means that the value of rETH will always increase compared with the value of Ethers. Secondly, similar to Lido's stETH, users can stake rETH in Curve, <a href="/price/uniswap-uni" target="_blank" class="blog_inner_link">Uniswap</a>, and other DeFi mainstream projects to obtain income. In addition, users can also choose to stake 16 Ethers to become the node operator of <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a>, and to obtain beacon chain rewards, commissions for the ETH staking pool, and RPL rewards.

![](https://gimg2.gateimg.com/image/article/1677579784333.png)
<center>rETH vs. ETH value changes over time - Source: RocketPool official website</center>

<a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a>'s business model: Anyone in <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a> can become a node operator in <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a> by creating a "mini pool" (as of the time of writing, <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a> has 2143 node operators). The node operator needs to stake at least 1.6 RPLs (the governance token of <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a>) with the value of <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> as supplementary insurance for major reduction events (such as forced withdrawal from validation without permission, offline, and failure to perform assigned duties, etc.). When the node operator is punished or confiscated by the <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> protocol, the RPL collateralized by the node operator will be sold by auction, to obtain Ethers as compensation for the loss of <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a>. <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a> does not charge for staking tokens.

### The Difference Between Lido and <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a> Business Models
The difference between the two can be more intuitively understood through the explanation of 0xTodd:

*"Lido entrusts the management of ETH to the node operators, so the validation keys are relatively scattered, and each operator takes a part of them. It means that Lido is a group, which has 54 strong working group members. You don't need to work yourself, but let the working group professionals help you. Therefore, the operator takes 5% of the share, and Lido takes another 5%."*

*“<a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a> can have numerous operators. Anyone with a machine/cloud server+16 ETHs can be an operator. In other words, <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a> is a crowdsourcing platform. It has a group of Meituan riders with electric vehicles (machines/cloud servers) and computer rooms to help you run nodes. "*

Lido's strategy of pursuing multi-chain expansion has made it occupy an unshakable leading position in the field of liquidity staking. Meanwhile, it has also established amazing liquidity for stETH on Curve. Up to the time of writing, more than 520,000 stETHs have been collateralized in Curve, which provides convenience for stETH holders to exchange ETH, and also strengthens the pegging between stETH and ETH.

![](https://gimg2.gateimg.com/image/article/1677579796444.png)<center>Growth trend of total value lock (TVL) of Lido protocol - source DeFi Llama </center>

<a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a> was launched 11 months later than Lido. As of the time of writing, <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a> network has obtained more than 410,000 staked Ethers, accounting for about 2.4% of the market share, far behind Lido's 31.1%. <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a> does not pursue the multi-chain strategy to some extent, which can help it to gain a foothold in the interest market and win the favor of the <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> community. However, because most users pursue interests and reliability (the scale of Lido and the reliability brought by liquidity are incomparable), the selection of <a href="/price/rocket-pool-rpl" target="_blank" class="blog_inner_link">Rocket Pool</a> still limits its competitive potential in the market.

## DeFi Narrative Changes - from Staking, Yield Farming and Liquidity Mining to Liquidity Staking

📌 Staking: In the blockchain network of the PoS consensus mechanism, tokens are used as collateral to become validators to earn income.

📌 Yield farming: Users earn passive income by depositing cryptocurrency into the liquidity pool.

📌 Liquidity mining focuses on providing liquidity for the DeFi protocol, which is equivalent to a subset of "yield farming". Users stake cryptocurrency to collect the handling fee and protocol reward for the on-chain transaction to obtain more revenue.

### Staking
The traditional staking mechanism relies on users to "lock" their tokens in a specific period of time (for certain events on the blockchain). Users can withdraw their staked tokens or continue to stake tokens at the end of an epoch. However, in terms of the <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> network, users cannot withdraw tokens at the end of an epoch (for the <a href="/price/ethereum-eth" target="_blank" class="blog_inner_link">Ethereum</a> network, an epoch is the time required to process 30,000 blocks).

The traditional staking mechanism is designed to help protect the network, provide liquidity, and validate transactions and/or nodes. This staking mechanism does not belong to a specific consensus mechanism.

### Yield Farming
Yield farming is similar to liquidity mining in nature, but there are also differences. Yield farming is the process of lending or staking cryptocurrency to the liquidity pool through dApp in exchange for interest or more staked cryptocurrency and other rewards. Yield farming usually has two different reward mechanisms. Yield farming protocols are managed by automatic market makers (AMM). Unlike general trading systems, AMM provides automatic and permissionless access to liquidity pools.

When investing in the liquidity pool, users will receive some tokens as rewards for their contributions to the liquidity pool. These tokens can be exchanged at any time so that users can exit the liquidity pool and get rewards and initial principal.

### Liquidity Mining
Liquidity mining is a process in which cryptocurrency holders "lock" their tokens by lending them to decentralized transactions in exchange for rewards. These rewards usually come from the transaction fees incurred by the traders in exchanging tokens, in other words, the annual percentage yield (APY) obtained by the traders. In essence, these users' tokens provide liquidity for the market, and they can obtain passive income from it.

In this process, users do not lock their tokens in the network but lock their tokens through a decentralized exchange. Users can withdraw at any time at the end of the specified period or according to the contract to terminate the protocol.

<div class="blog-details-info">
<div>Author: **Jill Ma** & **Matthew Webster-Dowsing**, Gate.io Researcher
<div>Translator: Joy Z.
<div class="info-tips">\*This article represents only the views of the researcher and does not constitute any investment suggestions.
</div>

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