The maturation of the Defi technology has created a paradox: while the code bases proven in battle and the increase in technical competence have reduced the entrance barrier for the launch of new protocols, ensuring sustainable liquidity has never been more difficult. As thousands of projects based on an increasingly standardized infrastructure compete for a finite group of capital, the ecosystem faces a systemic challenge that threatens genuine innovation and growth.
You are reading Crypto Long & Short, our weekly newsletter with ideas, news and analysis for the professional investor. Register here to get it on your entrance tray every Wednesday.
The multidimensional fragmentation problem
Defi liquidity is fragmented through protocols, chains and tokens pairs. For the new protocols, obtaining adequate liquidity is existential: without it, the user adoption positions, the costs increase, the returns fall and the growth wheel cannot accumulate value. This creates a fundamental challenge: each new DEX, loan platform or performance farm must compete for the same finite capital group, dividing further the available liquidity. The liquidity demand greatly exceeds the influx of new capital.
The traditional financial concept of “capital cost” has become a “liquidity cost” in Defi, but without standardized frameworks to set the price of this risk, the protocols struggle to acquire the capital they need to launch and grow effectively. The protocols use their native tokens, ecosystem funds and, sometimes, their own capital to attract early liquidity. Some do not encourage, they do not attract liquidity suppliers. Others encourage too much, exhausting treasure bonds and creating sales pressure when Token incentives unlock. Both approaches finally undermine long -term sustainability.
VC-protocol voltage
This erroneous price creates a fundamental tension for projects with VC support. Investors that finance portfolio companies through simple agreements for future tokens (SAFT) want protocols to attract sufficient liquidity for growth and profit. However, aggressive liquidity incentive programs directly dilute their tokens holdings.
The result is often unsustainable tokenomic: high initial emissions for starting liquidity, creating artificial success metrics that collapse when incentives decrease. This pattern hinders genuine innovation, since truly innovative approaches face disproportionately higher costs to attract capital.
Market opacity and information asymmetry
The problem is aggravated by the lack of transparency. The most significant liquidity agreements occur through private free sale (OTC) deals with unclear terms. The new protocols have no visibility in market rates for comparable agreements, while established players and internal networks control capital flow.
Without standardized risk assessment frameworks, liquidity suppliers fight to evaluate opportunities effectively. This leads to risk premiums inconsistent in similar protocols and capital concentration on projects with family designs instead of superior technology and innovation.
Towards a solution: a neutral liquidity layer
What the ecosystem needs is connectivity between capital and protocols: a neutral layer in the chain and the protocol focused on efficient capital routing. Such a system:
- Create visibility in liquidity costs in protocols and chains.
- Establish reference points adjusted by the risk for different protocol categories.
- Allow protocols to structure sustainable incentive models.
- It helps capital providers strategically deploying depending on transparent risk metrics.
Establishing a system like this is not about introducing new financial products, but to create a shared understanding of liquidity prices that incentives align between the assigners and capital protocols.
Thinking about the future
As he defines it mature, the standardization of liquidity coordination and risk assessment will be essential for capital efficiency. The protocols that prosper should be those that solve real problems and bring real innovation to space, not necessarily those with the most aggressive incentives.
The challenge is clear: the demand for liquidity in Defi is effectively infinite and the finite supply is existently important. However, the infrastructure, services and pricing mechanisms that determine how the owners of the holders to users have remained significantly behind the innovation of the protocol. Addressing this infrastructure gap represents not only an opportunity to increase efficiency, but a need for sustainable growth in the entire defi ecosystem.
