Revitalize the Polkadot ecosystem, starting with reducing inflation.

TL, DR

• The current annual inflation rate of Polkadot is approximately 8%, with a total supply of 1.6 billion tokens and a historical burn amount of only 20 million tokens. High inflation has led to capital stagnation, restricting the development of the entire ecosystem.
• The community has proposed three inflation reform plans, aiming to reduce the inflation rate to mainstream PoS public chain levels (3% ~ 6%) by 2026.
• Reducing inflation will short-term lower staking yields, but combined with LST (Liquid Staking Tokens) and DeFi incentives, it can drive funds from native staking to LST and derivative DeFi scenarios.

Polkadot's current predicament

Since its autonomous launch, the inflation mechanism of Polkadot (DOT) has been a core topic of discussion within the community. Currently, the total supply of DOT has approached 1.6 billion coins, with a historical cumulative destruction amount of only 20 million coins, resulting in a very low destruction ratio. Although in October 2024 the community passed the Ref #1139 proposal, reducing the inflation rate from 10% to 8% and fixing the annual issuance amount at 120 million coins, the actual effect remains unsatisfactory. At the current rate, to reduce the annual inflation rate of DOT to around 4.3%, it will take at least about 10 years.

The main issues facing Polkadot's economic model in the long term include:

1. High inflation pressure and excessive native staking rewards: Continuous issuance creates selling pressure on market prices, making it difficult for DOT to establish long-term scarcity and value anchoring. High staking APY (Annual Percentage Yield) has attracted a large amount of DOT into native staking or Nomination Pools, but these funds have not participated in DeFi and lack secondary utilization.
2. Lack of Use Cases: Currently, all newly added DOT comes from protocol inflation (also known as staking rewards), and the destruction of DOT only occurs in a few scenarios such as transaction fees and Coretime revenue. The total value locked (TVL) in the Polkadot ecosystem is about $400 million, which is far lower than other public chains, lacking killer applications to drive widespread adoption, further limiting the effectiveness of DOT's reuse and destruction mechanisms beyond governance and staking. This makes it difficult for the ecosystem to form a virtuous cycle, with the token's value primarily relying on inflation rewards rather than genuine demand.

High Staking Rate and Low Capital Utilization Rate

In the current PoS ecosystem, apart from Ethereum, other public chain ecosystems are facing the issue of "high staking rates but low LST penetration."

According to Staking Rewards and Dune data, compared to Ethereum's staking rate of about 29.67%, other PoS public chains generally have staking rates above 50% — the total staking rate of the Sui network reaches 73.51%, the total staking rate of the Solana network reaches 67.26%, the total staking rate of the Polkadot network is 49.2%, and the total staking rate of the Aptos network is 96.46%, among others.

However, the penetration rate of Ethereum's liquid staking and re-staking market is around 36%, with the largest LST protocol Lido accounting for 24% of the staking market share; Solana's LST penetration rate is around 8.7%, with the largest LST JitoSOL accounting for about 4% of the entire staking market share.

Let's take a look at Polkadot again. The current amount of DOT staked has reached 789 million, but the total amount of DOT staked on the largest Polkadot LST protocol, Bifrost, is only 19 million, with a liquidity staking token (LST) penetration rate of only about 3%.

| Public Chain | Total Staking Rate | LST Penetration Rate | Mainstream LST Protocol Share | | --- | --- | --- | --- | | Ethereum | 29.7% | 36% | Lido (steth) about 24% | | Sui | 73.51% | 17.5% | Suilend (sSUI) approximately 9.1% | | Solana | 67.3% | 8.7% | Jito (JitoSOL) approximately 4% | | Polkadot | 49.2% | 3% | Bifrost (vDOT) approximately 2.4% |

Most DOT holders are either native stakers or in Nomination pools, without choosing liquid staking, and have not participated in lending, LP, or cross-chain liquidity mining, resulting in extremely low utilization of ecosystem funds.

The main reason for the current high staking rate and low LST penetration is that excessively high native staking APY restricts the development of DeFi protocols. The demand for DOT is concentrated on staking rather than utility, and other use case scenarios within the ecosystem are extremely limited. The yield opportunities and rates available are also very restricted, which leads to users having almost no additional scenarios even if they hold LST assets. Therefore, users are less motivated to participate in liquid staking and DeFi activities, creating a vicious cycle.

The impact of the inflation reduction proposal on Polkadot

| Model | Total Supply Cap | Inflation Decrease Rate Every Two Years | Inflation Rate in 2026 | Staking Yield in 2026 | Advantages | | --- | --- | --- | --- | --- | --- | | Strong Pressure Model | 2.1 billion | 50% | 3.34% | About 7% | Rapidly create scarcity | | Medium Pressure Model | 2.5 billion | 33% | 4.35% | Approximately 8.3% | Smooth transition, large ecological buffer space | | Light Pressure Model | 3.14 billion | 13.14% | 5.53% | About 11.3% | Best user experience, stable short-term returns |

Polkadot adopts the NPoS consensus mechanism, and a high staking rate means stronger network security. If a reduction in the inflation rate leads to a decline in the native staking APY, from a short-term perspective, this may cause direct losses for staking users, especially for larger holders. However, from a long-term perspective, lower inflation means stronger value support, which helps attract long-term holders and enhances economic security.

The impact of the inflation rate of a public chain on its own LST ecosystem should not be underestimated. Taking Ethereum as an example - the native staking yield of ETH is only 3-4%. On this basis, if an additional 4% yield is achieved through overlay strategies, it would effectively double the original yield. Coupled with the EIP-1559 burn mechanism, net deflation can be realized when the network is highly active. Therefore, ETH has formed a positive ecological flywheel: low inflation + high capital utilization → ecosystem project growth → increased transaction fees and burns → price and scarcity enhancement.

The insight for Polkadot is that low inflation requires supporting DeFi incentives and DOT application scenarios, otherwise the liquidity of funds is difficult to unleash. When the native staking rewards decrease, users will more actively turn to LST in pursuit of higher returns, looking for scenarios that can provide additional yields. This helps to improve the penetration rate of LST, facilitates more effective allocation of funds, and is expected to promote greater diversification and enrichment of the entire Polkadot DeFi ecosystem.

Controlling inflation is not the end point

Polkadot, while reducing inflation, needs to set up DeFi incentives as a buffer mechanism to achieve a "soft migration" of funds, releasing liquidity while maintaining network security. This can not only compensate for the short-term impact of declining staking rewards but also enhance the overall ecosystem's activity. Possible pathways include:

1. Introduce DOT LST into more scenarios such as lending, LP, leveraged trading, and cross-chain mining, enhancing the combinability of funds and multi-layer yield structures. Currently, Bifrost's vDOT has captured over 70% of the DOT LST market share, with a TVL exceeding $90 million. This can create short-term yield compensation, smoothing the pain of declining staking APY while enhancing user holding incentives.
2. Utilize bridges like Hyperbridge and Snowbridge to facilitate cross-chain interactions from networks such as Ethereum and Solana to Polkadot and its parachains, attracting external users and funds into Polkadot through treasury incentives to break liquidity islands.
3. Continuously inject incentives into Hydration to attract external assets into the Polkadot network. The Gigahydration event used 2 million DOT in incentives for 6 months, successfully bringing in mainstream assets such as ETH, SOL, AAVE, and LDO, significantly enhancing ecosystem TVL and user participation.

is both a dilemma and an opportunity.

The core issue currently faced by Polkadot is the contradiction between high inflation and high staking rates, which leads to capital stagnation and insufficient ecosystem activity. In the absence of sufficient application scenarios and DeFi incentives, the value capture of DOT mainly relies on inflation rewards rather than real usage demand, which constrains the sustainable growth of the ecosystem.

For the Polkadot community, regardless of the final choice of solution, Polkadot should find ways to increase the application scenarios and value capture mechanisms of DOT, and actively build a complete DeFi ecosystem.

In the short term, a reasonable inflation adjustment plan (such as a medium-pressure model) combined with phased DeFi incentives will be key to the transition; in the long term, only by continuously activating capital flow (DeFi, stablecoins, payments, liquidity staking, etc.) and incubating ecological applications that can attract more users, can Polkadot truly achieve stable growth and circulation of internal and external value.

Polkadot is at a critical historical juncture, and finding a balance between short-term pain and long-term sustainable growth will test the wisdom and consensus of the entire community.