Original Title: "Detailed Explanation of Friend.tech's Economic Model: Game Theory, Expected Value, and Demand Curve Illusions"

Original Source: Loki

One, How to Create a Successful Ponzi Social Product

The economic model of Friend.tech looks very simple: (1) Key prices increase with quantity (2) A 10% transaction fee is charged for each transaction, which is shared equally between the protocol and the Key issuer (3) Points will be distributed to users in the next 6 months.

The best way to understand economic models is to put yourself in the shoes of the project party. [If it were me designing an economic model, what should I do?] Our starting point is that we hope to create a SocialFi product, but past experience and the current market's abundant liquidity make it difficult for us to be optimistic about this. Therefore, we hope to create a product with certain Ponzi properties to complete the cold start.

(1) (S^2)/16000 means what

The core of Ponzi is to make early entrants earn money. If we imagine that all users enter the queue one by one, considering that S can only be an integer, we should use difference and summation. It can be seen that ΔP/ΔS is linearly increasing, which ensures that as the number of Keys increases, the price of Keys will increase, and the rate of Key price increase will also increase (i.e. it will rise faster and faster).

Obviously, this is a very indirect and efficient Ponzi curve, and each entrant will push up the price, and the magnitude of the push will increase. As for 16000, it is easy to understand. We need a parameter to make S and P have a matching relationship that conforms to the market. As shown in the table below, if the value is smaller, the P curve will be too steep and the price fluctuations will be too large; if the value is larger, the price curve will be more gentle and not Ponzi enough. 16000 is a compromise choice. The smaller quantity carrying capacity also conforms to the current market liquidity situation.

(2) How the economy circulates

Optimists will understand Friend.tech as a social platform, while pessimists will see it as a gambling platform. However, both interpretations share three roles: 1) FT platform 2) Key issuer 3) User. The only profitable activity is user transactions (which also serve as a prerequisite for use/holding).

So the question becomes: how to attract users to purchase? From the perspective of social platforms, the issuer of Key is the service provider (regardless of what service it is), and the platform provides basic services; from the perspective of gambling platforms, the issuer of Key is the dealer, responsible for attracting users.

This type of profit-sharing model is also very simple and efficient. 50% of the profit-sharing is equivalent to the purchase of KOL services. We can see that many KOLs have accepted this point. The reason why the Ponzi scheme is needed is that it also solves the problem of cold start here. In the initial stage, the services provided by the Key issuer are inevitably uneven and unstable. At this time, speculative demand can play a certain substitute role.

（3）Airdrop of Points

  There isn't much to say about points, their purpose is to further stimulate demand and confuse users' speculative, usage, and investment needs.

二、交易的磨损到底是多少？

translates to

2. How much wear and tear does trading really cause?

Objectively speaking, the economic model and narrative of Friend.tech are very beautiful, but after experiencing it, I still decided to give up operating my Room because it is a very negative-sum game.

First, let's ask a question: What is the transaction cost of Key? 10% is clearly an incorrect answer.

We imagine a scenario where you hold 1.1E to enter this market. Due to the 10% transaction fee for buying, you can only purchase 1 Key worth 1E. At this point, your Rooms Value is 1E. However, no matter when you sell, you will need to pay another 10% transaction fee. Therefore, the realizable value of your position is 0.9E. From the moment you buy, the 10% transaction fee for selling is unavoidable, but Friend.tech will delay charging you. In fact, you have lost 19.2% since you bought it (1-(0.9/1.1)), and you need a 22% increase to break even.

19.2% is not difficult to calculate, but unfortunately, this is the second red herring of Friend.tech.

To understand this, we first need to clarify the relationship between "book value (BV)" and "expected value (EV)." Assuming that all Key buyers are speculators (we will discuss other types of users later),

(1) Zhang San, Li Si, and Wang Wu pooled their money to buy a cow, a duck, and an egg. They agreed that the first person to withdraw would take the cow, the second person would take the duck, and the last person would take the egg.

(2) Zhang San/Li Si/Wang Wu all believe that they have the right to claim ownership of a cow, but in fact their claims are equal. There are 6 possible outcomes, with each of them taking:

1. cow, duck, egg
2. cow, egg, duck
3. egg, duck, cow
4. egg, cow, duck
5. duck, cow, egg
6. duck, egg, cow

(3) Since the six probabilities are equal, therefore Zhang San truly owns 2/6 cows + 2/6 eggs + 2/6 ducks, which is 1/3 cow, 1/3 duck, and 1/3 egg.

Through this case, we can see that although Zhang San, Li Si, and Wang Wu all believe that they have the right to claim a cow, there is only one cow. Therefore, this is just an illusion, and the true value of their rights should be equal to the mathematical expectation (EV) of the claim rights. If there is a new player Zhao Liu joining the game at this time, he needs to provide a set of houses. When he joins, the house is divided into four parts, and Zhang San, Li Si, and Wang Wu each receive 1/4.

It can be seen that each new entrant will dilute their own EV held by previous holders. This is the core of Friend.tech: (1) Confuse EV with book value to create a wealth illusion (2) Use the EV of later participants to provide profits for earlier users.

Friend.tech's trading model is that the bottom pool is the only counterparty, so the funds available for trading are the TVL in the bottom pool, which will result in differences. For example, when the number of Keys is 40, the price of Key is 0.1E, and the total market value is 400.1E=4E, while the TVL at this time is ΣP=1.38E. Understanding this, we can draw a curve (yellow line in the figure) of the relationship between book value (BV) and EV.

It can be seen that when the number of keys exceeds about 20, EV/BV stabilizes at around 30%, approaching 30% infinitely. There are two implicit pieces of information here:

  (1) If you buy in the smooth curve section, you will not only pay a 10% transaction fee and a 10% forward transaction fee, but you will also immediately lose about 70% of EV.

  (2) The Room Value displayed by FT is too optimistic. Based on the principle of caution, measuring the value of the Key you hold with Room Value*~30% (EV) would be more scientific.

This also explains why it seems like everyone has achieved at least 2-3 times the book return in the past period.

Three, where is the end point of growth?

Next, let's consider the issue of "return on investment". Here, we still assume that all users join this game with the goal of making a profit. If we use book value as the evaluation standard, it is not difficult to break even. Even if you buy in at 5E, you only need 27 new buyers to break even.

However, from the perspective of EV, it is almost impossible to recoup the cost of purchasing a high-priced Key. Even if you purchase a Key worth 1E, you still need 115 new buyers to achieve EV breakeven. When the protocol data and user numbers grow, we naturally consider the book value as a factor for recouping costs. However, this measurement becomes very unreliable once growth stops or declines.

Meanwhile, regardless of whether it is based on book value or EV calculation, there is a common issue that the higher the purchase price, the more new buyers are needed to break even. However, growth is ultimately limited. If the growth limit is N, then buyers after the N-Mth buyer will not be able to break even. As a result, rational players will not buy in after N-M, and since this information can be obtained by everyone, the lack of buyers in the N-M to N range will cause rational players not to buy in after N-M-L, and so on. This cycle will eventually lead to a continuous decrease in the equilibrium price.

In fact, this situation is one of the most classic cases in game theory - the "2/3 game". So if you find it difficult to understand this process, you can also directly refer to the explanation of the 2/3 game, or watch the Japanese drama "Kakegurui" Season 2's "K Square [Beautiful Woman Voting]". :)

To put it more directly, after the slowdown in net capital inflows, high-value Keys become unprofitable first, and speculators will turn to lower-priced Keys, and so on. The price of a single Key (especially a new Key) will continue to decline. Normally, this downward trend is not a big problem, but another problem is that Friend.tech's Bot is very rampant, and the Bot will monopolize the low-priced area of the Key IPO market. Therefore, after the IPO equilibrium price drops, it will directly enter the arbitrage range of the Bot, and users' EV will be further eroded.

Four, (3,3) is it really reliable?

The next question to discuss is whether (3,3) is reliable? The answer is no. There are several reasons:

(1) (3,3) is usually asymmetric. For example, if you buy a 3E Key and your own Key price is 0.1E, your purchase behavior will contribute 0.15E commission to the other party, while the other party will only contribute 0.005E commission to you.       (2) The (3,3) model under multiple participants is extremely unstable. If only two people come to the same price, then (3,3) is stable, a bit like exchanging protons in the Warring States period. If you kill my proton, I will also kill your proton. But once the number of people increases, (3,3) becomes very unstable.

This is another classic model in game theory - the evolutionary game model. The derivation of the evolutionary game model is very complex and tedious. Simply put, when there are enough people, someone will always try to take advantage by running ahead, because it is profitable. A's run ahead causes B to suffer losses, so B's motivation to run ahead and lock in profits/avoid losses will increase, and there will also be mutual suspicion between C, D, and E, after all, EV is far lower than BV, and the only Nash equilibrium after the formation of the suspicion chain is (-3, -3).

It should be noted that in the past, the number of (3,3) appeared to be quite stable over a short period of time, but this was only because people tended to overlook the issue of EV exploitation during the upward cycle, and the tendency towards -3 was low. After the growth stops or a downward trend appears, -3 will become more frequent. The above only applies to multi-person (3,3) among strangers. If you are already friends in real life or have reached an agreement on (3,3), this (3,3) will be much more stable because choosing the -3 strategy also entails additional reputation loss.

Five, is credit score boosting profitable?

First of all, it should be noted that the current estimated profit of brushing points is based on the estimated FDV. When formulating your own strategy, the real EV = estimated profit based on FDV * probability of actually receiving airdrops * (1-wear rate) (such as linear unlocking, lower than expected prices, etc.).

From my own experience and that of other friends, there are two characteristics of current points: 1) the vast majority of users' points are ultimately only related to the holding value, and there is a snapshot time point before the distribution, only taking the holding value at that time point. 2) As mentioned earlier, the book value of Key is about three times that of TVL, so when calculating the total amount of capital investment, you need to use TVL*3 as the brushing base for all users.

After understanding all the mechanisms of Friend.tech, if you still want to boost your score, the best strategy is to buy and hold the Key of your alt account in one go. This approach can avoid EV exploitation and reduce the transaction fee by 5%. However, it should be noted that the least damaging way is to buy your alt account at full position and sell it after 6 months, so that your total opportunity cost = total investment * 0.905, which means a loss of 9.5% of the principal. But it is best not to have any further transactions in the next 6 months to avoid additional damage.

Six, where is the future of FT?

All of the above discussions are based on an assumption that all participants are speculators, but this is not the case. Many group owners have already started providing differentiated services through Room, and these true "services" are the key for Friend.tech to get rid of Ponzi.

Still using the case of Zhang San, Li Si, and Wang Wu pooling money to buy a cow, a duck, and an egg to illustrate, if there are some changes in the situation: Zhang San promises to withdraw from the game in the end, then the EV of Li Si and Wang Wu will change from 1/3 cow + 1/3 duck + 1/3 egg to 1/2 cow + 1/2 duck, and the EV will significantly increase; if Li Si also promises to withdraw in the end, then the EV of Wang Wu will become a complete cow.

The core of this transformation is that utility demanders will change the situation of "homogenization of claims for compensation", thereby increasing the EV of the remaining participants. This is manifested in two categories in actual Friend.tech.

 1) Issuers' self-holding, binding 33 and passive holders (such as ETFs).

 2) Users who have a demand for using and holding Keys, such as those who wish to establish contact with Key issuers through Room, obtain Alpha information through Room, enjoy Real World benefits, and enjoy potential redistribution of airdrops.

The rights of Key will determine its utility value and the stability of Key chips, making it a junior claimant; while speculative demand will only bring homogenized priority claims and be more affected by price fluctuations, making it more unstable. It can be determined that Key will have a clear differentiation in the future, and it will be difficult for 33 and purely speculative Keys to continue to maintain.

Seven, High Slippage + Bot is Killing This Game

Considering the utility demand, Friend.tech's business model has the potential to break out of Ponzi, but I still decided to sell all the Keys and stop operating my Room last week due to FT's high commission and the Bot killing the game.

On the one hand, Friend.tech charges a (5%+5%)*2=20% transaction fee, which is four times higher than the unilateral 2.5% royalty fee + 2.5% transaction fee charged by Opensea, another high-friction market that we attribute to. Data shows that the TVL of Friend.tech is about 36 million US dollars, while the transaction fee has reached an astonishing 24 million US dollars, of which the protocol has collected 12 million US dollars in transaction fees.

According to our previous algorithm, $36 million corresponds to a total market value of approximately $110 million, which is not an exaggeration if calculated in this way. However, even without considering net withdrawals by users and bots, the minimum friction scenario is $48 million entering this market. After trading for less than 2 months, $12 million of which already belongs to Friend.tech, accounting for 25%.

Meanwhile, these Keys will be charged an additional 10% when sold, which has actually been generated but will be deferred. In addition, based on the total market value of Keys of $110 million, if the turnover rate of these Keys reaches 5% per day, Friend.tech will extract $16.5 million per month, accounting for about 45% of TVL. Everyone's net recharge will continue to flow to Friend.tech.

The claim that "charging high transaction fees is to encourage holding" seems untenable at present. Encouraging holding does not require imposing a 10% tax on buyers, and from recent updates (adding web version, adding watch list) and point rules (Room Value's prerequisite is buying), Friend.tech does not seem to have a substantial behavior of encouraging holding. After all, who can refuse the constantly increasing real protocol income?

But one final point to note is that Friend.tech's product design, economic model, and operational strategy are all very excellent and worth learning from. Social is also one of the deterministic directions of Web3. If Friend.tech can reduce the commission to a relatively reasonable level (or continue to use most of it for Build instead of buying mansions) and solve the problem of Bot flooding, I think I will become one of its most loyal users.

Additionally. My personal Key has no value, and the Room will not operate. If you want to contact me or discuss any issues, my Twitter DM is open to everyone (and no Key is required). If you find my content valuable, feel free to mint the NFTs of my articles on my Mirror ( https://mirror.xyz/lokiz.eth ). They are limited edition (perhaps they will be useful someday in the future) and are not expensive (0.001-0.01E, or free).

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