Hello everyone, the vote on ZEIP-79 (decrease protocol fee multiplier to 70,000) is now live, and will run until 10th July at 4PM PST.
In addition to the proposal rationale detailed directly on the ZEIP page, there have been good discussions in the Discord staking-zrx channel that we feel would be useful to copy here so to have a productive discussion during the voting period.
There were in particular two questions by members of the community that triggered the conversation. Their core parts can be quoted directly
I have a bit of a conflict of interest here and also the other market makers here. So I would like to get feedback from the community. If the cut results in at least twice the number of transactions, then it is positive. However, it is otherwise a reduction of earnings per $ of liquidity offered.`
And another one:
So if the protocol fees are cut in half, which is what is proposed, that is not just affecting the market makers, it is affecting everyone, including stakers, because the rewards pool could also be cut in half by this change (if the volume doesn’t double).
These are great questions that we addressed in the conversation. Quoting excerpts of the answers
We think that by lowering protocol fees, we will ultimately get more volume (and # fills).
This good liquidity is then served to all DEX apps connecting to 0xAPI/Mesh.
However, transaction costs overhead (a mix of contracts cost + protocol fee, which acts as a fixed gas cost) make these quotes less competitive. Apps like 1inch are very sophisticated and find the best price net of gas costs. That means that 0x quotes can result in not being competitive because of this extra gas cost.
As a proxy analysis, we compared the adoption of Uniswap vs Kyber during the last couple of months. We were curious to check if the difference in gas costs (Kyber requires ~ 5X Uniswap gas) would make a difference in adoption when gas prices rise. We have observed a negative correlation.
In the graph below, the orange line represents the difference in trades on Uniswap vs Kyber (higher = more trades on Uniswap relative to Kyber), and the blue line represents increasing gas prices. We can see that there is a high correlation between higher gas prices and additional share of trades on Uniswap.
One of the assumptions of the protocol fee model was that MM would eventually ‘price-in’ protocol fee in their quotes. This would strongly mitigate the considerations above. But according to the conversations we had so far with a few MM, this has not happened yet. We are confident this will eventually happen as order flows rise.
Finally, all of the above is exacerbated by high gas prices, and that’s what led us to this proposal.
And also, related to the profitability ‘hit’ on market makers profitability:
I don’t think it is as simple as saying that market makers now need 2x the trades to be equally profitable. Lowering costs for takers will increase order flow to market makers, allowing them to capture the spread more often. I’d expect a much larger profit increase from the additional order flow than any decrease in profit from fewer protocol fee rewards.
We wanted to post a summary of the conversation here so to make it available to everyone, and we’d like to open up a forum on this topic to address any other questions on the rationale behind the proposal