Title: The Challenge of Over-Decentralization in the Cryptocurrency Market
Author: Miles Deutscher, Crypto Analyst
Translation: Mia, ChainCatcher
Over-Decentralization in the Cryptocurrency Market: A Key Challenge to Address
The issue of over-decentralization in the cryptocurrency market has become increasingly evident, serving as a core factor behind the current weakness in performance. Extensive research has revealed that this decentralization poses a serious threat to the overall health of the cryptocurrency market. Unfortunately, a clear solution to this challenge has yet to be found.
The purpose of this article is to shed light on this critical issue that impacts the future development of cryptocurrencies. It will explain how we reached this point, why prices have been underperforming, and the path forward.
Cryptocurrency Market Overflow: The Hidden Concerns of Token Inflation in New Projects
The cryptocurrency market in 2021 exuded an atmosphere of frenzy. A tidal wave of new liquidity flooded the market, driven primarily by the enthusiastic participation of new retail investors. This bull market seemed unstoppable, and investors’ risk tolerance reached unprecedented heights.
During this period, venture capital firms began injecting unprecedented amounts of capital into the field. Founders and venture capitalists, like retail investors, were opportunistic. The increase in investments was a natural capitalist response to market conditions.
For those unfamiliar with the private market, venture capitalists (VCs) typically invest in the early stages of a project (usually 6 months to 2 years before product release) when valuations are typically lower (with equity terms attached).
Such investments help provide funding for project development, and venture capital firms often provide additional services/connections to assist with project launch.
Interestingly, the largest quarter of venture capital funding in history ($12 billion) occurred in the first quarter of 2022.
This marked the beginning of the bear market (yes, venture capital firms accurately timed the market’s peak).
However, it is important to note that venture capital firms are just one type of investor. The increase in trading volume also stems from the increase in the number of projects being created.
With low barriers to entry and the high returns that cryptocurrencies brought during the bull market, Web3 became a breeding ground for new startups. The emergence of numerous new tokens led to a doubling of the total number of cryptocurrencies between 2021 and 2022.
But soon, the party ended. A series of chain reactions, starting with LUNA and culminating in FTX, thoroughly devastated the market.
So, what did these projects, which raised so much money at the beginning of the year, do?
They postponed.
And postponed again.
And postponed again.
Launching projects in a bear market is equivalent to a death sentence.
Low liquidity + negative sentiment + lack of interest meant that many new bear market projects died upon release.
Therefore, founders decided to wait for a market reversal.
Finally, they waited until the fourth quarter of 2023.
(Remember, the surge in venture capital funding occurred in the first quarter of 2022, 18 months ago).
After months of delays, these projects finally found an opportunity to launch their tokens when market conditions improved. They started rolling out new projects one after another, continuously entering the market. Meanwhile, many new players saw these bullish market trends as an opportunity to launch new projects and quickly profit.
As a result, 2024 witnessed a historic number of new project launches.
Here are some mind-boggling statistics. Since April alone, over 1 million new cryptocurrency tokens have been launched. (Half of them are meme tokens created on the Solana network).
According to CoinGecko, the current number of cryptocurrencies in the market is 5.7 times higher than during the peak of the bull market in 2021.
Despite Bitcoin (BTC) reaching new all-time highs in this cycle, the excessive decentralization in the cryptocurrency market and the influx of new projects have become the most pressing issues and the main reasons for the market’s ongoing struggle this year.
Why is this the case?
The more tokens issued, the greater the cumulative supply pressure in the market.
And this supply pressure is “layered.”
Many projects from 2021 are still unlocking, adding to the supply each year (2022, 2023, 2024).
Current estimates indicate a daily new supply pressure of approximately $150-200 million.
This continuous selling pressure has a significant impact on the market.
Token dilution can be seen as inflation. Just as excessive printing of currency by governments leads to a decrease in the purchasing power of the US dollar relative to goods and services, the over-decentralization of cryptocurrencies is essentially the crypto version of inflation, posing a serious threat to the overall health of the market.
Furthermore, the problem is not only the number of newly issued tokens; many new projects have low market capitalization and high circulating supply mechanisms, leading to a) high decentralization and b) continuous supply pressure.
If new liquidity enters the market, all this new issuance and supply could be positive. In 2021, hundreds of new projects were launched daily, and everything was on the rise. However, the current situation is different. So, we find ourselves in the following situation:
A) Insufficient new liquidity entering the market,
B) Significant dilution/selling pressure from unlocking tokens.
How can this situation be reversed?
First and foremost, it is crucial to emphasize that the cryptocurrency market currently suffers from a lack of sufficient liquid capital. The excessive involvement of venture capital firms (VCs) in the cryptocurrency field has become a significant and detrimental problem compared to traditional markets like stocks and real estate. This skewed financing model has left retail investors feeling defeated, as they perceive a lack of winning opportunities. If they don’t see a chance to win, they won’t actively participate in the market.
This year, meme tokens dominated the market, as retail investors sought a field where they believed they had a chance to win after experiencing a lack of profit opportunities in other areas. Since many tokens with extremely high Fully Diluted Valuations (FDV) completed most of their price discovery in the private market, retail investors often cannot achieve returns as high as 10x, 20x, or even 50x like VCs.
In 2021, retail investors had the opportunity to snatch up tokens from certain launch platforms and make genuine returns of up to 100x. However, in this cycle, due to the issuance of tokens with extremely high valuations (e.g., $5 billion, $10 billion, or even over $20 billion), there is hardly any room for price discovery in the public market. As these tokens’ unlocked portions enter the market, their prices often continue to decline due to the substantial increase in supply, posing further challenges for retail investors.
This is a complex and multi-dimensional issue involving various aspects and participants in the cryptocurrency market. While I cannot provide all the exact answers, here are some thoughts and perspectives on the current dynamics of the cryptocurrency market.
Exchanges can enhance fairness in token distribution.
Teams can prioritize community distribution and create larger pools of funds for real users.
Higher percentages can be unlocked during token issuance (implementing measures such as staggered sales taxes to prevent dumping).
Even if insiders do not enforce these changes, the market will eventually do so. The market always self-corrects and adjusts as the effectiveness of current patterns weakens and public reactions change the course of things in the future.
Ultimately, a market more oriented towards retail investors benefits everyone. This applies to projects, venture capital, and exchanges. More users benefit everyone. Most of the current issues are symptoms of short-sightedness (and the immaturity of the industry).
Furthermore, on the exchange front, I also hope to see exchanges become more pragmatic. One way to counter the madness of new listings and dilution is to be equally ruthless with delisting. Let’s clear out the 10,000 dead projects that are still absorbing valuable liquidity.
The market needs to give retail investors a reason to come back. At the very least, it can solve half the problem.
Whether it’s the rise of Bitcoin, Ethereum ETFs, macro shifts, or killer applications that people genuinely want to use, there are many potential catalysts.
I hope this article brings clarity to those who have recently felt perplexed by the recent price trends.
Decentralization is not the only problem, but it is certainly a major one — and one that needs to be discussed.