What is Elastic Supply Token?

Elastic Supply Tokens Explained.

Elastic supply tokens have a changing circulating supply. The idea is that instead of price volatility, what changes is the token supply through events called rebases.

Imagine if the Bitcoin protocol could adjust how much bitcoin is in user wallets to achieve a target price. You have 1 BTC today. You wake up tomorrow, and now you have 2 BTC, but they’re each worth half of what they were yesterday. That’s how a rebase mechanism works.

Introduction

Decentralized Finance (DeFi) has seen an explosion of new types of financial products on the blockchain. We’ve already discussed yield farming, tokenized Bitcoin on Ethereum, Uniswap, and flash loans. One other segment of the crypto space that has been interesting to watch is elastic supply tokens, or rebase tokens.

The unique mechanism behind them allows for a lot of experimentation. Let’s see how these tokens work.

What is an elastic supply token?

An elastic supply (or rebase) token works in a way that the circulating supply expands or contracts due to changes in token price. This increase or decrease in supply works with a mechanism called rebasing. When a rebase occurs, the supply of the token is increased or decreased algorithmically, based on the current price of each token. In some ways, elastic supply tokens can be paralleled with stablecoins. They aim to achieve a target price, and these rebase mechanics facilitate that. However, the key difference is that rebasing tokens aim to achieve it with a changing (elastic) supply. Wait, aren’t many cryptocurrencies operating with a changing supply? Yes, somewhat. Currently, 6.25 new BTC is minted with every block. After the 2024 halving, this is going to be reduced to 3.125 per block. It is a predictable rate, so we can estimate how much BTC will exist next year or after the next halving.

Supply-elastic tokens work differently. As mentioned, the rebasing mechanism adjusts the token circulating supply periodically. Let’s say we have an elastic supply token that aims to achieve a value of 1 USD. If the price is above 1 USD, the rebase increases the current supply, reducing the value of each token. Conversely, if the price is below 1 USD, the rebase will decrease the supply, making each token worth more.

What does this mean from a practical standpoint? The amount of tokens in user wallets changes if a rebase occurs. Let’s say we have Rebase USD (rUSD), a hypothetical token that targets a price of 1 USD. You have 100 rUSD safely sitting in your hardware wallet. Let’s say the price goes below 1 USD. After the rebase occurs, you’ll have only 96 rUSD in your wallet, but at the same time, each will be worth proportionally more than before the rebase.

The idea is that your holdings proportional to the total supply haven’t changed with the rebase. If you had 1% of the supply before the rebase, you should still have 1% after it, even if the number of coins in your wallet has changed. In essence, you retain your share of the network no matter what the price is.

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