The opposite of wrong in a multi dimensional system is not necessarily right. - xh3b4sd

Ethereum is the world computer, providing anyone with very compelling properties of hardness. For that reason, Ethereum is home to most stablecoins, which are just one form of tokenized assets, or RWAs, if we would call it real world assets. Everyone is now excited about RWAs, because the institutions are finally coming. Ever since Donald Trump's election last November, the regulatory shift favouring innovation opened the door for crypto as an industry. We are open for business.

With everyone's excitement, new narratives are spun up left, right and centre. What is the next play? How can this make me money? Who is most to benefit from the regulation induced sea change unfolding over the next couple of years? We are referencing many interesting data points here in the Powerlaw Memo every week, showing how dominant Ethereum is persistently across various onchain categories. In most relevant ways, Ethereum leads the way in basically all TVL related metrics all over DeFi.

Now that RWAs are the new trend, everyone's expectation is that most of the upcoming tokenization will simply continue to unfold on top of Ethereum, first and foremost. In that sense, liquidity begets liquidity. The question though remains in what ways ETH as an asset may benefit from all this institutional adoption in terms of increased utility and eventually price appreciation.

However we want to look at the problem statement, what has to be optimized from any perspective is some kind of utility function. From the perspective of Ethereum as a public blockchain network, the utility function is defined by something in the order of liveness, verifiability and censorship resistance. Those are round about the dimensions that vast amounts of Ethereum researchers and builders care about. From the perspective of ETH as a financial asset, the utility function is defined by something like unit of account, medium of exchange and store of value. Those are roughly the dimensions in which ETH may realizes its value accrual over long periods of time. And from the perspective of RWA issuers as profit maximizing businesses, the utility function evolves simply around doing better business so that shareholders remain happy.

The above describes a complex system nobody can reliably predict. In all what we do here though, we can get pretty far if we only get the direction right. One directionally relevant point that has been made about ETH's value accrual is the idea that ETH will be further used as base trading pair for any tokenized asset. The logic of the argument would then be that more tokenization binds more ETH in liquidity pools, effectively acting as supply sinks, which makes number go up.

At face value, nothing is used as base trading pair just because. Not even ETH. The decision to chose a trading pair is made by liquidity providers who may be motivated in different ways. Some may just want to keep their tokens productive, which is by no means a free for all when the token at hand is a free floating asset subject to price volatility, because impermanent loss is not your friend. Onchain studies have shown time and again that most liquidity providers lose money due to fees, MEV, DEX-CEX arbitrage and volatility induced impermanent loss.

Granted, almost all tokenization today is being done for US Dollar backed stablecoins. So let's ignore all the issue above for the sake of this argument. The mission remains the same, token issuers want to find more and better opportunities to propel their businesses forward, so that they can earn more money. And that opportunity is publicly available in our beloved DeFi money legos. This industry provides rehypothecation primitives that make all TradFi panties wet. We provide instantaneous access to a global customer base allowing national institutions to increase their reach dramatically all around the globe. There are availability, efficiency, transparency and counterparty benefits that DeFi provides almost for free. But none of the above makes ETH more valuable, if ETH is not bound to any of the resulting business practices.

Today we are living through the return of fundamentals, and there must be a compelling reason for ETH to become a major player in the battle of base trading pairs, which overall is a cutthroat business itself. I was curious now and looked at the 24 hour volumes of the top 10 liquidity pools in Uniswap, Curve and Balancer. Note that the 24 hour volume metric was most comparable. What I found onchain was that ETH as part of any pool in the top 10 realized a trading volume of 0.742 billion USD within 24 hours, whereas other pools not involving ETH produced about 1.033 billion USD respectively. That means ETH is already a base trading pair with a market share of 74% in onchain trading volumes.

What matters most in our analysis is the fact that ETH as the native asset within Ethereum mainnet does already enjoy huge network effects, which we can expect to persists. And with that comes a big fat BUT. Once again, the insight here is correct, but the conclusion is wrong. If we were to extrapolate linearly based on a single data point in time, then we could get all kinds of lofty valuations for ETH's future price appreciation. But more tokenization on top of Ethereum does not magically imply similar increases in ETH related trading pair activity or price appreciation for that matter. Those relationships do not scale linearly. We could likely add 1 trillion USD of tokenized assets on Ethereum and the effect on 24 hour trading volume involving ETH may only double from 1 to 2 billion USD. That would be a 5:1 ratio in TVL/Volume terms where those two dimensions are already highly asymmetric based on their nominal values. And I think that ratio itself is A) quite generous and B) doesn't scale linearly either due to diminishing returns.

The TVL/Volume relationship and adjacent debates about what is more important is as old as blockchains themselves. And it seems only few do understand that TVL and Volume do not follow much of any predictable relationship of first order. BTC for instance has a TVL dominance across all of crypto below 60% while running a negative security budget, which is to say BTC does not generate any more value onchain despite being valued the most nominally per coin. That in itself makes no sense whatsoever. Solana flips this picture on its head because there is only about 10% of Ethereum's TVL on Solana while that network in its heyday generated sometimes multiples of Ethereum's volume on a daily and weekly basis. We have seen many Solana shitcoins with a market cap of 100k USD generating 300 million USD in daily trading volume. And whether we call this wash trading or capital efficiency doesn't change the fact that SOL can't keep a market cap above 100 million USD for 3 days straight. I mean, with inflation, that might be doable one day, and I am sure they are on their merry way.

Value and price are not the same, just like TVL and Volume are independent phenomena. Neither can provide us with a reliable idea of future value accrual in isolation. And so what we are left with is simply good old mechanism design in order to figure out how anything works. What we can always rely on are second order effects within complex systems. And whether we look at TVL, Volume or merely price, all of those dimensions benefit from network effects once a certain threshold is crossed. And whether it is Ethereum, Solana or Bitcoin, each will continue to benefit from their very own second order effects in their own right. For this very reason, any attempt to compare one with the other will likely fail to produce any compelling evidence for determining the better or worse, because this is all just apples and oranges. You buy them for very different reasons.

Our number for the week is 56%, which is World Chain's monthly market share of smart wallet activity across the entire Ethereum ecosystem. This type of activity is the very kind of second order effects we were discussing above, because network effects beget network effects. ETH's value accrual matrix is multi dimensional, which is a negative if you try to do the elevator pitch, but which is a big fat positive if your price pool is the cryptographically enabled world economy. Trading pairs saturate quickly because there is really only this much liquidity that you need, which is exactly why the returns that we get diminish very quickly, if we expect trading pairs to be a means of supply sinks for ETH. Just more TVL may not have any reasonable effect anymore on certain types of trading volume. The case we can make though in any event is that Ethereum is the infinite garden, and within that garden ETH is the real estate. Ever more buyers will find ever more sellers in an asymmetric world that keeps increasing its utility function across multiple dimensions simultaneously. Focus on tending the garden, and let a thousand flowers bloom.