Introduction
There are different ways to form an investment thesis in crypto. One is to reject the importance of fundamentals and subscribe to the view that token prices are driven mainly by quick-gain-100x-seeking behavior or "financial nihilism."
Is all crypto simply a meme? Should your technically sophisticated, tier-1 VC-backed, and community-vetted utility/governance "meme" coin be valued more than mine? Which narrative will be picked up by the KOLs next and pumped up by the crowd? What are we aping into?
These views and strategies have merit but don't work at scale and across market cycles. Disciplined investors and researchers must carefully examine the facts and start seeing the forest for the trees.
Let's stick to the first principles and dive into the concept of re-staking. Is it another yield-generating bubble backed by token emission or a new sustainable economy? As the saying goes, the proof is in the pudding; let's look for it!
Cosmos Interchain Security
Eigen Layer has popularised the idea of restaking (renting ETH economic security); however, it was initially proposed and implemented within the Cosmos ecosystem (renting ATOM economic security).
Chains started with the Cosmos SDK provide configurability and sovereignty. However, developers' main challenge is building their own operator set (100-150 validators based on Tendermint consensus), bootstrapping liquidity, and using a native token, which has the risk of inflation and security value loss.
Cosmos Interchain security enables other Chains (Consumer Chains) to be secured by the Cosmos Hub's validator set and the ATOM token's total market cap. In other words, it allows Consumer Chains to rent the economic security from Cosmos Hub.
With 248MM ATOM staked, Cosmos Hub provides 3.2Bn$ in Economic Security to Consumer Chains. This first version of CIS is called “Replicated Security.”
We Can Identify the Following Stakeholders Within the CIS Model:
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Validators – Run Cosmos Hub nodes and additional nodes for Consumer Chains
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Stakers – Delegate Atom tokens to Validators
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Consumer Chains – Rent Security from Cosmos Hub
In Q3 2023, Chorus One reviewed the actual economic data from the two Consumer Chains on Cosmos – Stride and Neutron and made the following findings:
Cosmos Hub Rewards:
- Cosmos Hub minted 367M$ per year or 1M$ daily in ATOM tokens as rewards for Stakers.
- Out of which 37M$ per year went to Hub Validators.
Revenue:
- Cosmos Hub generated 1.5k$ per day in revenue from transaction fees.
- Stride generated 1k$ per day, and Neutron 12$ per day for Cosmos Hub.
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Combined daily transaction fees (2.5k$) would need to be 400 times higher to offset daily ATOM token emission (1M$)
Infrastructure Costs (Excluding DevOps Costs)
It's important to note that Validators need to set up additional nodes to support Consumer Chains, i.e., the hardware cost scales linearly with the addition of new Consumer Chains:
- The monthly node cost per Cosmos chain or ICS is 600$ per month or 7.2k$ per year.
- Cosmos Hub Security infra cost – 180 validators x 7.2k$ = 1.3M$ per year.
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Single Consumer Chain infra cost is the same – 1.3M$ per year.
With Stride generating 365k$ per year and 36.5k$ in commission going to validators, such revenue doesn't come close to offsetting the infra costs for validators (1.3M$ per year).
40% of Cosmos Hub validators are not profitable, and this percentage increases as more Consumer Chains are onboarded.
The consumer Chain would need substantially more revenue to provide an additional yield to Atom stakers. For example, to generate an extra 2% APR on staked ATOM, ICS would need to distribute $65MM per year to the Cosmos Hub.
Finally, the ICS model removes the utility from the Consumer Chain native token, as it can only be used as a governance token and cannot be used for staking or network operations.
In summary, while the original idea of Cosmos Interchain Security offered easier onboarding of new chains, it came with a trade-off of increased infrastructure costs, lack of utility for the Consumer Chain native tokens, slashing risk for Validators, and high cost of economic security and therefore high revenue requirements for Consumer Chains.
As a result, Cosmos Hub governance is unlikely to approve more projects to join CIS unless they are set to deliver meaningful revenue to Hub validators and stakers.
Moreover, the Replicated Security model is being revised, and it’s proposed to use a more flexible version called “Partial Set Security,” whereby Validators can decide whether to run the nodes for Consumer Chains and Consumer chains would use only the Economic Security of supporting validators.
Eigen Layer
Like CIS, Eigen Layer allows Ethereum node operators to opt in to validate the new software modules. Eigen Layer calls these "chains" – Actively Validated Services.
The key difference with the CIS model is that the operators' cost of AVS support is marginal compared to running the ETH node; adding the AVS node to the existing ETH node doesn’t increase server load.
Therefore, AVSs only need to generate enough fees to provide additional yield on top of native ETH staking yield.
There Are the Following Stakeholders Within the Eigen Layer Model:
- Operators – Run Ethereum Nodes and additional AVS modules
- Restakers – Delegate Eth to Operators, which in turn opt into AVSs
- AVSs – Rent Security from Ethereum
Infrastructure Costs (Excluding DevOps Costs):
- It costs approximately 1k USD per year to run 1 x ETH node (32 ETH), and more ETH validator slots can be added without significantly increasing the server load.
- The additional cost of supporting AVS is marginal (close to zero)
Eigen Layer Economic Security
As seen in the CIS model, Consumer Chains need to rent the entire $3.2Bn$ of economic security from Cosmos Hub and are constrained by the number of Cosmos Hub Validators.
Eigen Layer implements "elastic scaling of security" and allows AVSs to dynamically control payouts to ETH stakers.
25000 AVS nodes can provide the equivalent of Cosmos Hub 3.2bn$ economic security.
Similar to CIS, it would cost 64MM$ annually for AVS to generate an extra 2% APR on staked ETH. However, the key difference is that AVS can start with a smaller operator set and run more sustainable economics.
Therefore, while the Eigen Layer brings additional infra costs almost to zero, it introduces the complexity of dynamic operator set and operator payout management. Watchtower networks will play an instrumental role in this process.
Other Open Questions and Challenges Have Been Currently Worked Out:
AVS Selection Process
Who will choose AVSs? Will it be Operators or users of restaking protocols through governance voting? Or both?
Operators are motivated to implement internal risk control frameworks to choose more profitable AVSs and manage slashing risks.
Restaking protocols aim to conduct similar due diligence on behalf of their users.
How will these two groups match AVS strategies and dynamically support the on and off-boarding of AVSs in an automated way?
Are there any potential compliance issues with Stakers or Operators supporting AVSs in certain jurisdictions?
These are not trivial questions!
Potential Operator Centralization
As the incremental cost to support new AVSs for operators is marginal – it would be more profitable for operators to support all available AVSs (as long as slashing risk is adequate), leading to centralization.
Similarly, if users choose to restake only with the major operators, it will also lead to centralization.
Eigen Layer is developing incentives to promote diverse operator sets and solo staking for AVSs to resolve this.
Slashing risk
Stakers opt-in by granting the Eigen Layer smart contracts the ability to impose additional slashing conditions on their staked ETH.
The core idea of the Eigen Layer is to use "pooled security," whereby the same staked ETH is used to support multiple AVSs simultaneously.
However, if one of the AVSs has a bug that leads to slashing, it can affect the operations of other AVSs. Eigen Layer addresses this risk by ensuring the system has "training wheels" and a veto committee can reverse the slashing resulting from non-malicious behaviors.
In addition, AVSs can acquire "attributable security," which, unlike pooled security, is specific to each AVS and will only be slashable by one AVS.
Business Model
Eigen Layer provides more flexibility for AVSs when defining the utility of their native token. In a dual staking mode, AVSs can use the native token for staking and network operations and balance its use vs. ETH throughout the project's lifetime.
Conclusion
In summary, the comparison between Cosmos Interchain Security (CIS) and Eigen Layer highlights the evolution of economic security concepts within blockchain ecosystems.
While CIS pioneered the concept, it revealed drawbacks such as increased infrastructure costs, a lack of utility for native tokens, and high revenue requirements for Consumer Chains.
Eigen Layer represents a substantial improvement by introducing elastic security scaling and dual staking. However, this enhanced flexibility comes with added complexity in managing slashing, security scaling, and operator payouts.
It's truly fascinating to observe the ongoing evolution of this space as the latest restaking ideas from Eigen Layer permeate into other ecosystems such as Bitcoin (Babylon), Cosmos (Ethos), Solana (Composable), and Avalanche.
Thank you to Kam Benbrik for your valuable feedback and review.