Hydro: The Interchain Auction Platform for Liquidity Exports

atom	2024-5-22 11:34

Hydro is a bidding & governance platform for the efficient deployment of liquidity across the interchain ecosystem. It is the central piece of the ATOM wars and a response to what has been the biggest challenge of the interchain since its inception: token liquidity.

The interchain’s liquidity problem hinders the ecosystem’s full potential, impacting both established projects and burgeoning ones.

Thin liquidity translates to volatile asset prices, with fewer users actively trading and small buy or sell orders causing significant price swings. This discourages retail and institutional investors who prefer stabilityIt restricts access to DeFi protocols who rely generally on liquidity pools to facilitate lending, borrowing, and other financial activities. This stifles innovation and user adoption more broadlyInvestors are hesitant to commit to projects with illiquid tokens, fearing difficulty in exiting their positions. It creates a barrier to entry which hinders the healthy competition that should fuel a healthy ecosystemIt discourages developers from building in the interchain. The potential for low user engagement due to limited trading opportunities acts as a deterrent against the Interchain Stack and drives them to Ethereum & Solana

Low liquidity is also a vicious circle, leading to lower trading volumes, making the ecosystem less attractive to market makers who provide additional liquidity, exacerbating the initial issue.

In an effort to improve the situation, projects have started attempting to use the funds available in the Cosmos Hub community pool, with multiple successful liquidity exports having a positive impact (Neutron, Stride, Persistence, Osmosis & Agoric up until now).

The issue is that this method of allocating funds has remained largely manual and uncoordinated, leading to several inefficiencies and missed opportunities. Hydro’s goal is to streamline and facilitate a dynamic and competitive process, which will in turn democratize access to the idle capital available in many of the interchain’s community pools and optimize its deployment across the ecosystem.

Hydro draws inspiration from the “Curve Wars” on Ethereum, applying a similar model to enhance governance and strategic liquidity provision. With Curve, liquidity providers (LPs) are incentivized through trading fees and CRV emissions, and projects using Curve strive to acquire voting power to enhance pool rewards, attract more LPs, and subsequently increase their token liquidity. Hydro will enable the Cosmos Hub & others to capitalize on the demand from other projects to add ATOM & other token liquidity into their systems.

Hydro provides key features such as token locking, voting rights, bidding rules, voting rules, and fund allocation rules. Native token holders lock their tokens into the platform in exchange for “Hydro-locked tokens”, which grant them influence over fund allocation decisions through a series of periodic auctions.

Projects then compete for access to these funds via the governance power of hATOM holders (although Hydro may accept the locking of multiple native tokens in the future, the focus is currently on ATOM / hATOM). The process functions as an auction market. Fund allocation to a project is provisional (similar to a loan), fostering competition and ensuring resources are distributed to multiple projects over time. Auctions occur periodically. For each round, participating projects detail their funding needs, proposed utilization, and amount they are willing to compensate hATOM holders for their support. At the conclusion of each round, projects are ranked according to hATOM holder support, and funds are distributed accordingly.

This model ensures that liquidity is provided where it is most needed with maximum transparency, minimal friction and maximum returns for voters, thereby fostering a robust, proactive governance culture. Hydro aims to transform the manual and generally uncoordinated method of allocating funds into a streamlined, automated and effective system that yields the highest impact results for projects and voters alike.

The Hydro litepaper is already available and any project interested in receiving liquidity exports from Hydro may already reach out to Informal Systems on Twitter.

Informal Systems is also hiring for several positions on the Hydro team, including a business development lead, a research analyst and several Rust engineers. Apply here!

Hydro: The Interchain Auction Platform for Liquidity Exports was originally published in Interchain Ecosystem Blog on Medium, where people are continuing the conversation by highlighting and responding to this story.

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