Now Is the Time to Reduce Feed Price Discount
Economic Background of Feed Price Discount
Economically, the feed price discount is a market intervention. In the free Steem Dollar market, the demand is much smaller than the supply mainly due to negligible usage of Steem Dollars (e.g. no market place using Steem Dollar yet). As a result, since late July, Steem Dollar price went down below $1.00 or even $0.90 combined with downtrending STEEM market (when STEEM price is rising, demands for Steem Dollar increase since SBD conversion is more likely to provide profits). In this context, Dan suggested feed price discount 2 months ago.
Basically, feed price discount is like a subsidy that moves the demand curve uptoward, and hence increase the market price. In the opposite side, witnesses can add premium to feed price (which can be compared to a tax), which move down the demand curve especially when Steem Dollar(SBD) price is greater than $1.00. But if you took Economics 101, you heard that market interventions can generate deadweight loss, and hence they are not desirable unless market failures, such as externalities, exist. Then, what are we gaining and what are we losing with the feed price discount?
The Two-edged Sword
The main benefit of feed discount is having a stronger peg in the bearish market. Helping the peg can be justified if we have a consensus that it supports the expansion of Steem ecosystem (e.g. attracting merchants). Imagine that SBD price is only $0.50. Rewarded authors will be dissatisfied, merchants will complaining, and it is not a pegged cryptocurrency anymore. The pegged Steem Dollar is a key part of our ecosystem as a real currency that can be used in real worlds.
But there is nothing free. The feed price discount also has negative sides. It will attract more SBD conversions, which usually generate additional sell pressures on STEEM, and consequently pull down STEEM price and every STEEM holders will be worse off. It is a quite surprising that about 15% total STEEM sells were generated from SBD conversion in October (477/2874k) and 8% in November (204/2440k). Surely, this numbers are not deterministic, but they are enough big to influence the market.
Reducing Debt Is Not Equal to Reducing Debt Ratio
One more thing that should be considered is a debt problem. Since SBD is a STEEM derivative, excessively high market cap of SBD compared to STEEM market cap can potentially destruct the system. So one would argue that we have to reduce the SBD(debt) more actively by incentivizing SBD converters more with high discount rates. It sounds reasonable, but has some blind points. First, since SBD conversion is linked to STEEM price decrease, it has unclear outcome in terms of the debt ratio, while it obviously decreases the total debt amount(SBD supply). Actually, the debt ratio is negatively and highly correlated with debt amount(-0.95) that shows decreases in debt amount rather increase debt ratio.
| Date | Debt Ratio | Debt Amount | STEEM Price |
|---|---|---|---|
| 20-09-2016 | 0.028 | 2411050 | 0.488 |
| 21-09-2016 | 0.028 | 2278485 | 0.452 |
| 22-09-2016 | 0.028 | 2279928 | 0.421 |
| 22-09-2016 | 0.028 | 2279099 | 0.421 |
| 23-09-2016 | 0.029 | 2279575 | 0.516 |
| 24-09-2016 | 0.031 | 2268800 | 0.492 |
| 25-09-2016 | 0.031 | 2271815 | 0.581 |
| 26-09-2016 | 0.031 | 2261005 | 0.586 |
| 27-09-2016 | 0.031 | 2261454 | 0.561 |
| 28-09-2016 | 0.027 | 2259117 | 0.545 |
| 29-09-2016 | 0.027 | 2260430 | 0.496 |
| 30-09-2016 | 0.027 | 2258027 | 0.474 |
| 13-10-2016 | 0.036 | 2157520 | 0.293 |
| 14-10-2016 | 0.042 | 2126904 | 0.298 |
| 15-10-2016 | 0.042 | 2119423 | 0.269 |
| 16-10-2016 | 0.044 | 2089511 | 0.262 |
| 17-10-2016 | 0.044 | 2088787 | 0.260 |
| 18-10-2016 | 0.046 | 2068270 | 0.255 |
| 19-10-2016 | 0.046 | 2060343 | 0.244 |
| 20-10-2016 | 0.047 | 2042297 | 0.233 |
| 21-10-2016 | 0.046 | 2030078 | 0.245 |
| 22-10-2016 | 0.048 | 1994526 | 0.230 |
| 23-10-2016 | 0.048 | 1993421 | 0.231 |
| 24-10-2016 | 0.048 | 1960830 | 0.201 |
| 25-10-2016 | 0.048 | 1955250 | 0.196 |
| 26-10-2016 | 0.049 | 1931204 | 0.178 |
| 27-10-2016 | 0.051 | 1924179 | 0.144 |
| 28-10-2016 | 0.058 | 1907540 | 0.140 |
| 29-10-2016 | 0.058 | 1905256 | 0.151 |
| 30-10-2016 | 0.067 | 1889279 | 0.132 |
| 31-10-2016 | 0.068 | 1883476 | 0.134 |
| Correlation | Debt Ratio | Debt Amount | STEEM Price |
|---|---|---|---|
| Debt Ratio | 1 | ||
| Debt Amount | -0.950343553 | 1 | |
| STEEM Price | -0.912238549 | 0.93566606 | 1 |
As a Converter, I Am Enjoying High Discount, But...
I personally much benefit from the discount. I earned over 10% in a month only by SBD conversion despite that I am buying SBD at around the peg. However, I am now against high discount rates, which give me more money because I believe it is less necessary in recent stabled or rising STEEM market. If the market is not downtrending, excessively high feed price discount will result in one of the two. 1) If SBD buyers do not compete each other and they make a tacit agreement not to buy SBD over $1.00 (so a kind of oligopoly situation), there will be more free money for them caused by the discount. For instance, if STEEM price remains the same and 10% discount, every SBD conversion will gain at least 10% profit if they do not buy above $1.00. 2) If there is severe competition among SBD buyers, SBD price will increase above $1.00 at where the marginal revenue becomes zero. Either of them is not intended in our system, and we should remind that feed price discount produces additional sell pressures on STEEM.
Be Reactive
Ideally, the discount level should be no more and no less than future STEEM price changes, if we have a time machine. It is impossible, so practically, the discount rate has to be very responsive to SBD price and STEEM market condition. If the market is expected to be bullish or is bullish, or at least stabled, the discount rate should be decreased even below zero. When the market is bearish or SBD price is significantly smaller than $1.00, the discount rate should be increased quickly. We do not have to be too much proactive worrying potential incoming downtrends, rather we have to reactive. Furthermore, the shorter conversion period after next hardfork (3.5 days) makes SBD conversion less risky so that the discount also reduced.
"when STEEM price is rising, demands for Steem Dollar increase"
I kind of thought it was the other way around.
-When the price is decreasing, people hedge by selling steem into sbd because it will bring more steem later.
-when price is increasing, people would buy steem with sbd because you get more steem now than later.
I also don't understand how the debt gets canceled in the first place. How does trading on the market destroy sbd? Can you point to some information about this?
Good point. I think that makes sense but investors seem more like to hedge STEEM by BTC or fiats. The reason maybe at this moment SBD is just a STEEM derivative so is not free from STEEM price. When SBD has its own usage more broadly, like buying cereals or coffee, it would be a mode of hedging.
To destroy debt (SBD), you can convert it into STEEM. I do not mean selling and buying in the market. It is blockchain-level method. Check your Steemit wallet and expand Steem Dollar menu. You can see Convert to STEEM
yeah, with btc making upwards moves that makes sense. Thanks for clarifying
It is actually somewhat peculiar that SBD demand would increase when STEEM price increases. There is no real mechanism by which this should occur, other than reduced risk due to the higher STEEM price reducing the debt ratio, but (for the magnitude of price increases we've seen) that is reasonably negligible. It may simply be self-fulfilling in the market (people expect it to happen, so they trade on that expectation, and it does happen). Likewise there may be some bots that in a similar fashion trade on observed correlations that have become self-sustaining. In time I expect this effect to reduce.
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I can't agree, and the white paper agrees.
Quoting from the white paper:
This is exactly the current situation. The debt ratio is ratio is dangerously high and market participants have avoided conversions; both aggregate amount and number of participants doing significant conversions has decreased.
There are some statistical errors, or at least unsupported conclusions in your post:
The fact that you have made a profit doing conversions retrospectively does not mean that conversions would necessarily be highly profitable going forward. If people believed conversions (in the future week) would be highly profitable, then market participants would engage in more of them, not avoid them. This is due the SBD price being higher. The (expected) profit margin on conversions is equal to the current SBD price discount plus the feed discount, so the SBD price increase has already had the effect of a large reduction in conversion incentive. Since Dan's post when SBD was trading at about 80, this has removed about 20% from the conversion incentive. Feed discount has only added back a 6% (at current discount) incentive. This is insufficient incentive and that is why the market participants have been avoiding conversions.
The negative correlation between debt ratio and conversions is very likely reverse causality. The conversions have increased as the debt ratio increased because in seeing the higher debt ratio witnesses have increased the feed discount (and earlier, there was a large SBD price discount as well) and concerned participants have engaged in more and larger conversions regardless of expected profit (for example the approximately $400K of conversions that took place when the debt ratio reached 9%). Also, as the debt ratio increased above 2% and then above 5% it became more difficult and then literally impossible for debt amount to ever increase because SBD creation was reduced and then stopped.
After the fork, the economy will be quite different. I agree the discount should be reduced, probably, and I agree that we have to be reactive. Not, as you suggest, to what the price may have done in the past few weeks, but to whether debt is dangerously high (it is, and likely will be after the fork unless there is a huge price increase) and whether conversions are being avoided (this is less clear as the 3.5 day period may make them more attractive so we may see more occurring), as the white paper explains. We will have to reassess both conditions after the fork.
The debt ratio issue is complicated since it is a function of SBD and STEEM that are connected each other. Empirically, the correlation does not suggest any casualty so it be interpreted in any direction (To identify casualty, we need Granger causality analysis). But an obvious fact is that STEEM price is much more elastic than debt(SBD) amount, so reducing negative impacts on STEEM price would be a more efficient way to reduce the debt ratio.
It is very hard to find the best parameters in the dynamic market. But in my opinion, a good indicator is SBD price. If it goes up far from $1.00, it implies that we are too much incentivizing the demand side of SBD (probably a large part of them is converters given almost no usage of SBD this moment), while too much giving down-pressures on STEEM price.
Regarding the debt ratio, I don't agree that attempting to manipulate the STEEM price is an effective method, nor is it one that witnesses are charged with doing. I am highly doubtful that SBD conversions have more than negligible net effect on STEEM price other than possibly short-term fluctuations, but even if they did, merely not reducing the STEEM price by reducing selling pressure is not sufficient. To actually reduce the debt ratio by manipulating the STEEM price would require making the price and market cap go up. If there were some magic button one could press that would make the price reliably go up, we'd all be pressing it every day. There isn't. In general it requires making the network more useful and increasing demand for STEEM, which is something that can only happen with sustained successful efforts of the developers and community over time. (Of course, I exclude short term fluctuations which can and do happen in either direction.)
Regarding paying attention to the price, I wholeheartedly agree but this is why we also must reduce the interest rate before we pay too much attention to the price. Quoting the white paper again:
In effect, with interest we are disincentivizing supply, raising the price, incurring a cost in the process, and failing to reduce debt. Since this competes in terms of SBD price increase, it works against our ability to sufficiently incentivize conversion with the feed discount. The white paper gives two reasons for feed discount (increasing SBD price and reducing debt); both have high debt as a precondition. If we did not have high debt, we should never have had a feed discount to begin with, at least not a large one (we did in fact have high-ish debt, though much higher now, so the feed discount was and is okay). However, with high debt we should not also have a high interest rate.
These two policy inputs (high interest along with a feed discount) are working against each other and probably should not coexist. The haircut rule complicates things, which is all the more reason (aside from a resulting loss of confidence in SBD and the Steem platform generally) to further reduce debt and get a safe distance away from the 10% debt ratio where a haircut could occur. The current ratio is 5%, which is too close. Relying on there not being a 50% price decline in a highly volatile crypto asset is a bad gamble.
Don't get me wrong. I didn't meant to manipulate STEEM price, rather I am attempting to reduce manipulation on STEEM price, which comes from the discount.
It is up to by perspectives, but please be advised that converters consist of the biggest proportion (31%) of the net influx to STEEM markets. (Plaease see here)
Again, this is not what I meant.
Interest rate is also a tool for the market. And I want to quote this in the white paper too;
"Abuse of this power can harm the value of STEEM so SP holders are wise to vote for witnesses that can be counted on to adjust the price feed and interest rates according to the rules outlined above"
You are vaguely using the term debt, and mixing debt amount and debt ratio, while the white paper obviously mentions debt ratio(the debt-to-ownership ratio) as an issue.
Most importantly, your argument is based on a presumption that SBD conversion(decreases in numerator part of the debt ratio) does not negatively impact on STEEM price (decreases in denominator part of it). Theoretically, it is quite unclear since the circulation of conversion(what you and I are doing) includes STEEM sells, and can pull down the price or block the price going up at any degree. Without evitable proofs of the independency, arguing for higher discounts is a careless approach and can potentially harm the network.
The bold portion is key. The rules outlined above do not include witnesses refusing to increase the feed discount (or worse decreasing it) because they take it upon themselves to try to protect the STEEM price from (conversion-induced) selling that very much built into the system design and the rules given to witnesses as outlined above. The risk of harming the STEEM price from not following the rules comes from failing to reduce debt. This is because, regardless of what is done, a price decrease (even a large one) can't ever be ruled out. If such a decline occurs without the debt (amount) having been reduced, the situation (debt ratio) will be even worse. The rules outline a procedure to protect the system from the greater harm, not one to ensure that the STEEM price is protected from selling.
In large part the current situation exists because action was not taken earlier (at much higher prices) to prevent debt from becoming too large. This was due to a combination of lack of action by witnesses until the problem had grown severe and also general lack of understanding of the mechanism in the community (i.e. no one else pointed out the debt problem either). In an almost exactly analogous way, if significant debt reduction does not continue now, there is the greater risk of a (possible) further drop in the STEEM price leading to even bigger problems later. Again, we can't predict, rule out, or prevent a further price drop. We can only reduce the risk that the debt poses in the event of such a drop (by reducing its amount).
It does, and it gives instructions to witnesses to increase the feed discount when the debt ratio is high, a measure which has as its effect the reduction of the debt amount (the only thing that can be directly controlled by witness actions). The instructions do not say that witnesses should attempt to model or measure the price action of STEEM and set whatever discount they feel appropriate based on their expertise as speculative market economists. That is completely different.
That is not my argument, it is the instructions in the white paper (though I happen to agree with it). There is no other mechanism that exists to control debt other than by incentivizing the reduction of the debt amount. The system design depends on the assumption that STEEM price, even if negatively correlated with debt reduction (in a meaningful causal way), is less-than-proportionately reduced by such debt reduction. Otherwise it would never be possible to usefully reduce debt, and the system wouldn't work (sooner or later, there would be an increase in debt ratio that could not be reduced and the system would certainly fail). We need to make that assumption until some other system is designed that doesn't depend on it (or SBD is removed, which is another option that has been suggested).
You again seems to be back to debt amount, while I talked about debt ratio. Don't forget debt ratio has two components and you still don't prove they are independent.
It is debatable. Why do you think so, and can you verify it?
"Do not cross the bridge until you come to it"
Instead I think a more conservative SBD printing policy (e.g. the cut-off point is where debt ratio is 2%) is efficient.
I personally don't see any rationale for a negative price discount (as this would be seen as breaking the social contract of SBD converting to at least $1 worth of STEEM. I do agree on the need to constantly monitor and adjust discount rates and agree it will vary according to market sentiment.
I don't see SBD buyers tacitly agreeing not to compete with each other. I think prolonged SBD prices above $1 should be met with decreases in the interest rate as well as the discount rate, but think the interest rate should go to zero before the discount does.
If by "negative price discount" you mean a premium, I mostly agree. I haven't come up with a good explanation for how or when it would be reasonable to do that. The white paper only mentions it in one place the context of "discount/premium" but never describes a situation where it might be used.
I agree with you about the interest rate going to zero first, and when you put all the pieces together, that's essentially what rules in the white paper imply. I'm working on post to explain how the rules fit together and identify some missing pieces and ambiguities, so this should become more clear when that is ready.
Negative discount (premium) can be given when SBD demand is too high so we need to discourage part of buyers(converters). High discount + low interest is effective to SBD price, however it cannot reduce converter's profit, which comes from all other STEEM stakeholders pocket. Let me explain with quite extreme numbers. Given high discount rates (e.g. 20%) converters are more confident not to lose money at higher SBD price (e.g. $1.05) since unless STEEM price drops about 35%(202-5) after a week, the discount rate will protect them. If we lower the interest rate and facilitate SBD sells, SBD price can decrease (e.g. $1.00), but converter's expected profit will go up to 40%(202-0). Where does this 35 or 40% come from? It's from the network that sells STEEM cheaper than the actual market rates, and cheaply bought STEEM is sold to the actual markets, which results in decrease of STEEM value and all other stakeholders worse off.
Excellent... agree with you...^^
I read it. I still don't understand the discount, the peg, or how any of it affects the market. I simply don't have the head for economics. I just wanted to swing by and read...try to understand...and say hi. :)
Replying to this nested reply
My comment was intentionally referring to debt amount, that is why I specified it explicitly. The mechanism of incentivizing conversions works by reducing the debt amount. Each 1 SBD of conversions that are so incentivized means that debt amount is reduced by 1 SBD. I also explained elsewhere in my comment above why specifically debt amount is critical (because it determines the danger posed by future price drops).
It is not debatable that the system design depends on it. This is clear from the fact that we have no mechanism to directly reduce debt ratio (for example, such a mechanism might attempt to support the price of STEEM by reducing its print rate or perhaps other measures). We only have a mechanism to reduce debt amount, explanations for why it is needed, and instructions when and how to use it. It is clear that the intent is that it actually be used to address debt problems when they are relatively small, not avoided for fear that it might or could contribute to a STEEM price drop.
It is also a reasonable assumption, because at debt ratios that are small numbers in absolute terms (which all of these numbers are, by design), it is clear that reducing debt should not greatly reduce market cap (and therefore price). The disparity between the market cap and the amount of debt for equity exchanged is simply too small to make the magnitude of difference that would be required.
For example, if the network has a value (market cap) perceived by investors to be $X with 5% debt, then reducing that to 4% debt while increasing coin supply by 1% would not suddenly cause investors to value the network much lower than $X (in fact it might be higher, as they would see it one step farther away from bigger problems). To negatively affect the debt ratio, X would have to not just decrease, but decrease by 20%. It is not something that can be fully "verified" as you ask, but it is so reasonable to expect that this will not occur, any theory to the contrary is an extraordinary one.
In fact it is even rather implausible to think that increasing coin supply by merely 1% would crater the market cap by a large amount_even without any perceived positive benefits from the reduced debt_ (including reduced future conversions). Of course, I'm not referring to what would happen to the price if someone instantly dumped that much. Clearly it would drop in that instant. But what would happen after that is investors would recognize that nothing about the future prospects of the system had gotten worse (in fact, better!), and the dump was merely a good buying opportunity (as many are). The price would quickly recover.
This can not be a solution, by itself, because there is always the possibility of price drops, presenting increasing risk due to a static debt amount turning into a higher debt ratio, even when SDB printing has been slowed or stopped. It is a good "yellow zone" measure to help slow a growing risk and make it easier to reduce debt, but it is not a solution by itself, and still leaves the system highly exposed to additional adverse outcomes on even modest drops of say 50%. It also leaves the system in the degraded state where SBD is not being used to pay out (it is designed to be user-friendly for those not experienced with volatile crypto assets) nor is it being widely distributed to the user base but becomes hoarded. This does not promote the development of services or other aspects of an SBD economy for those users. The "SBD stability" mechanism that switches payout to STEEM was intended as a safety measure, not something that should degrade functionality and be considered "normal" for long periods.
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