DEX’s Members Vote to Make Peace with Investor in Duel Over VE Tokenomics

For months a long simmering battle has been roiling the governance practices at Balancer, the No. 4 decentralized exchange.

On Tuesday, Balancer, which has $1.6B in total value locked, passed a peace treaty to settle the eight-month-long dispute with a yield farming whale known as “Humpy”.

The measure, which was approved unanimously by balancer’s community members, is designed to resolve a dispute over a little understood experiment called vote-escrow (VE) tokenomics.

Governance Rights

VE tokenomics separate governance rights from a project’s native token by distributing VE-tokens bearing governance rights to users that lock up said native token over a period of time.

Decentralized exchanges use VE tokenomics to issue their native token to liquidity providers via “gauges.” VE-tokenholders can vote on which gauges issue the most tokens, incentivizing users to lock up their assets to accumulate ve-tokens.

Curve, the leading stablecoin DEX, pioneered VE tokenomics in 2021. While the system drove a surge in Curve’s TVL and the price of the CRV token, it also resulted in the “Curve wars” where rival groups competed for control over Curve’s governance.

Messari said the approach can create friction between tokenholders and protocols. 

“Without safeguards in place or a high-enough price wall to deter BAL accumulation for self-interest, the [VE] system invites parasitic flywheels in which actors can leverage their veBAL holdings to… amass compounding voting power while returning little to the protocol/DAO. Emission siphoning concentrates governance power, unproductively allocates inflation spending, and rewards toxic behavior.”

When Balancer began experimenting with VE tokenomics eight months ago, it attracted the attention of Humpy, a whale that amassed 35% of veBAL’s supply. Balancer has since struggled to align Humpy’s profit-motivated activities with the objectives of its DAO, resulting in Balancer governance becoming subjugated to a game of cat-and-mouse between the two entities.

Humpy’s Strategy

“Humpy’s strategy was simple: Dominate the liquidity of a Balancer pool, vote aggressively on the gauge, and collect BAL emissions,” tweeted Traver Normandi, a researcher at Messari. “The only issue was the gauges he used generated little revenue for Balancer.”

In May, Humpy manipulated the veBAL system to direct $1.8M worth of BAL over six weeks to a CREAM/WETH liquidity pool they controlled. By contrast, the pool generated around $18,000 in protocol revenues for Balancer over the same period.

Solar Curve, a Balancer contributor and governance delegate, launched governance proposals seeking to prevent Humpy’s strategy from being used on low-liquidity pools and shut down the CREAM/WETH gauge. Despite Humpy mobilizing 44% of votes cast to oppose the proposals, they passed in July.

Humpy ramped up their efforts to engineer strategies maximizing the profits extracted through veBAL. They began using Tetu, a yield aggregator that uses an aggressive approach to optimize veBAL yield by indefinitely locking up collateral in Balancer. 

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Humpy spotted a loophole allowing the veBAL/tetuBAL pool to skirt the gauge limits imposed on illiquid pools. They then injected more than $8.7M into the pool over 24 hours and voted for incentives to flood the veBAL/tetuBAL gauge.

However, the whale misunderstood the code underpinning Tetu, with a looper contract consolidating assets deposited to the pool into tetuBAL, and the veBAL/tetuBAL pool comprising the sole way for tetuBAL holders to exit their position. 

As a consequence, tetuBAL now represents 90% of the pool’s assets, threatening to collapse tetuBAL’s peg to veBAL. Humpy lays claim to 80% of the pool’s liquidity.

Two Options

“Humpy has two options,” Messari said. “Either accept the tetuBAL has an illiquid veBAL position or leverage the illiquid LP investment to farm the gauge for rewards. The latter would, in turn, sponge BAL token emissions and accept total war to defend Humpy’s strategy.

The conflict escalated as Humpy sought to aggressively accrue BAL emissions and pass self-serving governance measures. Humpy was able to delegate all of Tetu’s governance power to Andrea Cianfriglia, a community member, who advocated for Humpy.

But the Balancer community found an ally in Aura, a yield protocol built on Balancer that’s survival is contingent on the exchange’s success. Aura installed a metagovernance system allowing it to amass all of its voting power to vote on Balancer proposals. With Aura comprising the largest holder of veBAL, the Aura was an effective counterbalance against Humpy’s governance power.

However, the governance stalemate continued to deteriorate, with both sides taking turns at shooting down each other’s proposals. With neither party willing to back down, a peace treaty was negotiated to encourage both sides to compromise.

Recent Balancer governance proposals and Humpy’s voting positions. Source: Messari.

The treaty will allow Humpy to continue farming BAL, but yields allocated to the veBAL/tetuBAL pool are capped at 17.5% of emissions distributed moving forward. 

Blacklist

Humpy and Andrea Cianfriglia have agreed to back down on governance proposals intended to limit Aura’s capacity to vote as a unified bloc and blacklist its multisig from governance participation. Humpy will also use their remaining votes for pools that generate more in revenue than they emit in BAL incentives.