How crypto startups balance speculation with organic demand

Original title: The Hot Start Problem

Original author: Mason Nystrom, crypto researcher

Original translation: Ismay, BlockBeats

Editor's note: This article explores the hot start problem in the cryptocurrency field and reveals the dual role of tokens as an incentive tool in startups. Through discussions on competitive strategies in red ocean markets, participation in passive and active supply-side networks, and speculation as a feature or loophole, it provides deep insights on how to use tokens to guide network development. Whether dealing with the cold start problem or the hot start problem, startups face the challenge of balancing natural demand and external incentives. This article provides readers with key strategies and practical cases for success in cryptoeconomics.

When tokens are combined with new innovative products, the promise of tokens or tokens has proven to effectively alleviate the cold start problem. However, while speculation brings the benefits of network activity, it also comes with the disadvantages of short-term liquidity and non-natural users.

Markets and networks that launch tokens early (or before building enough organic demand) must find product-market fit (PMF) in a shortened time window or they will burn through their tokenized “bullets” as they grow.

My friend and fellow investor Tina calls this the “hot launch problem,” where the existence of a token limits the window in which a startup can find PMF and gain enough organic traction to retain users and liquidity when token rewards are reduced.

Apps that launch with a points system early on also run into the hot launch problem because users now implicitly expect to receive tokens.

I like the framework of the “hot launch problem” because one of the core differences of crypto compared to Web2 is the ability to use tokens — financial incentives — as a tool to bootstrap new networks.

This strategy has proven to be effective, especially in DeFi protocols like MakerDAO, dYdX, Lido, GMX, etc. Token bootstrapping has also proven to be effective for other crypto networks, from decentralized IoT (such as Helium) to infrastructure (such as Layer 1) to certain middleware (such as oracles). However, those networks that have chosen the hot launch problem through token flash expansion face multiple trade-offs, including masking natural traction and product-market fit, prematurely exhausting the tokenized "bullet" in the growth process, and increasing friction in completing operational tasks (such as fundraising, governance decisions, etc.) due to DAO governance.

Choosing a Hot Launch

A hot launch is more advantageous than a cold launch in the following two cases:

Startups competing in red ocean markets (markets with high competition and known demand)

Products and networks with passive supply-side participation

Red Ocean Markets

The core disadvantage of the hot launch problem is the inability to identify organic demand, but this problem is mitigated when building a category with strong product-market fit. In this case, by launching a token early, latecomers have the potential to successfully compete with early market entrants. DeFi provides many examples of latecomers overcoming the hot launch problem by effectively using tokens to bootstrap new protocols. Although Bitmex and Perpetual Protocol were the first centralized and decentralized exchanges to offer perpetual contracts, later entrants such as GMX and dYdX used tokens to quickly increase liquidity and become leaders in the perpetual contract space.

In the lending space, emerging DeFi protocols like Morpho and Spark have successfully bootstrapped billions of dollars in TVL compared to the pioneer Compound, although Aave still dominates. Today, tokens (and points) have become the default option for liquidity bootstrapping programs when there is a clear sign of demand for new protocols. For example, Liquid Staking Protocol actively uses points and tokens to increase liquidity in a highly competitive market.

In the crypto consumer space, Blur has demonstrated a strategy to compete in a red ocean market, through its market-defining points system and token issuance, making Blur a dominant platform in Ethereum NFT trading volume.

Passive vs. Active Supply Side Participation

The hot start problem is easier to overcome in passive supply networks than in active supply networks. A brief history of token economics shows that tokens are useful in bootstrapping networks when there is a passive task to accomplish — like staking, providing liquidity, listing assets (like NFTs), or hardware that can be set and left alone (like the decentralized IoT DePIN).

Conversely, while tokens have also been successful in launching active networks (like Axie, Braintrust, Prime, YGG, and Stepn), the premature appearance of tokens often obscures true product-market fit. As a result, the hot launch problem in active networks is more difficult to overcome than in passive networks.

The lesson here is not that tokens are ineffective in active networks, but that applications and marketplaces that launch token incentives for completing active tasks (like usage, games, gig work, services, etc.) must take extra steps to ensure that token rewards are used for organic usage and drive important metrics like engagement and retention. For example, the data annotation network Sapien gamifies the annotation task and lets users stake points to earn more points. In this case, passive staking by participants when performing certain operations may serve as a loss aversion mechanism, ensuring higher quality data annotation.

Speculation: Feature or Bug

Speculation is a double-edged sword. If integrated early in the product lifecycle, speculation can become a bug, but if strategically leveraged, it can also be a powerful feature and growth tool for capturing user attention.

Startups that choose to launch tokens before gaining organic traction are choosing a hot start, rather than a cold start. They accept this tradeoff, using tokens as an external incentive to capture user attention while betting that they can find or create organic product utility amidst the growing speculative noise.

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