TL, DR

• Polkadot's current annual inflation rate is approximately 8%, with a total supply of 1.6 billion tokens and a historical burn amount of only 20 million tokens. High inflation has led to stagnant funds, restricting the development of the entire ecosystem.
• The community has proposed three inflation reform plans, aiming to reduce the inflation rate to mainstream PoS public chain levels (3% ~ 6%) by 2026.
• Reducing inflation will temporarily lower staking rewards, but combined with LST (Liquid Staking Tokens) and DeFi incentives, it can drive funds from native staking to LST and derivative DeFi scenarios.

Polkadot's Current Dilemma

Since its independent launch, the inflation mechanism of Polkadot (DOT) has been a core topic of community discussion. Currently, the total supply of DOT is approaching 1.6 billion, with a historical cumulative burn of only 20 million, resulting in a very low burn ratio. Although the community passed Ref #1139 proposal in October 2024, reducing the inflation rate from 10% to 8% and fixing the annual issuance at 120 million, the actual effect remains unsatisfactory. At the current rate, it will take at least about 10 years to reduce the annual inflation rate of DOT to around 4.3%.

The main long-term issues facing Polkadot's economic model include:

1. High inflation pressure and excessive native staking rewards: Continuous issuance creates selling pressure on market prices, making it difficult for DOT to establish long-term scarcity and value anchoring. High staking APY (Annual Percentage Yield) attracts a large amount of DOT into native staking or Nomination Pools, but these funds have not participated in DeFi, lacking secondary utilization.
2. Lack of application scenarios: Currently, all newly added DOT comes from protocol inflation (also known as staking rewards), with only a small amount of DOT being burned through transaction fees, Coretime income, and other scenarios. The TVL of the Polkadot ecosystem is about $400 million, far below other public chains, lacking killer applications to drive mass adoption, further limiting the effectiveness of DOT's secondary utilization and burn mechanisms outside of governance and staking. This makes it difficult for the ecosystem to form a virtuous cycle, with token value primarily relying on inflation rewards rather than real demand.

High Staking Rate and Low Fund Utilization Rate

In the current PoS ecosystem, apart from Ethereum, other public chain ecosystems face the issue of "high staking rates but low LST penetration rates."

According to data from Staking Rewards and Dune, compared to Ethereum's staking rate of about 29.67%, other PoS public chains have staking rates generally above 50% — Sui Network's total staking rate is as high as 73.51%, Solana Network's total staking rate is 67.26%, Polkadot Network's total staking rate is 49.2%, and Aptos Network's total staking rate is 96.46%, among others.

However, Ethereum's liquid staking and re-staking market penetration rate is around 36%, with the largest LST protocol Lido holding about 24% of the staking market share; Solana's LST penetration rate is around 8.7%, with the largest LST JitoSOL accounting for about 4% of the entire staking market.

Now let's look at Polkadot, where the current amount of staked DOT has reached 789 million, but the total amount of DOT staked on the largest Polkadot LST protocol Bifrost is only 19 million, resulting in a liquid staking token (LST) penetration rate of only about 3%.

| Public Chain | Total Staking Rate | LST Penetration Rate | Mainstream LST Protocol Share | |--------------|---------------------|----------------------|-------------------------------| | Ethereum | 29.7% | 36% | Lido (steth) about 24% | | Sui | 73.51% | 17.5% | Suilend (sSUI) about 9.1% | | Solana | 67.3% | 8.7% | Jito (JitoSOL) about 4% | | Polkadot | 49.2% | 3% | Bifrost (vDOT) about 2.4% |

Most DOT holders are either in native staking or Nomination pools, with no choice for liquid staking, and have not participated in lending, LP, or cross-chain liquidity mining, resulting in extremely low fund utilization in the ecosystem.

The main reason for the current high staking rate and low LST penetration rate is that the excessively high native staking APY limits the development of DeFi protocols, concentrating the demand for DOT on staking rather than utility, while other use case scenarios within the ecosystem are very thin, providing limited yield opportunities and returns. This leads to users, even if they hold LST assets, having almost no additional scenarios, thus users have little motivation to participate in liquid staking and DeFi activities, creating a vicious cycle.

Impact of Inflation Reduction Proposals on Polkadot

| Model | Total Supply Cap | Inflation Reduction Every Two Years | 2026 Inflation Rate | 2026 Staking Yield | Advantages | |---------------|------------------|------------------------------------|---------------------|--------------------|-------------------------------------| | Strong Pressure Model | 2.1 billion | 50% | 3.34% | About 7% | Quickly creates scarcity | | Medium Pressure Model | 2.5 billion | 33% | 4.35% | About 8.3% | Smooth transition, large ecological buffer space | | Light Pressure Model | 3.14 billion | 13.14% | 5.53% | About 11.3% | Best user experience, stable short-term returns |

Polkadot adopts the NPoS consensus mechanism, and a high staking rate means stronger network security. If lowering the inflation rate leads to a decline in native staking APY, from a short-term perspective, this may cause direct losses in returns for staking users, especially for large holders. However, from a long-term perspective, low inflation means stronger value support, which helps attract long-term holders and enhance economic security.

It is important to note that the inflation rate of the public chain itself has a significant impact on its LST ecosystem. Taking Ethereum as an example — the native staking yield of ETH is only 3-4%, and on this basis, if additional strategies are layered on, even just adding an extra 4% yield would directly double the original level. Coupled with the EIP-1559 burning mechanism, the network can achieve net deflation when it is highly active. Therefore, ETH has formed a positive ecological flywheel: low inflation + high fund utilization → ecological project growth → enhanced fees and burning → price and scarcity increase.

The lesson for Polkadot is that low inflation requires supporting DeFi incentives and DOT application scenarios, otherwise, the activity of funds is difficult to release. When native staking yields decrease, users will be more proactive in turning to LST to seek scenarios that can provide additional yields, which helps improve LST penetration, promotes more effective allocation of funds, and is expected to drive the entire Polkadot DeFi to become more diversified and enriched.

Reducing Inflation is Not the End

While reducing inflation, Polkadot needs to set up DeFi incentives as a buffer mechanism to achieve a "soft migration" of funds, releasing liquidity while maintaining network security. This can not only compensate for the short-term impact of declining staking yields but also enhance overall ecological activity. Viable paths include:

1. Introducing DOT LST into more lending, LP, leveraged trading, and cross-chain mining scenarios to enhance the composability of funds and multi-layer yield structures. Currently, Bifrost's vDOT has captured over 70% of the DOT LST market share, with a TVL exceeding $90 million. This can form short-term yield compensation, smoothing the pain of declining staking APY while enhancing user holding motivation.
2. Utilizing bridges like Hyperbridge and Snowbridge to facilitate cross-chain interactions from Ethereum, Solana, and other networks to Polkadot and its parachains, attracting external users and funds into Polkadot through treasury fund incentives, breaking liquidity islands.
3. Continuously injecting incentives into Hydration to attract external assets into the Polkadot network. The Gigahydration event used 2 million DOT in incentives over 6 months, successfully bringing in mainstream assets like ETH, SOL, AAVE, and LDO, significantly enhancing ecological TVL and user participation.

A Dilemma and an Opportunity

The core issue currently facing Polkadot is the contradiction between high inflation and high staking rates, leading to stagnation of funds and insufficient ecological activity. In the absence of sufficient application scenarios and DeFi incentives, the value capture of DOT primarily relies on inflation rewards rather than real usage demand, restricting the sustainable growth of the ecosystem.

For the Polkadot community, regardless of which plan is ultimately chosen, Polkadot should find ways to increase the application scenarios and value capture mechanisms of DOT, actively building a complete DeFi ecosystem.

In the short term, a reasonable inflation adjustment plan (such as the medium pressure model) combined with phased DeFi incentives will be key to the transition; in the long term, only by continuously activating fund flow (DeFi, stablecoins, payments, liquid staking, etc.) and incubating ecological applications that can attract more users can Polkadot truly achieve stable growth and circulation of internal and external value.

Polkadot stands at a critical historical juncture, and how to balance short-term pain and long-term sustainable growth will test the wisdom and consensus of the entire community.

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