Scarcity Networks: Social Networks on Web3

justinehy
justinehy
0xeD11
September 2nd, 2021

The power of web3 is what originally got me into crypto. I analyzed the web2 platforms as an equity research analyst at Barclays, and immediately recognized the potential of web3 to fix much of what I thought was broken in web2 social networks.

Early conversations about blockchain-based social networks were mostly focused on what could be accomplished by leveraging a different data structure, centering the conversation on “data ownership,” privacy, and digital identity. The switching argument was values-based and not compelling enough for most to deal with any degree of friction on decentralized networks.

Now, as social networks begin to blend with DeFi, the switching argument is about economic incentives, rather than moral imperatives, and the novel functionality they offer: publicly trade and display cultural symbols; invest with and in your friends; earn your way into exclusive social circles; connect directly with your favorite creators; prove ownership of digital assets. Eventually, activity on these networks will create an open social graph that is used to offer better DeFi rates and/or lower collateralization ratios. These new social networks combine social and financial capital, making them approachable to the mainstream in a way that DeFi wasn’t. Everyone understands social capital.

Arguing about whether DeFi is more important than NFTs or whether NFTs, DAOs, or Social Tokens will reign as the dominant social networks of web3 misses the point. Their interconnectedness is what makes web3 so powerful. NFTs create an impetus for people to quickly spin up DAOs, which then serve as NFT market makers. NFTs will act as keys to DAOs, governed according to social token ownership. The metaverse is comprised of the combination of these things, which, in turn, only increase the importance of being able to prove digital ownership. DeFi makes these networks possible and all the activity on these networks will be used to amplify DeFi. Save the tribalism for Punks vs. Apes.

Web3 is Not a Protest, it’s Closer to a Cultural Movement

To understand what’s happening with web3, we need to quickly revisit the shortcomings of web2 social networks. In short, web2 platforms own your online identity and social graph and hold all the power, the business model is extractive to the user and the incentives create a terrible user experience (low signal engagement, disinformation, high ad load, etc.) Web2 social networks suffered as they scaled, weakly connecting people within an increasingly less exclusive network. Web2 lost any sense of belonging.

Social networks combined with elements of DeFi flip many of the web2 incentives but they’ll still be subject to the worst of human nature (after all social networks are built on human interactions.) They’ll still revolve around status and image, but should be much higher signal as web3 is built around ownership rather than indication. Web3 still requires you to be part of a club/clique to participate, but it clearly specifies the process and cost of joining. Web3’s immutable ledger creates accountability where web2 has none, and on-chain interaction encourages less noise and higher quality engagement. It’s still signaling, but it’s more costly and, therefore, more credible.

We originally thought web3 would be built on trust, but turns out it’s actually built on scarcity. The downside is that scarcity networks create FOMO by design, are exclusive by definition, and encourage impulsive behavior as being late carries the risk of being shut out entirely. The benefit is that scarcity will also allow web3 social networks to more effectively scale. The ability to easily spin up DAOs in web3 means that the number of communities can scale rather than the size of the network. Since these communities reward early adopters, gradually converting social capital into financial capital, they offer compounding benefits as they grow.³ An open social graph describing all of this activity would be more powerful than anything that could be built on web2.

Web3 social networks should also be better at continuously reinventing themselves,² since they determine their own outcomes, in contrast to web2 platforms which lost relevance with many of their users years ago. Web3 participants are (literally) invested in the communities they join, which should help maintain quality over time. The best creators and contributors will migrate to web3, rather than stay on on rent-seeking web2 platforms. Web2 platforms and corporate brands will continue to try, but they cannot reverse engineer these dynamics. This revolution has to occur at the protocol layer.

We originally thought web3 would be a protest against web2 monopolies but it looks more like a cultural movement. While culture may be the hook that draws new people into the ecosystem, most of the activity currently occurring on these networks is only partially about culture, at best.

If the mantra of web2 was “come for the tool, stay for the network”, the mantra of web3 is probably closer to “come for the culture, stay for the returns.” And the returns are why most people are involved right now.

Each social component of web3 represents a slightly different value system, but they’re all built on the same principle: scarcity.

NFTs: The Content Layer - Not Just a Status Symbol

Web2 analog: NFTs combine elements of Instagram (influence and image) and LinkedIn (status and prestige.) Depending who you ask, owning a Punk is either like owning a Ferrari or having gone to Harvard.

https://twitter.com/HarryBTC/status/1416435920061018119
https://twitter.com/HarryBTC/status/1416435920061018119

Most people attribute the recent NFT mania to two things 1.) NFTs as a store of value 2.) NFTs as a status symbol. I think it’s true that the market is at least partially driven by people looking for non-$ denominated stores of value in an inflationary environment. Afterall, Visa bought a cryptopunk before they bought bitcoin. But NFTs are also about status (sorry if you thought this was about art). Wealthy people have always used expensive items to signal status, whether it be fine art, yachts, private jets, or handbags.¹ NFTs just make ownership of those items verifiable and public.

It’s not really socially acceptable to have a profile picture (PFP) of your Lambo, but you’re encouraged to display your Punk. MTV Cribs existed to solve this exact problem— how do I flex my otherwise hidden wealth? NFTs.

Public display of these status symbols actually drives more demand for them, playing to our natural mimetic desires. A public ledger also creates bragging rights in that we now have proof that someone got in early, spotted that trend before everyone else, is a die hard fan. Immutable proof that you’re cool. How much would you pay for that?

But there is something more going on with NFTs. It’s not just about status anymore than they’re just a store of value. People held Punks long before they were a flex, and if you ask anyone trading NFTs, they’ll tell you that selling them is the worst part. Maybe that’s because when you sell your NFT, you also lose your tribe. An NFT bonds you with your fellow Apes and communicates to everyone that you belong to a certain group. The public ledger also ties you to a lineage of everyone who has ever owned that NFT. This not only adds a whole new dimension of value to digital art, it elevates you into a new social standing and even ensures your legacy in a way (you’re now an unforgettable part of history.)

No Real-time Feedback Loop

A huge tenet of web2 platforms is that they support real-time feedback loops (Reddit, Discord, Twitter, Tik Tok, etc.) NFTs do not right now. NFT markets are illiquid and price discovery is still inefficient. In other words, NFTs aren’t good at conveying real-time information yet, meaning status is mostly inferred. We know it’s worth something, but we don’t really know what.

This won’t last for long. Almost every CeFi exchange is building an NFT marketplace and there are many startups working on the “financialization of NFTs.” However, these inefficiencies are part of what enables outsized financial returns. While DeFi maximalists love to hate NFTs, the NFT market feels pretty degen.

Social Tokens: The Social Graph - Exclusivity

Web2 analog: Social Tokens are similar to TikTok, in that they allow anyone to go viral. They also represent the web2 shift away from crowded networks to private messaging groups, discord servers, etc.

NFTs have utility beyond collection. One of the things they can be used for is as keys that unlock access to creators and communities.

Ihttps://future.a16z.com/creator-before-community/
Ihttps://future.a16z.com/creator-before-community/

Social tokens are digital assets backed by the reputation of a brand, individual or community.3 They can be fungible or non-fungible. Supply can be fixed or determined by a bonding curve (so that price increases along with distribution of the token.) They fall into two categories: personal tokens (fan clubs) and community tokens (social circles.) Both give holders exclusive access to a person or community. Personal tokens can be launched more quickly versus community tokens, which require coordinating a group towards a shared vision. However, community tokens may benefit from broader distribution, which has proven important in web2. As of Dec 2020, the total marketcap of all social tokens was $81M, now the marketcap of $FWB (one of the most prominent community tokens) alone is $180M.

All of these tokens rely on the belief that a creator or community will become more valuable tomorrow than it is today. Some represent Income Sharing Agreements (ISA), but others grant access to a newsletter, a private chat, or even a voting system that lets people dictate a creator’s daily habits ($ALEX). The artist Connie Digital rewarded $HUE holders with a shout-out on a virtual billboard. The rapper Lil Yachty issued surprise boxes and virtual parties exclusively to $YACHTY holders. $WHALE issued a social token, backed by top NFTs, that holders can use as a payment method on OpenSea.7 Grammy-award winning musician RAC and NBA point guard Spencer Dinwiddie have also introduced tokens to give fans a stake in their success.⁶ Community tokens often grant access to an exclusive newsletter, discord server, and token-gated IRL events.

A Different Type of Walled Garden?

Scarcity is a double edged sword for social tokens as it means as membership grows, entry becomes inaccessible to most ($FWB membership is now priced at +$14,000). These communities will need to experiment with tiered models, in which entry level membership is lower cost and higher levels of membership can be earned through more active participation. Most token communities are introducing the concept of seasons and performance-based systems to avoid free-rider problems anyway.

While scarcity improves scalability, if it comes at the expense of accessibility, we’ll just end up with a different type of walled garden.

One way to reduce this tendency could be to build these communities on a combination of both fungible and non-fungible tokens. An NFT could serve as the key to a community (and even different cohorts, tiers, or functions within that community) and then social tokens could be used to determine ownership and influence (via governance stake) within that community.

Social tokens have many potential benefits but they also run the greatest risk of amplifying the more toxic dynamics of web2. These risks will be magnified with social tokens that are purely speculative (don’t grant any access or non-financial rewards to holders.) Creators or influencers should have full autonomy over their tokens, or at least be required to opt-in. After all, social tokens invite the public to openly speculate on a person or group’s worth. I can’t think of a scenario in which being able to short a personal social token wouldn’t be problematic. Social tokens quantify popularity and create an in-group. Membership should probably be earned rather than bought.

Social DAOs: The Aggregation Layer - Social Circles

Web2 analog: DAOs, literally and figuratively, are a Discord. DAOs also enable Wall Street Bets (partybids) to actually win against Wall Street sharks (whales) and turn web3 into a MMORPG.

Amidst this explosion of NFTs and social tokens, DAOs will play the role of aggregator. Aggregators accrued most of the value in web2 and, in web3, DAOs will aggregate by collecting, curating, and moderating.

https://coopahtroopa.mirror.xyz/_EDyn4cs9tDoOxNGZLfKL7JjLo5rGkkEfRa_a-6VEWw
https://coopahtroopa.mirror.xyz/_EDyn4cs9tDoOxNGZLfKL7JjLo5rGkkEfRa_a-6VEWw

Decentralized autonomous organizations are internet-native collectives that share resources, build products, and work together toward common goals.5 DAOs aren’t new (remember The DAO circa 2016?) but they’ve seen a recent resurgence. In 2019, DeepDAO only recorded 10 DAOs. That number is now 133. This increase was driven by a variety of factors including the launch of DeFi protocol governance tokens, some legal frameworks out of Wyoming and Delaware (series LLCs), and the rise of the NFT market, which created an impetus for the quick formation of DAOs to pool capital together in pursuit of an otherwise unobtainable NFT. Who knows, maybe DAOs become the social clubs of the metaverse.

Social DAOs are the most explicit mechanism by which to combine both social and financial capital. They create digital social circles and can also empower a collective of individuals to flip power dynamics against wealthy individuals. In NFT bidding wars, they can empower a group of individuals to overtake an individual whale (sometimes causing them to switch sides and join the DAO). They also enable co-creation and collective participation in a way that isn’t really possible on web2.

Yes, DAOs are more about community than scarcity. However, they are still scarcity networks as you either have to be asked to join or buy your way in (usually at an increasingly expensive price).

We Have the Network, but Not the Tools

DAOs are not really DAOs yet, meaning most are not actually decentralized, autonomous, or organized. In theory, DAOs reduce coordination costs. In practice, they might even increase them. Common pain points include: lack of regulatory clarity, keeping up with communications and proposals, treasury management, division of labor, allocating payments to members, (semi)-centralized operations, and community selection and engagement. This last point is becoming more important as DAOs mature and people realize the importance of carefully curating a committed community.

A Social Protocol: The Reputation Layer - Credibility

Web2 analog: Twitter + Facebook, but built on Ethereum. On-chain interactions (NFTs, social tokens, and DAOs) create an open social graph that can be leveraged by social protocols.

All social networks start with identity, create a graph between identities, and then attempt to infer things from that graph (reputation, for example.) In web3, ENS + MetaMask replaces SSO as the de facto log-in, allowing web3 identity to integrate with applications beyond a given identity provider’s ecosystem. Eventually wallets will become more like profiles, with native NFT integration for profile pictures, Rabbithole integration for on-chain resumes, and mirror + NFT marketplaces for on-chain portfolios. Interactions between identities will be combined to create an open social graph. Of course, not all interactions will be on chain, but what settles on-chain will allow developers to:

  • Create friend-matching mechanisms based on NFT ownership, DAO membership, social token ownership, and protocol usage

  • Better curate communities

  • Establish community-based delegated credit based on proven membership in particular DAOs

  • Develop a web of trust, the ultimate path towards decentralized reputation and un/undercollateralized lending which ties all of the activity on web3 social networks right back to DeFi again. Social tokens could be used as collateral to bootstrap reputation until we have a full web of trust

    https://twitter.com/jbrukh/status/1419773010425401353

It’s Always about Identity

The non-persistence of online identity is probably the biggest obstacle to effectively utilizing this open social graph. As web2 evolved, users moved away from using their real identities. Finsta, anon, and alt accounts became the norm. On web3 people have public .eth addresses complemented by many other private addresses. Identity is important to social protocols, though, because it creates social accountability, which is totally missing in web2 and DeFi. Incentives (different levels of access or better DeFi rates) could be offered for higher levels of attestation, which could include Proof of Humanity, POAP, and Proof of Participation. Incorporating zero-knowledge proofs into these solutions could help balance verification and privacy. Personal social tokens could also be used as a sort of identity proxy, providing an alternative to hardcoding identity on-chain for those that value privacy more highly.

Based on https://twitter.com/thattallguy/status/1413631784135192576
Based on https://twitter.com/thattallguy/status/1413631784135192576

Web3 Will Not Fix Everything

Social exchange theory totally broke down on web2. Key concepts of social exchange theory include reciprocity, fairness and negotiated rules, with information, approval, respect, power, group gain and personal satisfaction among the rewards in successful transactions. Web3 restores critical elements of social exchange.

That said, technology doesn’t eliminate natural human instincts and, therefore, technology alone won’t prevent some of the toxic elements of web2 from creeping into web3.

Web3 will still be about brand and status, cliques and clubs, and one-upping everyone else. Web3 is still addicting — just ask anyone on OpenSea at 4am. Nobody really knows the consequences of day-trading culture and scarcity networks that reward status and profit above all else. People who can’t afford to will lose millions trying to fit in.⁴ This system of in-groups will exacerbate the industry’s lack of diversity.

If web3 really is about culture, then we should ask ourselves how representative the culture we’re talking about is and if these networks are actually open or designed to reinforce preferential attachment models.

The biggest opportunity web3 has relative to web2, is that web3 doesn’t have to be zero-sum. It’s multi-player and participants literally have a vested interest in each other and the quality of the communities they build. The value generated by web3 should at least accrue to those creating art, contributing content, and building lasting communities rather than siloed monopolies. Participants will finally have a voice and a vote.

It feels like we are at a web3 inflection point, but we are nowhere near mainstream yet. NFT users are in the lower double digit millions relative to the roughly 4 billion users of web2 social networks. Web2 social networks have generated trillions in marketcap…. imagine what web3 can generate and then consider that it more effectively scales.

Peter Thiel has a theory that the best startups are like cults that believe something true. Web3 certainly feels like a cult and whether we believe it’s about culture, status, or scarcity, the value it’s creating is undeniably true.

Web3. Looks rare 👀


I used to be a professional ballerina. Then I was a banker. Now I do crypto. I don’t know if I’m doing this right. Get in touch! I probably want to join your DAO.

Thank you to the following for generous feedback: Dylan Hunzeker, Chris Kurdziel, Medha Kothari, and Matt Stephenson.

  1. Status Monkeys
  2. Jesse Walden
  3. Coophatroopa
  4. Proof of Passion
  5. Chris Dixon
  6. Bankless
  7. Individual Before Community: Why Creator Tokens Will Precede Community Tokens
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