Dynamic Supply

A rebase is an on-chain event that proportionally adjusts the token balance of every holder's wallet to achieve a target price or supply metric. This is the core function of dynamic supply.

• Example: If the target price is $1.00 and the market price is $1.10, a positive rebase increases all wallets' token balances to dilute the price back toward the target.
• Key Property: Your percentage ownership of the total supply remains constant, but the token count in your wallet changes.

Dynamic supply tokens are designed to be price-elastic, meaning their supply expands or contracts to maintain a relationship with a target value, often an external asset like the US Dollar.

• Primary Use Case: This is the foundational model for algorithmic stablecoins (e.g., Ampleforth, Olympus v1) which use supply changes instead of collateral backing to maintain peg.
• Oracle Dependency: The mechanism relies on a price oracle to determine the deviation from the target and calculate the required supply adjustment.

Occurs when the market price is above the target price. The protocol mints new tokens and distributes them proportionally to all existing holders.

• Effect: Increases circulating supply, applying sell pressure to push the price down toward the target.
• Holder Impact: Wallet balance increases, but the monetary value of the holding aims to stay roughly the same post-rebase, adjusted for market reaction.

Occurs when the market price is below the target price. The protocol burns tokens by reducing the balance in every holder's wallet.

• Effect: Decreases circulating supply, creating scarcity to lift the price toward the target.
• Holder Impact: Wallet balance decreases. This is a deflationary event that aims to increase the value of each remaining token.

A common companion strategy where the protocol itself owns and manages the liquidity pools for its dynamic supply token. This prevents liquidity rug pulls and aligns incentives.

• Function: Revenue from minting (seigniorage) or other mechanisms is used to fund the treasury, which then provides deep, permanent liquidity (e.g., in Uniswap V2/V3 pools).
• Example: The Olympus DAO treasury historically used this model to back its OHM token.

Seigniorage is the profit generated from minting new tokens. In dynamic supply systems, this value is often captured by the protocol treasury or distributed to stakers as an incentive.

• Staking Rewards: Many protocols (e.g., Olympus) offer high APY for staking (sOHM), which is funded by seigniorage from expansionary rebases.
• Sustainability Challenge: This model requires continuous demand growth; if demand falters, the death spiral of negative rebases and fleeing stakers can occur.

Dynamic supply models, like rebasing or seigniorage, are designed to stabilize a token's price around a target peg (e.g., $1). When the market price deviates, the protocol algorithmically adjusts the total supply held by all wallets, expanding it when the price is above target and contracting it when below. This creates a built-in, decentralized mechanism for maintaining purchasing power without relying on centralized reserves.

By programmatically managing supply to maintain a target value, these tokens can function as efficient units of account and mediums of exchange within their native ecosystems. This reduces the volatility drag often associated with static-supply crypto assets, making them more suitable for decentralized finance (DeFi) applications like lending collateral, stablecoin pairs, and payment systems where predictable value is critical.

Dynamic supply implements a transparent, on-chain monetary policy governed by code rather than a central bank. Rules for expansion and contraction are predefined in smart contracts and executed autonomously based on oracle price feeds. This eliminates discretionary human intervention, creating a trust-minimized and predictable system for managing the token's fundamental economics.

In a rebasing model, supply adjustments are applied proportionally across all token holders' wallets. If the supply increases by 10%, every holder's balance increases by 10%, maintaining their percentage ownership of the network. This ensures the adjustment is non-dilutive at the ownership level, aligning incentives and fairly distributing the effects of the protocol's monetary policy.

Some advanced models, like Protocol Controlled Value (PCV) or bonding mechanisms, use surplus funds generated during expansion phases to build a treasury of diversified assets. This treasury backs the token's value, enhances its stability, and funds protocol development, creating a self-sustaining economic flywheel that is owned and governed by the token holders themselves.

Ampleforth (AMPL) is a canonical example, using daily rebases to target the 2019 USD CPI-adjusted dollar. Frax Finance (FRAX) employs a hybrid model, partially collateralized and partially algorithmic, dynamically adjusting its collateral ratio based on market conditions. These demonstrate how dynamic supply can be engineered for different stability and decentralization trade-offs.

The primary risk is token dilution, where an increase in supply reduces the proportional ownership and purchasing power of existing holders. This is a core feature of inflationary tokenomics, where new tokens are minted to reward stakers or liquidity providers. Holders not participating in yield-generating activities may see their share of the network's value erode over time, even if the nominal token price remains stable.

Tokens using a rebase mechanism (e.g., Ampleforth) adjust wallet balances automatically, which can cause significant price and accounting volatility. Key risks include:

• Slippage and MEV: Large, predictable supply changes can be front-run by bots.
• Integration Complexity: Exchanges, wallets, and DeFi protocols must explicitly support rebasing, leading to fragmentation.
• User Confusion: Seeing token balances change daily without a direct transaction is disorienting and can lead to errors.

Many dynamic supply models rely on price oracles (like Chainlink) to trigger mint/burn functions. This creates a critical dependency and attack surface:

• Oracle Failure: A stale or incorrect price feed can trigger incorrect supply adjustments, destabilizing the peg or target metric.
• Market Manipulation: Attackers may attempt to manipulate the oracle's price source on a DEX to trigger advantageous supply changes for profit (a form of oracle manipulation).

Dynamic supply is often used in algorithmic stablecoins and high-APY "rebasing" projects. The core risk is a death spiral: if demand falls, the algorithm mints/sells more tokens to defend a price, increasing sell pressure and further eroding confidence. This reflexive dynamic can turn a correction into a collapse, as seen in the failure of projects like Terra's UST. Long-term sustainability depends on continuous new capital inflow.

The smart contracts governing supply changes are complex and carry smart contract risk, including bugs or exploits in the mint/burn logic. Furthermore, many systems are controlled by decentralized governance (DAO). Risks include:

• Governance Attacks: A malicious actor could gain voting control to manipulate parameters for personal gain.
• Update Lag: Emergency responses to market crises can be slow due to governance proposal timelines.

Dynamic supply tokens create novel regulatory and tax challenges. A rebase, where balances change, may not be considered a taxable event in some jurisdictions, but the increased token count could be viewed as income. For algorithmic stablecoins, regulators may scrutinize them as unregistered securities if the mechanism promises price stability. This legal uncertainty poses a significant long-term risk for adoption and institutional involvement.