The Flywheel Effect in DeFi: The Secret to Making Liquidity Pools Run Themselves Without Rewards

Số người xem bài viết (Post Views): 46

Table of Contents

Summary

The flywheel effect in DeFi is a positive feedback loop that starts with liquidity mining incentives and eventually sustains itself without ongoing subsidies. This is the holy grail for DeFi projects: a self-sustaining, yield-generating pool that doesn’t rely on endlessly burning tokens. This article breaks down how to maintain long-term attractiveness for your liquidity pool—whether it’s for your project or a personal token pair.

What Is the Flywheel Effect? From Theory to DeFi Reality

The flywheel effect describes a self-reinforcing cycle where positive outcomes fuel even more growth—just like a spinning flywheel that keeps going with minimal push once it gets up to speed.

In DeFi, it usually begins with incentive programs (liquidity mining). Once rewards are introduced, capital flows into the pool and triggers a chain reaction:

Stage	What Happens
1. Kick-off	The project offers token incentives to attract liquidity
2. LPs jump in	Liquidity providers (LPs) join to farm those rewards
3. Better prices	More liquidity → lower slippage → smoother trading
4. Traders arrive	Users flock in because of better prices
5. LPs earn more	On top of rewards, LPs now earn fees from all that trading activity
6. Remove rewards	Incentives stop, but LPs stick around because trading volume keeps paying them

If this cycle works as intended, the pool continues to thrive without further rewards—the flywheel is spinning on its own.

Not Every Pool Can Trigger the Flywheel

Many pools throw rewards around like candy but still stay quiet and inactive. Why?

No actual trading demand
LP fees are not competitive
No way to reroute volume from other platforms

🔻 Example: USDC/USDT Pool

Incentives increase → TVL increases
But no volume → no traders → no fees
Remove incentives → LPs exit → pool collapses back to square one

In short, if there’s no actual market demand, all those incentives are just expensive noise.

Key Factor: Can You Reroute Volume?

Liquidity alone doesn’t attract traders. A critical success factor is whether LP fees are low enough to reroute volume from other platforms.

📚 Case Study: Gauntlet Simulation

Gauntlet, a data analytics firm for major DAOs like Uniswap, ran simulations to test the reroute potential and flywheel activation across various pools. The findings?

Pool	Uniswap LP Fee	Competitor LP Fee	Reroute Potential
rDPX/ETH	1%	0.3%	Very low – traders will go where it’s cheaper
wstETH/ETH	0.01%	0.008%	Nearly none – still less attractive than rivals

Even with deep liquidity, if the trading fee is higher than competitors, the volume just doesn’t come.

Source: Gauntlet Uniswap Arbitrum Simulation

👉 Takeaway Lessons

Increasing TVL is necessary—but not sufficient
Trading fees and incentive structures must be optimized together
Swap simulation data is a powerful tool to choose your pool wisely

The Formula for a Working Flywheel

To get that sweet self-sustaining loop going, you need to balance three key ingredients:

TVL Growth More liquidity means less slippage, leading to a smoother trading experience.
Trading Volume No traders = no fee revenue. A silent pool is just… a still pond.
Attractive LP Fees High enough for LP profit, low enough to keep traders coming back. Tricky? Absolutely.

Simulation Data: The Magic Wand of Modern DAOs

Forget guesswork—modern projects now rely on swap simulation tools to:

Predict volume rerouting potential
Identify optimal incentive levels
Estimate ROI per dollar spent on rewards

Some projects even pinpoint the exact TVL sweet spot—where adding more liquidity stops being cost-effective.

Conclusion: Flywheels Are for Those Who Understand the Game

The flywheel effect isn’t a magic trick, but in the right hands, it’s a powerful growth engine. A successful DeFi project can:

Attract real users
Operate independently from endless token printing
Build long-term, defensible advantages

✅ Do This	❌ Avoid This
Analyze volume and fee data	Dumping incentives into a “dead” pool
Estimate rerouting from competitors	Setting LP fees too high
Run simulations before launching	Blindly copying other projects

👉 The flywheel only spins if pushed at the right point. Let data-driven design fuel your DeFi ecosystem—so it can run, feed itself, and grow on its own.