The Flood: Biblical Returns to Prevent Pump and Dumps

This document provides a deep dive into the Flood's design and mechanics. For a concise specification, see Flood.

As an open source and deterministic protocol, Pinto avoids performing any open market operations (e.g., buying and selling) in order to minimize the potential for value to be extracted from it. Instead, it creates incentives to encourage individual participants to take actions that align with the preferences of the protocol. However, there is one exception to this rule: the Flood.

Like all algorithmic stablecoins, Pinto is highly reflexive. When the protocol is growing, the yield generated by the mints that are intended to decrease the price have the potential to attract more participants, which in turn creates more yield, which attracts more participants, etc. This positive feedback loop can be highly advantageous to the protocol, particularly in instances where it is paying off large amounts of outstanding debt. When it does so, the protocol can radically improve its health and demonstrate creditworthiness that can serve to create long term sustainability.

However, when the protocol does not have much outstanding debt, sustaining an aggressive positive feedback loop can actually cause the protocol more harm than good. In most cases, rapid growth will almost always be followed by a sharp contraction in demand. This results from the fact that a significant portion of the demand for Pinto during the positive feedback loop is likely short term oriented yield farmers who are indifferent to the protocol and its long term success (i.e., inorganic demand). When the printing stops, that capital swiftly leaves. The larger the positive feedback loop, the larger the contraction.

The problem leading to excessive positive feedback loops is that there is minimal incentive to sell Pinto when the protocol is growing significantly. Therefore, Pinto requires a mechanism to stun momentum once the protocol has sufficiently deleveraged and flush out inorganic demand.

The Flood is designed to reward long term holders that were Deposited in the Silo before the pump started, and dampen the benefit for short term yield farmers that exacerbate the pump – and therefore the ensuing dump. Throughout Beanstalk and Pinto’s histories, particularly during their early days, the Flood has been crucial to maintain value in the systems.

Flood Dynamics

During a Flood, in addition to the normal Pinto printed as a function of the time-weighted average delta of Pinto across whitelisted liquidity pools (which don't guarantee Pinto is sold and its price is lowered), the protocol mints additional Pinto and sells them directly on the open market, bringing the price of Pinto back to its value target and effectively resetting the positive feedback loop. The proceeds from the sale of Pinto are distributed to Stalk holders. Additionally, up to 0.1% of the total supply of Pinto worth of Pods become Harvestable, flooding the market with additional potential sell pressure. This extra minting and dumping of Pinto by the protocol occurs every Season until the time weighted average delta Pinto over the course of a Season is negative, thereby ending the Flood.

A Flood creates two conditions that make it unattractive for new Deposits to enter the system unless they are long term oriented.

1. The proceeds from the Flood are distributed to Depositors who entered before it started to Rain, so newer Deposits only earn yield from the normal inflation resulting from the time weighted average shortage of Pinto in the pools. Therefore, until the Flood ends, the yield received by newer Deposits is significantly less than the yield earned by older Deposits.

2. Because the protocol dumps Pinto and distributes the proceeds to older Deposits, Deposits during a Flood essentially pay a hefty entry tax to older Deposits.

The attentive reader may be wondering why all yield during a flood doesn’t get distributed to the older Deposits. Such a rule would entirely eliminate demand for Pinto during a Flood, instead of limiting the demand to long term oriented Depositors.

To Flood Or Not To Flood

Depositors don’t indicate whether they are here for the long term or not when they Deposit. Moreover, just because some Depositors are merely hunting yield, it may still be preferable for the system to grow and decrease its debt level to demonstrate creditworthiness.

As a credit based system, the debt level of the protocol is the primary indicator of its health. The question is how Pinto can identify when it is healthier to let the protocol grow according to its normal peg maintenance mechanism, and when it should intervene to slow down growth.

The primary determinant Pinto uses to gauge how aggressively it wants to grow is the Pod Rate – the debt to supply ratio of the protocol. When the debt level is excessively low and the time weighted average price is over its value target, it starts to Rain. If it Rains for more than one consecutive Season, it starts to Flood. At any debt level higher than the excessively low threshold, the protocol would rather grow and pay down its debt than to Flood and stop the growth. But below this threshold, the protocol Floods.

Why Redistribute the Proceeds?

A question that is often asked about the Flood is why the protocol distributes the proceeds of non-Pinto assets from the sale of Pinto instead of holding onto the assets. The answer is simple: the value of Pinto derives from the creditworthiness of the protocol, not collateral. If the protocol started to accumulate holdings of non-Pinto, it would effectively be a partial collateralization of the currency, thereby compromising the integrity of its value proposition. It is worth noting that becoming partially collateralized was one of the fatal mistakes made by Terra/Luna, which blew up shortly after its reserve was created.

In Summary

The Flood has successfully been used by the protocol to minimize inorganic demand for Pinto during periods where the debt level is excessively low. During a Flood, the protocol mints additional Pinto, sells it on the open market to bring the price back to its value target and distributes the proceeds from the sale to Deposits that were already in the Silo before it started to Rain. Extra Pods also Harvest during a Flood. Thus, Pinto is able to cool itself off when it is at risk of overheating and create the conditions for slower, steadier, and healthier forms of growth.