I’ll try to succinctly explain bonding curves and then discuss benefits. Let’s look at a typical bonding curve where the buy price formula and the and sell price formula are equal:
The way the formula works is look at the current amount of tokens purchased (supply) and charge the price given by the formula for the next token. As people sell, the supply goes down and as people buy, the supply goes up. The total amount of money put into the token is the area under the curve.
At any point you can buy a token and sell it back and get your money. However, if you buy at $q_1$, wait and more people buy (not guaranteed!) then you can sell at a higher price at $q_2$. To make profit, you should only buy if you think others will buy after you as well.
At the end of the day, total money paid in will be total money paid out, but the smartest who buy early and sell at high supplies (buy $q_2$ and sell $q_1$) will make money while those who buy when it’s “hot” and sell when supply is low (buy $q_2$ and sell $q_1$) will lose money.
Now, sometimes the sell curve is below the buy curve:
In this case, the area between the buy and sell curve is revenue that will typically go to a company. There is money making opportunities, but because the sell curve grows slowly, it only really benefits the earliest buyers.
So what are these any good for?
- The Buy curve equals the Sell curve:
This kind of market is good for content curation. It’s easiest explained by an example (borrowed from https://medium.com/@simondlr/tokens-2-0-curved-token-bonding-in-curation-markets-1764a2e0bee5):
Meme Factory: A Game of Curation & The Trading of Dank Memes
Meme Factory from District0x will be a game where users can create dank memes and bond tokens to each meme according to its own bonding curve. This becomes a game where users then bet on the popularity of each meme. Bonded early to a dank meme and got out at the top? You successfully traded a dank meme and just made a profit.
The question each time is: do you think this meme is dank and funny enough that others will want to bet after you on this too?
Ultimately, whilst this game is being played, these memes are also being curated themselves: more tokens bonded to a meme is a signal that is a funnier meme than a meme with fewer bonded tokens. This is an emergent outcome.
By people trying to make money, they will curate popular content as a byproduct (social surplus from private motives!)
- The Buy curve > the Sell curve:
It’s very hard to start a community because the first members don’t have many people to interact with and it’s very laborious to create stuff that other people will want to join and see. It’s especially hard if you have to pay to join!
However, notice that if you enter early the sell curve is super close to the buy curve, so you have low risk of joining a community (because you can sell right back). And the upside is, if you work on the community to gather members and create fun content then more people will pay to enter. All of a sudden your share is worth a lot! This incentivized people to value their community and make money while doing so.