In discussions about minting incentives, I keep reading that 1% of interest is not much of an incentive to mint, but that a higher rate would be detrimental, as it would generate too much inflation.
At first, as I was mentally nodding to these statements and didn’t pay much attention to them.
But I then realized that they are actually extremely misleading: high interests rates would not be an issue at all. Of course, they would result in a faster increase of the monetary supply. But this is a false issue: your stash would be increasing as fast. Your hotdog could be worth twice as much, but it wouldn’t be an issue if you earned twice as much and had twice as much savings. It’s basically the same as stating prices in mPPC: numbers get 1000 times as big, but you still pay the same thing.
So nominal prices (numbers of PPC) go up, but in the end you are not losing any purchasing power. Unless you don’t mint, and that’s the point.
If you normalized all prices to account for the inflation of the money supply, then you would see that minters get richer and non-minters get poorer, as relative wealth is slowly redistributed towards minters.
In a nutshell, the misconception is that inflation results in loss of purchasing power. This is not the case with the inflation caused by PoS interests, because interests are distributed equitably, relatively to what each person owns, assuming everybody is minting. So the people who don’t mint are the only ones to suffer from high interest rates. Conversely, it’s the people who do not mint that allow minters to get relatively richer: if everybody mints, no one gets relatively richer by minting.
With the current situation (1% interest, 10% of coins used in PoS minting), minters get 1% richer every year while the total supplies increases by 0.1% (from PoS). In relative terms, minters get 0.9% effective interest ((1+0.01)/(1+0.010.1)-1), and non-minters take a 0.1% hit only (1-1/(1+0.010.1)). Not much of an incentive.
Let’s increase the interest rate. If the interest was 10% and 10% of coins were used for minting, then the effective interest rate would be 8.9%, and the effective penalty for not minting would be 1%. Then people would undoubtedly start minting more.
If the interest was 10% and 50% of coins were used for minting, then the effective interest rate would be 4.8%, and the effective penalty for not minting would be 4.8% too.
If the interest was 10% and 90% of coins were used for minting, then the effective interest rate would be 0.8%, and the effective penalty for not minting would be 8.2%.
I saw people considering to have adaptive interests rates, depending on how much coins are used in PoS, to maintain a certain level of security. Given that the more people mint and the higher the interest rate is, the harsher the effective penalty for not minting is, I suggest that the protocols continuously adjusts the interest rate to aim for an effective 5% penalty for not minting, with the goal of improving the security of the network.