No more HBD rewards paid? Understanding the Hive Debt Ratio and its effects

Many of you have probably noticed recently that, a few days ago, you no longer received HBD as a reward for your posts. Why was that happening?

The answer is fairly simple: "Because of the debt ratio!"

To which you might ask, "OK, but what's the debt ratio and why is it messing up with my HBD rewards?"

In this post, I will try to explain to you in the simplest possible way the mechanisms that come into play, starting from the basics that are necessary for your understanding.

1. One blockchain, two tokens

The Hive ecosystem has two tokens: HIVE and HBD (Hive Backed Dollars)

To avoid confusion, because the Hive platform has the same name as its HIVE token, we used to capitalize it when talking about the last one.

HIVE is the main liquid currency of the Hive ecosystem. It may be traded, staked, bought, and sold.

HBD were designed as an attempt to bring stability to the individuals who use the Hive network. Although HBD can also be traded, bought and sold (but not staked), it is considered a debt by the blockchain.

2. Why a debt?

HBD are created by a mechanism similar to convertible notes, which are often used to fund startups. In the startup world, convertible notes are short-term debt instruments that can be converted to ownership at a rate determined in the future, typically during a future funding round.

HIVE can be viewed as ownership in the community whereas HBD can be viewed as a debt denominated in HIVE.

The terms of the convertible note allow the holder to convert to the backing token (HIVE) with a minimum notice at the fair market price of the token.

Translated to the Hive ecosystem, the above sentence means that:

• the "terms" are embedded into the blockchain code as a smart contract
• it allows its users to convert each HBD they own into the equivalent of $1 USD worth of HIVE
• the conversion process will take 3.5 days
• the conversion price is the "median" HIVE price observed during those 3.5 days using the price feeds from the Hive witnesses. This has been put in place to factors out short-term price fluctuations.

Each HBD is essentially an IOU ("I Owe You [HIVE tokens]") issued by the platform and given out as a reward to its users.

3. What is the debt ratio?

As we have seen above, if HIVE is viewed as ownership in the whole supply of tokens, then HBD can be viewed as debt.

The debt ratio is the ratio between the HIVE virtual supply and the HBD supply.

• The HIVE supply is the number of HIVE tokens, both liquid (HIVE) and staked (Hive Power), that are in existence.
• The HBD supply is the number of HBD tokens that are in existence.
• The HIVE virtual supply is the HIVE supply plus the amount of HIVE we would get if we instantly converted all the HBD supply into HIVE.

Note: since hardfork 24, HBD stored in the treasury (@hive.fund wallet) don't count towards the HBD debt ratio because it doesn't make sense to count them in the debt ratio as they are "locked" by another "smart contract" which prevents them to be liquidated at once (the daily outflows are capped at 1/100th of its holdings).

A pseudo formula to compute the debt ratio would be :

      convert_to_HIVE( HBD_supply - hive_fund_HBD_balance )
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convert_to_HIVE( HBD_supply - hive_fund_HBD_balance ) + HIVE_supply

You will find a visual representation of its value over time in my financial stats:

4. Why does the debt ratio matter?

The debt ratio determines how and when the blockchain creates new HBD.

There are 5 mechanisms involved in the creation of HBD:

1. payout of author rewards
2. conversion from HIVE to HBD
3. interest payment on HBD stored in savings
4. allocation of part of the inflation to DHF
5. conversion from the ninja mined HIVE

I will describe these different ways to create HBD, but just know that only the first two are subject to the influence of the debt ratio.

Author rewards

UPDATE: as of Hive hardfork 26, the debt ratio thresholds used by the blockchain changed from 9% and 10% to respectively 20% and 30%

When the debt ratio is more than 9% 20%, the amount of HBD printed for author rewards is reduced and the authors get more HIVE and less HBD.

When the debt ratio is more than 10% 30%, HBD is stopped being printed and only HIVE is awarded as author's reward.

As soon as the ratio falls back below 10%, HBD is printed again.

The various conditions for HBD print rate are hardcoded in the Hive blockchain and are depending upon the debt ratio. A post payout can be as of following:

Debt ratio	Payout
< 9% 20%	Hive Power + HBD
between 9% 20% and 10% 30%	Hive Power + HBD + HIVE
> 10% 30%	Hive Power + HIVE

When the debt ratio is between 9% 20% and 10% 30%, the blockchain will print HBD on the basis of this formula:

HBD print rate = 100% * (10 - debt ratio)

This means that the closer the debt ratio is to 10% 30%, the less HBD will be printed and replaced by more HIVE, until will be HIVE only when the debt ratio reaches 10% 30%.

The above rule is often referenced as the "haircut" rule.

If you go back to the graph provided above, you will notice that the debt ratio was over 9% then 10% for a few days, which is why the blockchain shrank and then completely stopped paying rewards to authors with HBD.

Conversion from HIVE to HBD

When you convert HIVE to HBD, the HIVE are locked for 3 days as collateral (they are removed from the account's balance) and 50% of the value (based on the current median price) is instantly converted into new HBD (added to the user's balance). Three days later, the value will be recomputed based on the median price from those 3 days and part of the collateralized HIVE will be returned to the account accordingly.

Regarding the role of the debt ratio, things are more simple in this case:

If the debt ratio is greater than 10%, the conversion request will simply be rejected by the blockchain to avoid printing new HBD!

Interest payment

Each top 20 witnesses propose an APR rate for HBD. The median value of those propositions is used by the blockchain to pay interest to users for holding HBD. Of course, the interest is paid by printing new HBD.

As of writing, the APR is 10%.

Note: Since the last hardfork 25, interest is only paid for HBD stored in savings.

The debt ratio has no influence on interest payment.

Allocation of part of inflation to DHF

Every hour, 10% of the HIVE inflation is converted from HIVE to HBD and sent to the DHF (Decentralized Hive Fund - @hive.fund HBD balance).

This HBD creation process is not influenced by the debt ratio.

Conversion from the ninja-mined HIVE

Long story made short, the so-called "ninja mined" HIVE are tokens that have been minted during the creation process of the Steem blockchain and put into an account controlled by Steemit inc, with the promise to use it for the development of the community.

When Justin Sun made his hostile takeover and the community decided to fork Steem and create Hive, those funds were moved to the DHF blockchain-controlled account @hive.fund

Later, it has been decided to peacefully convert those HIVE into HBD over ~5 years. Therefore, every day since 2020-10-31, the blockchain converts 0.05% of the HIVE stored in the @hive.fund balance to HBD.

This HBD creation process is not influenced by the debt ratio.

5. Why the debt ratio logic?

If the debt-to-ownership ratio gets too high then the entire currency can become unstable.

Debt conversions can dramatically increase the token supply, which in turn can be sold on the market and put down pressure on the price.

Subsequent conversions require the issuance of even more tokens. Left unchecked the system can collapse leaving worthless ownership backing a mountain of debt. A rapid change in the value of HIVE can dramatically change the debt-to-ownership ratio.

The blockchain prevents the debt-to-ownership ratio from getting too high and the debt ratio logic has been put in place to ensure that the blockchain will never have higher than a 10% debt-to-ownership ratio.

Conclusion

I hope you now have a better understanding of what the debt ratio is, why it was created, what its effects are and when do they come into play.

There is still a lot to say on the subject, but I will not overload this post which is already quite substantial.

However, be aware that there is also a lot of discussion about changing the 10% cap, both among developers and witnesses, and in the community. I invite you to read the very interesting post from @taskmaster4450 on this subject.

Thanks for reading.

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