Analysis and Evaluation of Lido's Centralization Risks

With Ethereum's shift to a POS mechanism, Lido, as one of the biggest beneficiaries, has sparked widespread discussion within the Ethereum community due to its steadily growing market share. Particularly after Lido's refusal to "self-limit" and its plans for further expansion, debates about its potential threats have become a hot topic.

Some people are concerned that the rise of Lido could undermine Ethereum's decentralization characteristics, leading to node centralization, which threatens network security and stability. On the other hand, there are also views that these concerns may be exaggerated and could even be marketing strategies from competitors. This article will delve into Lido's market share and centralization risks, objectively assessing its impact on the Ethereum ecosystem.

Lido's market dominance raises concerns

Lido is a project that addresses the issue of insufficient liquidity for staking tokens on PoS blockchains. It allows users to obtain tokenized versions of their deposited funds through liquid staking, enhancing the flexibility of staking. Since its launch in 2020, Lido has become the preferred liquid staking platform for Ethereum 2.0 and other PoS public chains.

Compared to the traditional minimum staking threshold of 32 ETH, Lido allows users to participate with any amount, significantly lowering the barrier to entry. However, with the rapid development of Lido, concerns have arisen regarding its potential threat to the decentralization of Ethereum. As of now, Lido has staked over 8.8 million ETH, capturing 31.8% of the Ethereum staking market.

This high market share has attracted attention from multiple parties, including Ethereum founder Vitalik. Vitalik had previously suggested that staking service providers limit their market share to below 15%, while Lido has far exceeded this limit. Researchers have pointed out that Lido controls over 38% of the validators, significantly more than any single entity should have. This phenomenon of centralization has raised concerns about the level of decentralization in Ethereum.

Actual Assessment of Centralized Risks of Lido

Although Lido approaching the critical point of 33% of total staked volume has sparked widespread discussion, the actual situation may not be as severe. Firstly, there are discrepancies in the data transparency regarding market share. As an on-chain protocol, Lido's data is fully public and transparent. In contrast, the leading centralized exchange staking platforms have a lower level of data disclosure, which may involve incomplete reporting.

Even assuming that the data from all parties is accurate, the risks associated with Lido's 33% market share may be exaggerated. Structurally, Lido allocates funds to 29 designated operators for staking operations, which disperses the risk to some extent. Additionally, node operators lack the incentive to act maliciously, as any actions that affect the stability of the network will face severe penalties, harming their economic interests.

Currently, the biggest potential risk may be the concentration of choice among node operators in the hands of Lido. However, Lido employs strict standards when selecting operators, focusing on server diversity, geographical distribution, and client diversity to avoid centralization. Even in the worst-case scenario, social-level interventions can remove malicious nodes and maintain network security.

Deeper Issues Reflected by Lido

The situation with Lido can be seen as a manifestation of the centralization issue in Ethereum, rather than its root cause. Within the framework of community autonomy, the decisions made by token holders may be more inclined towards personal interests rather than the long-term development of the entire ecosystem. Lido DAO's refusal to self-limit through decentralized voting reflects, to some extent, the uncontrollability of complete decentralization.

In fact, concerns about centralization trends have existed since Ethereum transitioned to a POS mechanism. The increasing influence of large stakers on the network may lead to the concentration of power. In this regard, Lido, as a "consortium" operated by multiple node operators, is actually more decentralized than a centralized staking platform run by a single entity.

In contrast, the staking activities of centralized exchanges may pose a greater threat to the decentralization of Ethereum. Without decentralized options like Lido, centralized exchanges could quickly dominate a large portion of the staking market. In this scenario, government agencies might influence the Ethereum network by pressuring exchanges, creating greater obstacles to decentralization.

Possible Solutions to the Lido Problem

To address the potential risks posed by Lido, the Ethereum ecosystem and Lido itself can take several measures:

1. Support for non-mainstream liquid staking tokens: Ethereum co-founder Vitalik proposed supporting other LSD tokens aside from stETH as collateral to diversify market share.

2. Lido Self-Restriction: Lido may consider self-restraining its market share for a certain period to promote healthy market development.

3. Improve internal decentralization: Lido can further enhance its internal governance structure to strengthen the system's stability and security.

4. Prevent price fraud: Establish effective regulatory and risk management mechanisms to maintain market fairness.

5. Increase Node Operators: Reduce centralization risks by increasing the number and diversity of nodes.

6. Build system safeguards: Establish reasonable regulatory mechanisms and risk management frameworks to ensure system security.

7. Automatic Adjustment Mechanism: Consider implementing a mechanism that automatically increases user fees when market share exceeds the target, to maintain a reasonable market share.

Through these measures, Lido can mitigate its potential impact on the decentralization of Ethereum while maintaining the stability and security of the entire ecosystem.

Conclusion

The controversy surrounding Lido reflects a broader issue: how to find a balance between decentralized liquidity protocols and centralized staking services. While Lido's market dominance raises concerns, we also need to consider that without such decentralized options, the staking market could be at risk of being monopolized by centralized exchanges. The challenge for the future lies in how to maintain fair competition in the market while ensuring the long-term development of the ecosystem, which requires the collective effort and wisdom of the entire Ethereum community.