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Cash for coins
This week, Nami’s Nexus looks at how fiat is cycled into the web3 ecosystem and examines the intricacies of on-ramps, in-app purchases and stablecoins in this context
To effectively make money or run a business in web3, it is crucial to have a deep understanding of how money moves in, out and around blockchains. Without this knowledge, many mistakes are made when determining the value of assets. Even as web3 games explore new financial concepts, it remains essential to grasp these fundamental principles. Let's begin by examining how fiat money enters the blockchain.
Why fiat-to-crypto conversion requires alternative methods
At its core, any transaction, whether it's buying, selling, or trading, involves swapping one item for another. The blockchain simply utilizes a different type of ledger compared to traditional banks. However, fiat money, until central bank digital currencies (CBDCs) become widely adopted, cannot directly exist on the blockchain. When someone spends fiat money, they can only give it to someone else in exchange for a cryptocurrency or token. Since fiat exists outside the blockchain, it cannot be directly exchanged by a smart contract and requires alternative automated methods. It is worth noting a number of physical ways that existed prior to involvement from banks and payment processors to convert fiat into crypto, namely Bitcoin ATMs and Local Bitcoins.
Physical methods of converting fiat into crypto
Bitcoin ATMs offer a unique experience similar to using an ATM in a foreign country, where your fiat currency needs to be exchanged rather than simply stored and transferred by banks. To utilize a physical bitcoin ATM, you need to provide a wallet address and, if you're receiving cash, sign a transaction using your private key. When you withdraw cash, you sell bitcoin to the ATM operator at a price lower than the market rate, allowing the ATM to make a profit, and then the machine dispenses physical cash from its storage. On the other hand, when you deposit cash, you buy bitcoin from the ATM at a price higher than the market rate, increasing the cash stored within the machine. As for Local Bitcoins, it functioned as a platform similar to Craigslist, where bitcoin buyers and sellers could arrange meetups to exchange cash for bitcoins. This platform provided a certain level of anonymity and could potentially resurge if there were attempts to ban cryptocurrencies, for instance.
Buying crypto via exchanges increasingly regulated
As cryptocurrency has grown in popularity, there are now simpler electronic methods to purchase crypto and tokens online. One of the most common ways is to purchase them from exchanges such as Coinbase, Crypto.com, Binance, and others. These exchanges may differ in their specific transaction processing methods, whether it comes from their own market or a pool held by the exchange. Unlike physical methods, these exchanges typically accept debit/credit cards or bank transfers to receive fiat currency from you. It's important to note that these exchanges are usually subject to various regulations, including Know Your Customer (KYC) and Anti-Money Laundering (AML) policies. They are also required to report any activity that may violate local laws. Selling crypto/tokens for fiat currency, particularly through an ACH bank transfer, can be even more complicated due to strict regulations, especially in the United States. As a result, there are fewer options available for converting crypto to fiat using these exchanges. Similar to bitcoin ATMs mentioned earlier, there is often a markup involved when exchanging fiat currency into the system, which serves as profit for the exchange.
On-ramps offer a convenient way to convert fiat into crypto
Another common option for converting fiat currency to crypto is through on-ramps. Popular examples include MoonPay and Ramp and operate by maintaining pools of various cryptocurrencies and tokens on different networks, including layer 2 solutions. Tokens are sold out of these pools, whenever a transaction is made. By implementing minimum transaction amounts, fees, and KYC/AML policies, on-ramps aim to protect themselves to some extent, considering the financial risks involved, including fraud, chargebacks, and other issues associated with the fiat banking system. However, similar to exchanges, on-ramps are subject to local government regulations, and the level of customer access can vary significantly.
On-ramps are particularly useful when dealing with layer 2 networks
In general, on-ramps offer a more convenient option for making impulsive purchases, which is why OpenSea utilizes MoonPay to facilitate card transactions. On-ramps are particularly useful when dealing with layer 2 networks like Polygon or Immutable. Buying tokens on a layer 1 network such as Ethereum and then bridging them to layer 2 can be costly and time-consuming, due to high layer 1 gas fees. On the other hand, on-ramp providers already have tokens available on the layer 2 network, allowing them to sell directly to you. Moreover, on-ramp providers like MoonPay and Ramp have expanded their services to include off-ramping. When you off-ramp, the provider buys your crypto/token from you at a discounted rate, taking into account the processing fees. To complete the process, you need to send the crypto/token to the off-ramp provider's address, and once received, the money will be transferred to your bank account. This procedure still requires some form of KYC, such as providing a social security number, and relies on third-party systems like Plaid to connect with bank accounts.
In-app purchases as a way of dealing with fiat-to-crypto conversion
Games have an alternative option for handling fiat transactions from players via in-app purchases (IAP), which finds itself in a bit of a gray zone. In theory, since all forms of purchasing crypto involve one party sending money and the other party sending crypto, it is possible to sell crypto through this method. However, it's important to note that Apple's current policy for iOS restricts dealing with cryptocurrency/tokens solely through approved exchanges that comply with local jurisdiction laws where players are located. While there may be a potential workaround for this, it is crucial to emphasize that this is not legal advice, and attempting such a workaround could potentially violate the law in many countries.
Using both off-chain and on-chain currencies can simplify the payment process
One option is to sell a virtual off-chain currency, such as gems, through in-app purchases, which is a common practice. However, you can also allow players to exchange those gems for an on-chain token outside of the game or app. The game or app would essentially remove the off-chain currency from the player's account in its database and send tokens to the player's wallet in return. These tokens can either be minted on demand or sourced from a token pool. In theory, Apple shouldn't be overly concerned by this, as it still receives its 30% cut of the transaction and can distance itself from the subsequent crypto exchange occurring outside of its ecosystem. The benefit of this system is that it simplifies the card payment aspect of the transaction, making it an additional step only if the player wishes to have an on-chain token instead of solely using the virtual currency within the app.
Working around Apple’s current web3 policies
There is a second option that draws inspiration from how Pachinko operates within gambling laws in Japan. Players can purchase an NFT as an in-app purchase, with Apple receiving its 30% share of the transaction. Afterwards, players have the choice to either sell the NFT to other players in exchange for tokens, or the game itself can buy back the NFT from the player using tokens. Alternatively, a simpler and more discreet approach is to have a smart contract where the NFTs can be burned, resulting in the issuance of tokens. Both methods achieve the same outcome, but burning the NFTs for tokens adds an additional layer of obfuscation compared to direct buybacks. In the latter case, the NFT can be seen as representing a "bag of tokens," although it's important not to make this relationship too obvious. Apple's current policy permits the direct purchase of NFTs using in-app purchases, making this system somewhat more legitimate in certain respects. Automation could be implemented on the game's side to automatically buy or burn these specific types of NFTs from players in exchange for tokens, which can then be seamlessly transferred to a wallet linked to the player's game account without any explicit mention of these actions within the game. Once again, it's important to emphasize that this discussion does not constitute legal advice; rather, it explores the technical possibilities presented by Apple’s current web3 policies.
Minimizing friction in the process of spending money is crucial
Simplifying the process of spending money in a game is crucial to encourage more spending, and it's worth exploring various methods to reduce friction in this regard. In-app purchases are a reliable and convenient strategy, as long as the post-purchase experience is well-executed. Dealing with NFTs is generally easier than handling cryptocurrencies, although legal considerations must be taken into account. It's worth noting that Apple does not target games like Clash of Clans that provide web shops allowing players to purchase gems online without Apple taking a 30% cut. This approach not only offers alternative fiat payment systems (often through platforms like Xsolla) for selling game items and gems but also creates an opportunity for games to sell in-game items and currencies for cryptocurrencies and tokens. However, it's important to remember that any revenue received in the form of crypto/tokens will eventually need to be converted back to fiat to be considered as revenue. This is where stablecoins like USDC and USDT prove useful.
Why stablecoins are an interesting option for conversion
Stablecoins offer an intriguing solution for connecting fiat and tokens. The concept of stablecoins aligns with the principles discussed earlier. Essentially, for every token created, there is a corresponding dollar held in reserve. This concept is reminiscent of the time when US dollars were backed by gold before transitioning into the fiat system we have today. The term "stable" in stablecoins refers to the tokens being exchangeable for cash at a 1:1 ratio, providing them with a value as stable as the currency they are pegged to.
Stablecoins offer a valuable advantage in terms of maintaining the stability of token value when held. Typically, when purchasing tokens with fiat, you aim to buy the exact amount needed. This is similar to buying in-game gems through in-app purchases, where you typically buy the necessary amount unless you anticipate needing more soon. However, similar to stablecoins, the value of gems remains constant, allowing you to hold excess gems confidently, knowing that they can be spent at a later time. Buying stablecoins with fiat enables you to convert more than the required amount, providing liquidity for future purchases without requiring another on-ramp process. Holding excess amounts of any cryptocurrency or game token often exposes you to price volatility and the challenge of timing your sales or usage. By converting to and from stablecoins for surplus inflows and outflows, the necessity of frequently converting to fiat is reduced, offering a more streamlined approach.
Sykweaver uses stablecoins to provide players with higher flexibility
Games like Skyweaver simplify their marketplace by using USDC, a stablecoin, instead of requiring players to purchase a game-specific token to acquire new cards. Let's say a player wants to buy $10 worth of cards using their debit card. If the on-ramp has a minimum requirement of $30 and charges a $4 transaction fee (which is common), the player would need to spend $30 to obtain $26 worth of USDC to purchase the desired $10 worth of cards. However, the excess amount of USDC is not a significant concern since it maintains a stable value and can be exchanged for other tokens or converted back to fiat currency (although at an additional fee). This flexibility encourages players to consider purchasing a larger amount, such as $100, to have extra USDC available when needed, with the assurance that it can always be converted back to fiat if necessary. This added flexibility reduces the friction associated with using an on-ramp and benefits the game developer as well. Since all card purchases from the game developer are also in USDC, they can hold the revenue in USDC for as long as needed without worrying about exposure to price volatility. Moreover, the high liquidity of stablecoins makes it easier for the developer to cash out, as there is typically a substantial demand for stablecoins in the market.
Stablecoins come with their own set of risks
It's important to consider a few warnings regarding stablecoins. Firstly, there is the potential risk of government regulation. When a token is created as a digital representation of a fiat currency, it essentially becomes an alternative to the fiat currency, which can be viewed as a competitive threat by governments, especially those developing their own digital currencies.
The second risk pertains to the trustworthiness and management of stablecoins. Certain stablecoins, such as Tether (USDT), have gained notoriety for questionable practices in backing up the token, leading many to doubt the existence of a genuine 1:1 reserve. Additionally, algorithmic stablecoins pose inherent risks, as demonstrated by previous instances like the case of LUNA.
Currently, USDC is considered one of the more reliable options due to enhanced oversight and regulation. However, it still carries some risk exposure, as exemplified by the potential vulnerability of its reserves in the event of the collapse of Silicon Valley Bank.
Financial fundamentals must be considered when conceptualising web3 projects Despite being fundamental concepts, they are often overlooked when developing web3 games. The F2P games industry has become so accustomed to in-app purchases that the complexity of financial transactions is often taken for granted. It's evident that Apple and Google's 30% cut may not be fully justified, but their payment systems still offer significant convenience and value. With the emergence of web3, things become more complicated again, although with the potential for positive outcomes in the future. It's reasonable to expect that once regulations and technology stabilize, both Apple and Google will likely incorporate crypto elements into their payment systems. Until then, pioneering web3 games must navigate the challenges and find ways to minimize friction.
Thank you for reading this piece of our weekly series “Nami’s Nexus”, where we look to decode web3 gaming and dive into the intricacies of the industry and beyond. Don't forget to subscribe to our blog and follow us on Twitter to receive more web3 gaming content!