19 May 2022

Delving into the User-Owned Internet Part III: Gaming in the Metaverse

The Web3 gaming industry is preparing to emerge as one of the most exciting elements of the crypto ecosystem. Blockchain technology and NFTs have, quite literally, changed the game.
Over the past year, Blockchain gaming activity grew roughly 2000%. The COVID-19 induced global pandemic sent major tailwinds behind gaming growth in 2020, which continued into 2021. It's no wonder then that blockchain gaming has also taken off. In the first quarter of 2022, before the war in Ukraine and hot inflation numbers caused broad sell-offs across markets, blockchain games raised roughly $2.5 billion in venture funding.Blockchain and NFTs are poised to foster a new paradigm with possibilities for entirely new business models and gamer earning opportunities. Meanwhile, the boundaries between gaming and investing are growing faint, and fun is being replaced with extrinsic rewards. This article explores how the current dynamics are playing out—and what you should know before investing in it.This is the third installment of a series on Web3. Read part one here and part two here.
The evolution of Web3 gaming
Web2 games are based on a one-sided relationship where value generation is captured in a centralized model of ownership controlled by game publishers and developers. Regardless of how much money, time, or effort players put into a game, they don’t own the assets they purchase, their progress, or the time they spend playing the game. Take the traditional game The Sims, where a player can buy in-game assets with the in-game currency. However, the currency and assets lack real-world value because there is no infrastructure or liquidity to convert in-game value to real-world value in the game.Unlike the traditional gaming industry, blockchain games deliver monetary value back to gamers. That’s not saying that you can motherlode yourself through life now, but receiving some real-world value in return for your time and money is enticing. The blockchain gaming model embraces the idea of an open economy and financially rewards users who add value to the ecosystem with their time and effort. NFTs allow players to own the virtual game assets they purchase and to sell them outside the game at their discretion. In other words, the virtual value created by players in-game becomes real-world value. Anyone, anywhere, can potentially earn a living simply by playing games they enjoy.Critics argue that gaming should be an escapist pursuit, not monetized. But "play-to-earn" doesn't necessarily mean "I'm just gaming for money now...". Games can be entertaining and have an enormous earning potential for the player; these aren't mutually exclusive. Many have therefore transitioned to "play-and-earn" to ease the confusion. And the name is not the only thing that's maturing; the landscape is expanding rapidly.
The rapidly developing blockchain gaming landscape
The rapidly developing blockchain gaming landscape
From top left to right: RPG (role-playing games), MMORPG (massively multiplayer online role-playing game), Farming games, MMO (massively multiplayer online), MOBA (Multiplayer online battle arena), Derivative gaming (NFTs linked to real-world), Trading Card Games, Buiding games, Metaverse (virtual worlds), Creature battle (breeding and battling), Poker, Move-to-earn, Sports, Racing, Battle Royale, Tower defense games, E-sport, Strategy, Sing-to-earn, Consumables (in-game utility), Action, Puzzle games, and Arcade games.The two bottom rows are a small representation of the service layer: Gaming platforms, Providers, Developer studios, Marketplaces, Gaming guilds, Guild management, Launchpads, and distribution.Despite its infancy, numerous blockchain gaming projects have emerged across multiple genres with mass-market appeal. As a result, interest in blockchain gaming and NFTs has surged. However, as so eloquently illustrated by the chart below, this interest seems to be fuelled by speculation rather than enjoyment.
Weekly Gaming Activity on Ethereum
Source: Dune Analytics, TradingView
The purpose of this chart is to illustrate a general trend. Had we based the activity on Ronin (an Ethereum-linked sidechain made specifically for Axie Infinity) instead of Ethereum, the number of Axie users would be significantly higher. However, regardless of metric or chain, activity is decreasing.
Building sustainable blockchain games
While Web3 gaming holds a lot of promise, this is not how it’s currently playing out. Building a developer ecosystem takes years. Building AAA games, like Fortnite and World of Warcraft, takes years. But the NFT space has an attention span of months, and gaming platforms are rapidly launching with no clear product vision and no pre-existing content. Meanwhile, they rely heavily on a continuous stream of outside investments to propel momentum. This is unsustainable and requires a major realignment, with games supporting DeFi - not the other way around. For blockchain gaming ecosystems to prosper long term, there are three areas that require special attention:
  • The cost of entry
  • Token inflation
  • Incentives
1. The cost of entry
A major criticism of crypto is the concentration of wealth: a small percentage of wallets holding a high percentage of the value. NFTs seem to be accelerating that further; the most common model of a Web3 game is that a player needs to purchase or rent in-game assets (NFTs) to begin earning rewards from their gameplay, which presents an obstacle to mass adoption.Gaming is generally a ruthless, highly competitive, and transient space, which makes high-cost ownership a risky play. One reaction to this is the rise of gaming guilds, which can be considered the esports model of the traditional gaming industry modified for blockchain gaming. In a nutshell, gaming guilds act as facilitating intermediaries by purchasing NFTs used for gameplay and lending them to players to play and earn yields. The gaming guilds profit by splitting a share of the revenue and the rent paid to the guild, consisting of investors, gamers, and managers. Yield Guild Games, the leading gaming guild by market cap, has 27,000 scholars across its network and owns assets across a wide range of blockchain games. But high-cost ownership does not only present challenges to the users.Aside from increasing the barrier to entry, high-cost ownership also adds significant stress to the economy because the gameplay rewards have to justify the upfront capital investment. This can be achieved by i) other individuals continuously putting money into the ecosystem or ii) rewards benefitting from ponzinomics. Heavily influenced by DeFi, it's usually the latter.To actualize the dream of onboarding the masses, blockchain games should therefore be developed keeping player-first design principles in mind, with a low entry cost, and where playing is decoupled from spending or investing upfront as a precondition to earning. A market driven by the largest wallets hiring interns to do the dirty work (actually playing) before dumping the profits is a mere reiteration of the economic systems Web3 attempts to escape.
2. Token inflation
One of the basic laws of economics is the principle that an increasing money supply causes inflation. And virtual economies are no exception. The idea is simple; owning digital assets allows entry into gaming ecosystems, which rewards players in native tokens they then can cash out. Some call it "play-to-earn"; others call it a Ponzi.Most existing Web3 games apply an unbalanced economic model that circulates only one native token, which means that the entry price and the reward payout will be pegged to the same token, resulting in a quick surge or collapse due to token price fluctuation.Well-designed burn mechanisms are crucial to the stability of a token and the sustainability of a game, affecting both the buying and selling pressure of tokens. So-called "token sinks" are activities through which a token is used within a game and removed from circulation through burning, including in-game purchases, trading, deaths, etc. There are far more ways to earn money—accomplishing missions, looting, killing enemies, etc.—and this presents a problem.New players are often required to purchase or mint in-game NFTs with the native token, burning it in the process. While it’s an effective way to reduce token supply, it may also contribute to additional emissions (the creation and distribution of new tokens) in the long term as those new users will earn rewards. The circulating supply is often not reduced but instead outpaces the deflationary burn. If the main sinks in a game increase the participants' earnings, the game is unsustainable. If they don't, its economy might be sustainable.
3. Incentives
One of the timeless lessons of economics is that incentives matter. New players will likely arrive for the attractive rewards, but it won’t be enough to have long-term sustained players. Players should feel a sense of community (not to be confused with evangelism), and be intrinsically motivated to spend time within the game. When you combine that with true ownership of digital assets, you have both a social and financial incentive to play. You truly have skin in the game.To create a healthy ecosystem with users, games must therefore be entertaining before they can capture the time, attention, and wallets of users. Not the other way around. This has been proven repeatedly in every corner of the tech industry with the shift from "premium" (buy before using) to "freemium" (free to download, pay after using).However, games and crypto are not incompatible. You can certainly make entertaining games overlaying web3 properties, enhancing the player experience. Different games will approach this differently, but the point I’m trying to make is that forcing crypto into a game won’t work if the target audience is gamers. This is not a revolutionary thought, but in the Web3 world, the focus on hype often comes at the expense of sensible business decisions.
Moving forward
Blockchain gaming largely remains its own space occupied by crypto enthusiasts, not core gamers. If you have to buy into a game at a high cost, that's not fun. That's why gamers despise NFTs. And as the boundaries between investing and gaming are growing faint, mass adoption seems to slip further away.The reality is that all tokens and NFTs are highly speculative bets on an unknown future. The reason they often escape scrutiny is that they're seen as a new frontier: in economics, in gaming, in product. The same was once said about Fintech. Founders were cowboys who flaunted the outdated regulation to provide cool new services. But as it turned out, when money is involved, trust is more valuable than innovation. So now we're in a happy medium of FinTech being i) more like familiar institutions or ii) partners of those institutions.Just like Fintech, Web3 gaming is an evolution, not a revolution. Web2 will likely continue to play a large role, which will include things like a 'doxxed' team, low entry costs, a clear product vision, sound economics, and product design principles at work. In any case, Web3 games have the potential to transform from being games with financial incentives to virtual ecosystems where people socialize, entertain, and transact—protected by immutable digital rights. Needless to say, this will take many years to develop and materialize, but that doesn't mean there aren't reasons to be extremely excited about what this space has to offer.
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