What would it mean to ‘stake’ UNI? A deep dive into Uniswap’s Fee Switch proposal and the recent drama!

The UNI token was introduced in September 2020 as a governance token for the Uniswap decentralised exchange. Holders of UNI are able to vote on proposals to direct future development and decisions for the DEX.

One such proposal, introduced in February 2024, reignited discussions around the controversial ‘fee switch’ idea. The intention behind the fee switch proposal is that UNI token holders would receive a portion of the fees that traders on the DEX pay to use the platform.

However, there’s a few different fees on Uniswap so which are included in a potential fee switch?

The Different Types of Fees on Uniswap

Swap fees are paid by traders as they swap assets through liquidity pools and are accrued by the Liquidity Providers who deposit tokens in the pool.

DEX website fees were introduced in October 2023 for any users accessing the Uniswap DEX via the front-end created by Uniswap Labs. Originally this was set at 0.15% however in April 2024 it was increased to 0.25%. With billions of dollars traded through the DEX daily this has led to almost $10m worth of fees being accrued for the Uniswap Labs team and up to $145,000 per day on the highest volume days.

Although the introduction of this has been a notable jump in costs for transactions, it doesn’t appear to have impacted use of the Uniswap front-end and it is now an impressive source of income for the Uniswap Labs team.

However there’s a third type of fee called the Protocol Fee which has remained switched off since its mention in the v2 whitepaper but which could bring big benefits to UNI holders.

This Protocol Fee, if switched on, would direct a portion of the swap fees to the treasury or even UNI holders. However this can only be switched on through a governance vote — which would also need to decide what portion of the swap fees are redirected and in what portion to who e.g the treasury vs UNI holders vs LPs.

This would turn UNI from ‘just’ a governance token, into a way to earn yield.

Staking as Part of the Fee Switch

There’s been a number of fee switch proposals but none have yet reached a sufficient level of consensus to pass. However in February 2024 a proposal was put forward which sort to balance the economic incentive with increasing governance participation.

https://gov.uniswap.org/t/temperature-check-activate-uniswap-protocol-governance/22936

It proposed setting the protocol fee per pool, without specifying any suggested rate but that these fees would only be distributed to UNI holders who had delegated or staked their tokens. This has garnered the most support across UNI holders, the DAO and the Uniswap Labs team.

So let’s take a step back and look at Uniswap’s governance and voting mechanisms.

Anyone can make a proposal for a change to the Uniswap protocol and then it must be voted on by other UNI holders, with your vote carrying more weight the greater your UNI holdings are: https://snapshot.org/#/uniswapgovernance.eth . However, as with many voting based crypto systems (and IRL democracy!), turnout can be much lower than one would like for a fair and inclusive system. In fact most proposals receive votes representing less than 10% of circulating UNI supply. To try to encourage more UNI to be used for governance voting, Uniswap has a delegation system whereby if you don’t want to stay actively abreast of what proposals are being put forward and how you should vote you can instead delegate your UNI to someone else to vote on your behalf. However this just delegates your voting power — you maintain full control over the movement of those UNI if you want to transfer or sell them.

The Feb fee switch proposal aims to incentivise more UNI holders to vote or delegate their voting power since only those who are active in the governance of the protocol will be able to claim a share of the protocol fees.

How would it work under the hood?

The Protocol Fees would be generated on a per pool basis with x% (decided at a per pool level) of the two tokens from the pool being routed to the v3FactoryOwner smart contract and the rest being distributed to LPs.

A ‘staker’ must deposit 10WETH into the UniStaker smart contract in order to be eligible to claim their portion of these accrued fees.

This essentially means there’s a pool of rewards which is only economically sensible for a user to claim when the value is over 10WETH. However anyone can claim the fees so it’s a race of actors to claim this once over the 10WETH threshold.

The WETH collected into the UniStaker smart contract is what’s distributed to UNI delegators. It’s only delegated to UNI holders who gave delegated it to a governance voter.

Users with UNI must delegate it to a Delegator [in the same way that they can today] so that this Delegator votes on governance proposals on their behalf and must also stake UNI with the UniStaker smart contract in order to be eligible to receive a portion of the Protocol Fees that accumulate in the UniStaker contract and which are distributed pro-rata to UNI holders over a 30 day period.

Where do things stand right now?

There was an initial temperature check vote on March 6th 2024 to gauge the communities interest in the fee switch being activated. This passed with 55m UNI voting in favour and just 1,244 UNI against or abstaining

https://snapshot.org/#/uniswapgovernance.eth/proposal/0xad7e3612d11d56b21f0b2274e4ce825163bc1873d0e2ef809a3a98733df992a7 . Off the back of this temperature check, some projects and teams from across the space started to explore possible implementations, trying.

One such proposal by GFX Labs put forward a 20% protocol fee across all v3 pools but planned to implement the fee switch initially on the Polygon version of UNiswap before later releasing to Ethereum and other chains with versions of the DEX. They estimated that, when deployed on Ethereum, this could raise hundreds of millions of dollars for UNI holders.

https://gov.uniswap.org/t/making-protocol-fees-operational/21198 . Although it’s fair to say that this proposed implementation received some strong views (in favour and against!).

However this wasn’t the end of the journey.

A ‘proper’ vote would need to be scheduled and passed in order to take this from idea to onchain implementation and this was initially slated for 31st May 2024, just a few days ago.

To vote, UNI holders would need to delegate their voting power (a nod to the implementation of the fee switch mechanism itself) and the outcome of any successfully passed vote was noted as still requiring further votes to become implemented. https://gov.uniswap.org/t/temperature-check-activate-uniswap-protocol-governance/22936/122?utm_source=tldrcrypto

However just a week later, and on the day that the vote was due to take place, the Uniswap Foundation team put a halt to their proposed plans on the vote stating

“Over the last week, a stakeholder raised a new issue relating to this work that requires additional diligence on our end to fully vet…”

As perhaps expected this was met with sharp backlash from the community on both the forums, proposal and even in the UNI price which dropped 9% following the vote decision. Many community members were angered by the prioritisation of an equity investor (N.B Uniswap Labs last raised $165m in its series B back in October 2022) over the UNI token holders — thereby creating a two class structure.

The view across the community was that a VC had strong-armed Uniswap Labs into halting the vote due to their concerns that the fee switch would be turning UNI into a security (since the fee switch would effectively be distributing dividends to holders).

No new vote timeline has been given so the proposal is in limbo land and awaiting on update from the Uniswap Labs team.

However, assuming that it comes back on the table, there’s some notable consequences of the fee switch being turned on.

Consequences of the Fee Switch

• A core element of this proposal is the incentivising of governance participation. However if every UNI holder must delegate to be able to receive their share of the Protocol Fees, who’s doing the actual voting? It needs to be possible for an active participant to be able to vote without delegating otherwise we may look at having super pacs of delegations rather than many smaller and more independent voters.
• With UNI being more than a governance token and instead able to generate a return this could mean the eyes of regulators turn to the token. Uniswap received a Wells Notice in April 2024 so any token-based returns could put it into dangerous securities territory.
• Another concern raised is whether this would burden UNI holders with a tax implication on their received share of the Protocol Fees.
• The fee switch would divert fees that currently go to LPs into the treasury and UNI holders. Understandably some LPs are unhappy about this. Uniswap commissioned Gauntlet to assess what the impact would be on LPs if this were to be switched on and the findings were: “That implementing a 10% protocol fee, diverting one-tenth of the fees from LPs to $UNI holders or Uniswap itself, would result in a 10.71% decrease in liquidity and MEV volume, alongside a 0.75% reduction in core trading volume.”
• As always in the crypto space, where this is innovation or process updates, there will be scammers lurking close by and trying to trip you up so that you lose all your assets. Below are some examples of scammy Medium articles which are providing false guidance to stake UNI so that you can see their tactics. (Do not follow them — you’ll lose your funds!):

You can see from the author’s other posts that they do a copy-and-paste approach for lots of other assets — all trying to direct you to a phishing website which, if you connect your metamask, will hoover up all your cryptoassets!

It’s going to be interesting to see what happens with the vote and whether this translates into onchain action for the implementation of the fee switch. Afterall, DAOs are not necessarily famous for their quick decision making and and with the Wells Notice hanging over Uniswap Labs, plus a digrumteled VC investors, it sounds like a spanner has been thrown in the works.

It’s also going to be interesting to see whether the term ‘staking’ sticks with this type of approach as it’s a notable divergence from actual L1 protocol staking mechanisms and as regulators look to move towards some level of legal and regulatory clarity over staking activities, it may be that we start to see native staking and other yield generation activities diverge in nomenclature.

Originally published at https://www.linkedin.com.