How the network works is shown in Illustration 1. The relay chain at the center is responsible for the network’s security, consensus, and cross-chain interoperability. Validators secure the relay chain: they validate proofs from collators and participate in relay chain consensus by staking DOT (Polkadot’s native coin). The consensus mechanism is Nominated-Proof-of-Stake, that means nominators select trustworthy validators. This secured environment allows parachains to be sovereign, have their own tokens, and optimize their functionality for their use case domain. Parachains pay for using the relay chain security, either in a lease or pay as they go (“parathreads”). Bridges allow to connect economically independent blockchains (e.g., Ethereum or Bitcoin) to a parachain.

Such heterogenous interoperability adds much complexity to the design. For that reason, and to foster fast innovation in a secure way, a second, practically identical, network has been built: Kusama. The Kusama network is the sandbox variant of Polkadot, with lower requirements to win a lease and shorter lease periods (48 weeks). Projects can either choose to stay on Kusama or use it as testing environment before obtaining a proper Polkadot lease.

Economics

Currently, 160 projects are vying for parachain slots on either Polkadot or Kusama, with half of them receiving one or more grants from the Web3 Foundation backing the Polkadot ecosystem. In addition, 117 are backed by at least one investor and 69 are backed by at least ten investors.

The number of parachains that can run in parallel is limited to 100, which creates scarcity for projects who want to connect to the Polkadot ecosystem. Slot leases are auctioned off and lease periods are 96 weeks. This mechanism creates a competitive market for independent blockchain projects that offers projects an interlinked network infrastructure while giving them much freedom in their own cryptoeconomic design. Across the four development stages, one can see that the Kusama network hosts many more full parachains, while the Polkadot network is much more selective in the process (Illustration 2).

It is possible to participate in projects at any stage of development: (1) one can join a crowdloan initiative that collects funds to be used in upcoming auctions; (2) one can trade in the native tokens of existing parachains on both networks; (3) one can stake or trade the governance tokens of both networks, DOT and KSM. Price performance of DOT and KSM in 2021 was +187% and +282% respectively.

DOT or KSM tokens contributed to a successful crowdloan remain locked for the duration of the lease period. In return and as an incentive to lock, projects hand out rewards in new parachain tokens to their contributors. Table 2 shows statistics of some successful auctions on Polkadot so far.

Conclusion

Polkadot has arrived among the top 10 cryptocurrencies by market cap ($ 19.3b). Its ecosystem has been spawning 160 projects in the last year, of which dozens are live parachains on the Polkadot or Kusama network. Each successful project is spawning an ecosystem of its own. For example, Moonbeam covers NFTs, dApps, DeFi, wallets, etc. in close to 100 projects of its own. On top of the agile smart contract competition and the planned Merge, the incumbent Ethereum got one more challenge to deal with – the massive attack of parachains.