DeFi’s Yield Model Is Broken — Here’s How We Fix It

Decentralized finance (DeFi) stands at a critical crossroads. The industry has long relied on inflationary token emissions to entice users with high Annual Percentage Yields (APYs), creating a growth-driven narrative that ultimately collapses when incentives dry up. This approach has led to a cycle of unsustainable growth followed by inevitable crashes, leaving protocols with a short-lived sense of success. For DeFi to thrive in the long run, it must transition away from this broken model and adopt strategies that focus on sustainable value creation and capital efficiency.

The Current State of DeFi: A Destructive Cycle

DeFi protocols have repeatedly fallen into the same trap: launch a governance token, distribute it generously to liquidity providers to boost Total Value Locked (TVL), celebrate short-term growth, and then watch as yield farmers withdraw their capital and shift to the next hot protocol. This cycle of growth and collapse doesn’t foster lasting success; instead, it creates artificial ecosystems that crumble once the emissions run dry.

In the current yield farming landscape, a few core problems have emerged, undermining the foundation of DeFi:

1. Inflationary Emissions

Most DeFi yield comes from inflationary token emissions rather than sustainable revenue generation. When protocols reward users with native tokens, they dilute their token value to subsidize short-term growth. As more tokens are issued, the price of each token decreases, leaving late participants holding devalued assets.

2. Capital Flight

DeFi liquidity is driven largely by mercenary capital — investors who chase the highest short-term yields. This type of liquidity moves from one protocol to the next, driven by fleeting incentives, rather than being loyal to any specific protocol. Without strong, long-term incentives to retain capital, protocols are left vulnerable to sudden capital flight, weakening their foundation.

3. Misaligned Incentives

The reliance on governance tokens to attract liquidity often misaligns incentives, making it difficult for protocols to create a sustainable treasury. Without adequate funds to reinvest in long-term development or security, protocols struggle to remain competitive or build a solid foundation for future growth.

These three issues have plagued DeFi repeatedly, from the DeFi summer of 2020 to the yield farming boom of 2021, and the subsequent crashes that followed. Without a fundamental change in the approach to value creation, the industry risks continuing to fall into this destructive pattern.

How to Fix DeFi: Shifting to Sustainable Yield Models

To move away from this destructive cycle, DeFi protocols must shift toward more regenerative economic models that emphasize long-term sustainability over short-term rewards. Protocol-owned liquidity (POL) is one such solution.

Protocol-Owned Liquidity (POL)

Instead of relying on external liquidity providers and emissions, protocols can own their liquidity. By doing so, they become more resilient during market downturns and gain a sustainable revenue stream from transaction fees.

Importantly, POL creates a self-sustaining model where liquidity is not tied to short-term incentives but is built around the protocol’s core value proposition.

Having protocol-owned liquidity means that instead of renting liquidity through token emissions, protocols can generate consistent returns from actual economic activity. This model aligns the protocol's interests with long-term stakeholders, providing real yield and creating a more stable capital base.

Use of Bridged Assets to Generate Yield

Another potential path to sustainability involves staking bridged assets. Currently, bridged assets often sit idle without contributing much to liquidity pools. By staking these bridged assets, protocols can redeploy them into low-risk, yield-bearing strategies on established blockchains like Ethereum, and use those returns to boost the yields for their own users.

This strategy doesn’t just contribute to capital efficiency but also helps align the incentives of liquidity providers with the long-term health of the protocol. By using bridged assets effectively, protocols can generate sustainable revenue that flows back into the system rather than being used to prop up unsustainable yields.

Real Yield: The Key to Long-Term Success

For DeFi to truly mature, protocols need to prioritize real yield over inflationary rewards. Real yield is generated from actual economic activity — such as transaction fees, lending, and other value-generating services — rather than simply printing new tokens. This model will result in lower initial yields compared to inflation-driven models, but the key difference is that these returns will be sustainable and tied to real economic activity rather than speculative token inflation.

This shift will lead to stronger foundations for DeFi protocols, helping them weather market cycles instead of collapsing during downturns. In the long run, real yield will foster credibility and trust, two qualities that are essential for mainstream adoption.

The Road Ahead for DeFi

The transition to sustainable yield models in DeFi will not be easy, but it’s necessary for the industry’s future growth. Both investors and developers must embrace the distinction between sustainable yield and the artificial returns created through inflationary emissions.

Investors must focus on the protocols that are prioritizing long-term growth and building value through real economic activity. Developers need to design tokenomics that incentivize long-term commitment and value capture for the protocol, rather than chasing short-term yield farming metrics. Users must understand that their returns should be tied to the utility and success of the protocol, not just a token's market price.

In the end, DeFi can fulfill its promise of revolutionizing the financial industry, but only if it moves away from broken, inflationary models and focuses on creating lasting value. Protocol-owned liquidity, bridged asset staking, and real yield are the keys to creating a more resilient, sustainable DeFi ecosystem.

The time to fix the broken yield model is now — DeFi cannot afford to repeat the mistakes of the past if it hopes to become a mainstream financial solution.

Explore More on DeFi Sustainability

To learn more about sustainable DeFi models and how they’re reshaping the future of finance, check out resources on DeFi Pulse and Bankless for deeper insights into the evolving DeFi landscape