Liquid Staking

Definition

Liquid staking allows cryptocurrency holders to stake their assets in a Proof of Stake (PoS) blockchain while still maintaining liquidity. Instead of locking tokens, users receive a liquid token representing their staked assets, which can be used across DeFi platforms.

Background / Backstory on Liquid Staking

Traditional staking requires locking up tokens to secure the network and earn rewards. However, this creates an opportunity cost—users cannot access their funds until the staking period ends. It emerged as a solution, offering stakers a liquid derivative token they can trade, lend, or use in decentralized finance (DeFi) applications while still earning staking rewards.

How it is Used in the Industry Today?

Liquid staking is gaining traction across Layer 1 and Layer 2 blockchains, decentralized finance (DeFi), and exchanges. It bridges staking and liquidity, enabling users to maximize capital efficiency.

How It Works (Explained for a High-Schooler with an Analogy)

Imagine you deposit $100 in a bank’s fixed deposit account, earning interest. However, the bank gives you a special receipt worth $100 that you can trade, lend, or spend while still earning interest on your deposit.
You stake your tokens, and in return, you receive a liquid staking token (e.g., stETH for Ethereum), which you can use across DeFi platforms.

Example 1: Ethereum and stETH

A user stakes ETH in Lido Finance.
Lido issues stETH (staked ETH), representing the user’s staked assets.
The user can then use stETH in lending platforms, yield farming, or trading, all while still earning ETH staking rewards.

Example 2: Solana and mSOL

A user stakes SOL using Marinade Finance.
They receive mSOL, which can be used in DeFi for additional yield opportunities.
Meanwhile, their staked SOL continues generating staking rewards.

Stakeholders and Implementation

Who Uses It?

Retail and Institutional Investors – Want staking rewards without sacrificing liquidity.
DeFi Platforms – Utilize the tokens in lending, yield farming, and trading.
DAOs & Governance Participants – Use staked assets without un-staking for governance voting.
Centralized exchanges – offer solutions that help increase trading volumes by keeping crypto assets liquid.

Challenges in Implementation

Smart Contract Risks – It relies on complex smart contracts, which can have vulnerabilities.
Centralization Concerns – Some liquid staking platforms control a large portion of staked assets.
Regulatory Uncertainty – Some jurisdictions may consider liquid staking derivatives as securities.

Pros & Cons

✅ Pros

✔️ Liquidity – Users can still trade or use staked assets.

✔️ Maximized Capital Efficiency – Assets can earn rewards and be used in DeFi simultaneously.

✔️ Composability – Works seamlessly with lending, yield farming, and swaps.

❌ Cons

❌ Smart Contract Risks – Bugs or exploits in liquid staking platforms could result in losses.

❌ Price Depegging – The value of liquid staking tokens (e.g., stETH) may deviate from the underlying asset.

❌ Regulatory Risks – Authorities may impose restrictions on providers that offer staking services with liquid features.

Future Outlook

It is set to grow as blockchain networks transition to Proof of Stake (PoS) and DeFi ecosystems mature. Key trends include:

Multi-Chain Expansion – More blockchains adopting it.
Institutional Adoption – Large funds leveraging liquid staking for yield generation.
Decentralized Liquid Staking – New models aiming to mitigate centralization risks.