What is a bonding curve?

• A bonding curve is a mathematical concept that defines the relationship between the price and supply of an asset.

• Bonding curve contracts are smart contracts that aim to create a market for tokens independent of cryptocurrency exchanges.

• The value of each token tends to increase as the number of tokens issued increases, according to the bonding curve.

A bonding curve is a mathematical concept that describes the relationship between the price and supply of an asset. The fundamental idea behind a bonding curve is that when a person acquires an asset available in a limited quantity, each subsequent participant will have to provide slightly more for it. This is because the number of available asset units decreases with each acquisition, making the asset more valuable. This mechanism seeks to provide benefits to early participants.

In the cryptocurrency space, we have seen the emergence of bonding curve contracts. These are token issuance smart contracts that aim to create a market for the tokens, independent of cryptocurrency exchanges. Bonding curve contracts distribute tokens to users by calculating the token value in Ether and issuing them after the transaction. They also retrieve them and compensate with Ether. In both cases, the smart contract calculates the average value and bases the rate off of that.

There is no hard limit on the number of tokens that can be created with bonding curve contracts. Instead, the quantity of Ether in existence and the price curve limits how many can circulate in the market. Usually, bonding curve contracts ensure that the value of each token tends to increase as the number of tokens issued increases. This means that as more tokens are created, their value goes up, following the bonding curve.

The bonding curve plays a role in the cryptocurrency market. Many cryptocurrencies, including the largest ones, are developed to be of a limited quantity. This scarcity is what gives these cryptocurrencies their value. The bonding curve concept is used to manage this scarcity and the resulting price changes. It aims to maintain a balance between supply and demand, ensuring that the price of the cryptocurrency remains stable.

Bonding curves act as the underlying mechanism for automated market makers (AMMs), enabling continuous liquidity without the counterparty complexity and volume requirements associated with a traditional order book. This implies that bonding curves aim to maintain sufficient liquidity in the market for traders to transact cryptocurrencies. This is a factor in the functioning of the cryptocurrency market.