Optimizing the Nonfungible Token Ecosystem: Effects of Business Models, Secondary Markets, and Royalties

Abstract

The adoption of blockchain technology has spurred significant growth in the global Non-fungible tokens (NFT) market, which distinguishes itself from traditional markets by features such as free second-hand transactions and creator royalties. To navigate this burgeoning landscape, diverse business models have emerged, such as No secondary market and no royalties, Secondary market but no royalties, and Secondary market with royalties (mandatory royalty). In response, our theoretical model delves into the impact of these models on creator decisions, profits, consumer surplus, and social welfare. The NFT secondary market proves pivotal, enabling creators to set higher prices and enhance profits. Interestingly, introducing a creator royalty, under certain conditions, further boosts profits. Contrary to expectations, a low royalty doesn't always harm consumers; in fact, a sufficiently high royalty prompts creators to lower regular selling prices, fostering secondary transactions and expanding consumer surplus. Beyond the secondary market's conventional role in improving social welfare, our research reveals that a well-calibrated royalty, coupled with creator investment in NFT quality, can amplify social welfare. A low royalty incentivizes creators to prioritize highquality NFT production. We also scrutinize mandatory versus optional royalty policies (Consumer Optional Royalty), finding that the creator's profit is higher under the optional royalty framework with moderate or substantial royalties. We recommend that NFT creators opt for a medium royalty rate when given the choice to set it themselves. Otherwise, in instances where the royalty rate is predetermined, creators are better with mandatory (optional) royalty when royalty is small (large).