The Solana network has many attractive features. But it is not the same thing as SOL (the asset). From an economics perspective, SOL has weak fundamentals and is therefore a medium-quality asset.

First, SOL ownership is concentrated, thanks to its youth, multiple rounds of venture capital, grants to labs and foundations, and the fact that it launched with staking (i.e. PoS). Concentration reduces liquidity. ETH had a modest funding round a few years ago, gave only a small amount of money to the foundation and founders (by current standards), and had many years of PoW (proof of work, i.e. computing power mining k) before merging.

Second, SOL has a relatively high inflation rate of over 5%. The inflation rate will eventually decrease, but the supply will grow by 25% before the inflation rate stabilizes at 1.5%. During this period, the capital cost of SOL in DeFi will be high.

DeFi always prefers to use native assets — LST (liquidity staking tokens) themselves bring risks — but using native SOL in DeFi means giving up high staking returns. If DeFi wants to attract capital, it must compete with staking.

This means that SOL has a high nominal interest rate. ETH, on the other hand, is close to deflation, with a nominal interest rate close to zero. You can already see this in action: currently, it costs almost three times as much to borrow SOL on Kamino as it does to borrow ETH on AAVE.

Third, high nominal interest rates lead to more staking. To avoid dilution, SOL owners would be foolish not to stake, but this would hinder liquidity. Solana's staking participation rate is more than double that of Ethereum. Ethereum holders don't miss out on much by not staking. This means there is always more ETH floating freely in the market than SOL.

To make matters worse, Solana’s LST ecosystem is fragmented. Liquidity staking tokens are not as sexy as HQLAs, but people do use them, and there is a lot of Lido stETH in Ethereum DeFi. Concentration on a single LST may be bad for the security of the chain, but it is good for DeFi. This means that assets that may be considered "too big to fail" have more liquidity.

Fourth, and perhaps counter-intuitively, Solana has low transaction fees. This may be good for users, but bad for SOL fundamentals — fees are a cost to users, but also revenue for stakers. Low fees mean that most of the returns paid to stakers must come from new coin issuance, which is devaluation.

The interaction between issuance and fees determines the effective interest rate of a crypto asset (MEV also plays a role but is not included in my analysis).

ETH has a low issuance and high fees, and almost all of the fees go to stakers. This means it has a positive actual yield. In this respect, it is even better than Bitcoin. Bitcoin also has a low issuance and high fees, but both go to miners, not holders.

SOL’s real yield is almost negative. Except for peak activity periods, almost all of the gains come from increases in the money supply.

ETH also has a burning mechanism. This increases its positive real yield while also returning value to non-stakers, which reduces the incentive to stake, reduces the stake participation rate, and leads to more liquidity. Solana used to have a burning mechanism, but later decided to cancel it.

Finally, Ethereum’s high fees mean that ETH has a higher convenience yield: users will want to always hold some ETH (without staking) to pay for future on-chain gas fees, thereby increasing the available supply of ETH.

ETH has better monetary properties than SOL, and monetary properties are very important to become HQLA.

It’s a complex argument with many moving parts, but SOL’s lack of importance in Solana’s success hinders its qualification as the ultimate asset to be built upon.

You can even see this in Solana culture. Even @aeyakovenko thinks cryptoeconomic security is just a meme. But if that’s true, then the foundation of the chain’s token is a meme, too.

The cycle of security -> currency value -> security is the ultimate source of value for any cryptocurrency. This is Satoshi Nakamoto’s greatest insight.

This doesn’t mean SOL can’t appreciate or even outperform ETH, as memes and momentum are more important than fundamentals in crypto right now.

However, these dynamics reduce the importance of SOL in a financial system that is being restructured on the basis of entirely new assets.