Incentive-Compatible Token Design as a Signal of Venture Quality

Abstract

This paper examines whether token design can serve as a signal of venture quality in decentralized fundraising environments. We develop a simple model in which an entrepreneur privately informed about project quality chooses between a neutral token and an incentive-compatible token embedding a milestone-contingent feature. While the latter increases the likelihood of attracting external funding, it imposes a private cost on the entrepreneur.Because token design is publicly observable prior to investment, it affects investor beliefs and financing decisions. The model shows that a separating equilibrium arises only for an intermediate range of design costs. If incentive-compatible features are too inexpensive, low-quality ventures mimic high-quality ones and the signal loses credibility. If they are too costly, even high-quality entrepreneurs refrain from adopting them, leading to pooling outcomes.The paper highlights how signaling can be embedded directly in token architecture through observable design choices that constrain entrepreneurial behavior. The model also yields testable empirical implications: token structures imposing meaningful constraints on founders should attract greater investor participation, whereas nearly costless features should not predict venture quality. These predictions are consistent with emerging evidence on token-based financing.