Why Adam Smith Would Support Web3 Loyalty

March 28, 2023

"It is the maxim of every prudent master of a family, never to attempt to make at home what it will cost him more to make than to buy. The tailor does not attempt to make his own shoes, but buys them of the shoemaker. The shoemaker does not attempt to make his own clothes, but employs a tailor. The farmer attempts to make neither the one nor the other, but employs those different artificers.”

-Adam Smith, The Wealth of Nations

A lot has been written about NFT loyalty and rewards programs, with everyone from web3 influencers to the esteemed Boston Consulting Group chiming in. The majority of these contributions have focused on the potential for NFT loyalty programs to create communities and foster deeper connections between brands and their most loyal customers. While we think this is true, there is also a more practical explanation behind the promise of blockchain-based loyalty and rewards that is grounded in economic principles, and probably overlooked and underemphasized relative to its importance in understanding the power of web3 rewards.

Upon beginning this post, you were probably thinking, what is an Adam Smith quote doing in a web3 tech company’s blog? Well, in making our point about NFT loyalty, we find it necessary to invoke some classical thinking about the benefits of free trade.  

Human civilization has likely recognized the benefits of trade since prehistoric times and formalized the theory of its benefits starting in the 18th century with The Wealth of Nations. Simply put, any time two willing individuals agree to trade, both are made better off, or the trade won't happen. As such, in the absence of negative externalities, or side-effects to those not involved, trade is unconditionally good. The more trades, the happier everyone is.

With this in mind, let’s examine the state of loyalty and rewards today. When you get sent a free guac promo inside the Chipotle app, for example, what can you do with it? Well, the answer is you can get a free scoop of guac. But what is that free scoop of guac earned for being a loyal customer at Chipotle worth to you, and what might it be worth to someone else? Depending on whether or not you like guac, you may be able to answer part 1 of this question, but there’s no way of knowing the answer to part 2, because no marketplace exists for the free guac reward.  

Enter web3, blockchain, and tokenization. The way we view the free guac reward is like any other asset, or thing with value owned by an individual. As NFTs on a blockchain, loyalty reward assets gain portability, transferability, and, as an emergent property, liquidity.  

Back to our friend Adam Smith: suppose the free guac reward is only worth $1 to you. Maybe you’re allergic to avocados and it’s worth even less than that. Thanks to NFT marketplaces like Opensea, you could find someone who would pay, say, $3 for that free guac, and make a trade. By selling the reward, you’ve gained $2 of value (versus your $1 of worth) and the buyer gained $0.85 (my local Chipotle is selling sides of guac for $3.85 at the time of writing). Everyone is better off.

OK, but how big is the opportunity to trade free guac coupons really? It’s bigger than you might expect. We estimate that the value of all loyalty rewards issued in the US per year, including free guac coupons, punch cards, airline miles, and more, is worth at least $40 billion (please reach out for backup). Opening this market to trade would easily unlock billions of dollars of value for consumers every year as well as cut down on the stock of unredeemed loyalty rewards sitting on their balance sheets, which we already know is likely over $100 billion. As a head check, $40 billion dollars of loyalty rewards distributed per year implies that 0.54% of eligible spend in the economy is returned to the consumer through loyalty programs.

One question we receive often when introducing the concept of web3 loyalty goes something like: why would Chipotle want to allow you to sell your free guac reward and then potentially use the $3 of proceeds to go buy a coffee at Starbucks, instead of requiring you to redeem the reward at Chipotle and make another visit?

The answer is two-fold. First, we must remember the point of loyalty programs: to increase customers’ retention, average order value, and purchase frequency with the merchant. Ultimately, if the rewards that are part of the merchant’s loyalty program become more valuable to the consumer through the opportunity to trade, participation in the loyalty program will be a more worthwhile proposition for consumers, and they will more actively engage with the program and thereby exhibit the behaviors that were targeted in the first place (increased frequency, AOV, etc).

Second, when a loyalty reward is transferred through trade, it doesn’t vanish. There is ultimately a new owner, who, if rational, will either trade it again or redeem it. As long as someone is redeeming the promo, someone is returning to Chipotle and making a purchase, and it’s actually even better for Chipotle if the new owner is not part of Chipotle’s loyalty program, or even a Chipotle customer. This is because it’s much more costly to acquire a new customer than to retain an existing one, but adding new customers is the engine of growth. So, if the free guac reward ends up in the hands of someone who will try Chipotle for the first time because of it, that’s a huge win.

Ultimately, the emerging landscape of NFT loyalty and rewards programs offers a compelling blend of community-building and economic innovation. While the power of NFTs to create thriving communities and enhance connections between brands and their loyal customers is top-of-mind, it’s important not to underestimate the underlying economic principles that drive the potential of blockchain-based rewards systems. By appreciating the full extent of these foundational concepts, we can develop a more profound understanding of the transformative capacity that web3 rewards possess.