In a standard PoS setup, staked capital is illiquid—it cannot be used for any other purpose. Liquid Staking solves this by issuing a derivative token (e.g., stETH, rETH) to the staker. This LST is a claim on the original staked asset plus any accumulated rewards. The LST can then be traded, lent, or used as collateral in other DeFi protocols, effectively compounding the returns on the capital.

LST: A Liquid Staking Token, representing the staked principal plus earned rewards.

Utility: Unlocks liquidity from staked assets, making the capital productive in two places (staking rewards + DeFi yield).

Mechanism: Typically executed via a centralized or decentralized staking pool that handles the technical complexity of validation.

Benefits for Capital Efficiency

Liquid staking is a major advancement in DeFi, dramatically improving the capital efficiency of PoS networks.

Compounded Yield: Users earn staking rewards and simultaneously earn yield from utilizing their LST in lending or farming protocols.

Accessibility: Lowers the technical barrier to staking, as users do not need to run their own node.

Reduced Centralization: Encourages more users to stake, increasing the decentralization of the validator set.

Risks and Limitations

The LST is a derivative, which introduces unique layers of financial and smart contract risk.

De-Peg Risk: The LST (e.g., stETH) may temporarily trade below the value of the underlying asset (ETH), creating a risk for anyone using it as collateral.

Smart Contract Risk: The security of the staked assets relies on the auditability and safety of the Liquid Staking protocol's smart contracts.

Centralization of LST Issuers: The largest LST issuers can gain outsized influence in the governance of the underlying PoS network.