# Pricing Mechanism

In response to a [Pricing Enquiry](/lithium-finance/protocol/pricing-enquiry.md), Price Experts will come together to offer pricing estimates through a mechanism simulating market making that facilitates transactions and price discovery. 

### Two Way Pricing Estimates

Nobel Prize Laureates [Prof. Daniel Kahneman](https://www.nobelprize.org/prizes/economic-sciences/2002/kahneman/facts/) and [Prof. Richard Thaler](https://www.nobelprize.org/uploads/2018/01/thaler-lecture.pdf) pointed out that people assign different value to buying and selling, especially for assets that are held for use or not regularly traded. 

The Lithium protocol assists Price Experts to consider pricing thoroughly by requiring estimates in a two-way bid and ask pricing format. Ask estimate submitted by a Price Expert must be higher than the bid estimate he submits. Price Experts are required to quote price estimates they believe market makers are willing to pay or receive (as if they already own it) to buy or sell a particular asset at a specific time. 

### Clearing Mechanism

Similar to market makers in an active market, Price Experts are required to indicate the hypothetical size of their order by staking reputation. As Price Experts are not required to purchase any unit of the asset being priced, order size is hypothetical and the RP is used only as a reference for relative market clearing power for each Price Expert.  

In conventional real-time exchanges where all bid orders would be lower than the lowest ask order, the highest bid would be matched with the lowest ask. Unlike a traditional exchange, Lithium’s market clearing is not in real time. All pricing estimates, with certain ask estimates possibly lower than the highest bid estimates, are cleared as if they are submitted together at the same time at end of the submission period.

That distinction mandates a different clearing mechanism. The Lithium protocol clears the hypothetical order book by matching the lowest ask order with the lowest possible bid order.  The mechanism will produce the following output in an illustrative sample order book below.

**Illustrative Sample Order Book**\
\&#xNAN;*Indicative market clearing price: $108*

{% tabs %}
{% tab title="Chart" %}
![](https://docs.google.com/spreadsheets/d/e/2PACX-1vRliRf5oOTWM4BmXyyjQp5LOA2QfafVhBcD02NahU2SOiyxi0_KxB9d9FuCX7mo8DfIYIQLB_Jwuk8V/pubchart?oid=1339973140\&format=image)
{% endtab %}

{% tab title="Data" %}

<table><thead><tr><th width="150">Bid Estimate</th><th width="150">MIC</th><th width="150">Ask Esimtates</th><th width="150">MIC</th></tr></thead><tbody><tr><td>$84</td><td>1</td><td>$84</td><td>0</td></tr><tr><td>$85</td><td>1</td><td>$85</td><td>0</td></tr><tr><td>$86</td><td>2</td><td>$86</td><td>0</td></tr><tr><td>$87</td><td>1</td><td>$87</td><td>0</td></tr><tr><td>$88</td><td>1</td><td>$88</td><td>0</td></tr><tr><td>$89</td><td>1</td><td>$89</td><td>0</td></tr><tr><td>$90</td><td>4</td><td>$90</td><td>0</td></tr><tr><td>$91</td><td>4</td><td>$91</td><td>0</td></tr><tr><td>$92</td><td>1</td><td>$92</td><td>0</td></tr><tr><td>$93</td><td>0</td><td>$93</td><td>0</td></tr><tr><td>$94</td><td>5</td><td>$94</td><td>0</td></tr><tr><td>$95</td><td>7</td><td>$95</td><td>0</td></tr><tr><td>$96</td><td>2</td><td>$96</td><td>0</td></tr><tr><td>$97</td><td>4</td><td>$97</td><td>0</td></tr><tr><td>$98</td><td>9</td><td>$98</td><td>1</td></tr><tr><td>$99</td><td>10</td><td>$99</td><td>1</td></tr><tr><td>$100</td><td>4</td><td>$100</td><td>1</td></tr><tr><td>$101</td><td>10</td><td>$101</td><td>3</td></tr><tr><td>$102</td><td>5</td><td>$102</td><td>8</td></tr><tr><td>$103</td><td>1</td><td>$103</td><td>1</td></tr><tr><td>$104</td><td>6</td><td>$104</td><td>6</td></tr><tr><td>$105</td><td>8</td><td>$105</td><td>4</td></tr><tr><td>$106</td><td>2</td><td>$106</td><td>8</td></tr><tr><td>$107</td><td>4</td><td>$107</td><td>4</td></tr><tr><td>$108</td><td>7</td><td>$108</td><td>9</td></tr><tr><td>$109</td><td>0</td><td>$109</td><td>11</td></tr><tr><td>$110</td><td>1</td><td>$110</td><td>15</td></tr><tr><td>$111</td><td>1</td><td>$111</td><td>7</td></tr><tr><td>$112</td><td>2</td><td>$112</td><td>9</td></tr><tr><td>$113</td><td>0</td><td>$113</td><td>5</td></tr><tr><td>$114</td><td>1</td><td>$114</td><td>7</td></tr><tr><td>$115</td><td>2</td><td>$115</td><td>5</td></tr><tr><td>$116</td><td>1</td><td>$116</td><td>2</td></tr><tr><td>$117</td><td>0</td><td>$117</td><td>0</td></tr><tr><td>$118</td><td>0</td><td>$118</td><td>1</td></tr><tr><td>$119</td><td>0</td><td>$119</td><td>0</td></tr></tbody></table>
{% endtab %}
{% endtabs %}

Despite order size being hypothetical, reputation is at stake given that RP will be adjusted upwards or downwards depending on the precision of a Price Expert's pricing estimates. Price Experts are incentivized to maintain a higher reputation for signaling and to achieve higher Staking Limits for a larger share in Reward Pools (Refer to [Two Currencies](/lithium-finance/protocol/two-currencies.md) and [Reward Mechanism](/lithium-finance/protocol/reward-mechanism.md)).

### Encrypted Submission

Since transactions and data on blockchains are fully transparent, the Lithium protocol adopts an encrypted submission scheme to ensure data privacy. This allows Price Experts to commit to their estimates without revealing them to other users during the submission period.&#x20;

1. **Submission**\
   \
   All pricing estimates will be encrypted prior to submission.  Randomness will be injected into the data before being encrypted by the submitting Price Expert through their wallets' encryption function.  These submissions are known only to the Price Experts who provide them. No other Price Expert will have any information about any submission until the Reveal Stage.<br>
2. **Reveal** \
   \
   At the end of the Submission Stage, the protocol would decrypt all submission to produce a hypothetical order book. After that, submissions will be cleared by the [#clearing-mechanism](#clearing-mechanism "mention") to produce an indicative market clearing price.&#x20;

### Advantages

In traditional trading, the mean bid or ask orders may not be executed. Simple or weighted averages of estimates, therefore, may not be a realistic or logical approximation. In a single price estimation model, any outlier submission, however minor, will skew the output.

As a pricing mechanism, the Lithium protocol aims to reward Price Experts for accurate estimation of market sentiment and aims to avoid mis-incentivizing any aggressive bidding. Our two-way pricing estimate model (compared to that of a single price estimate model) enables an incentive structure that rewards the accurate estimation of market bid and ask prices separately. In the event that the bid and ask price estimates are not cleared, it will avoid distortions that might result from a single price estimation model or from an incentive structure that rewards estimating market clearing price.

With Lithium, no single Price Expert can produce the market clearing price. Reputations and historical performance (from RP) are incorporated into the final output. Outliers not filled or matched will not affect the output. Outliers with low reputations are also absorbed through Market Clearing with no or negligible impact on output.


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