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The problem is incentivizing mining, because merge mining is insecure, side-chains can't create coins, and transaction fees are not incentives compatible in PoW.
How do you envision demurrage incentivizing sufficient mining to secure a PoW side-chain?
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A 1% per year demurrage rate can produce a 1% per year block reward while keeping the number of coins in the side chain constant. The demurrage amount and block reward are adjusted continuously to reflect the number of coins in the side chain. In Freicoin demurrage is used to compensate the miners while keeping the number of coins constant. Their demurrage rate I believe is higher.
1% is approximately the tail emission of Monero (0.6 XMR per 2 min block). This roughly corresponds to 3 XBT per 10 min block for Bitcoin.