Governance tokens for a DAO

Governance tokens are tokens that grant their holders permission to participate and influence protocol and other platform related decisions, with the weight of their influence being proportional to the share of tokens held. Changes to a protocol can be proposed, after which they are vetted and voted. In the case of Decentralized Autonomous Organizations (DAOs), decision making is facilitated by executing smart contracts, which lead to the acceptance or rejection of proposals put forth.

One prime example of governance tokens in a DAO is the Maker Protocol or MCD (Multi-Collateral Dai) system in the MakerDAO project. This project allows users to generate the stablecoin DAI, which is soft-pegged to the US dollar and was one of the first DeFi (decentralised finance) applications with wide adoption. The governance rules of this dapp on the Ethereum blockchain are imprinted in its voting contract, DSChief, which assigns voting weight proportionally to the amount of the MKR token that each voter stakes.

A major difference between this and owning stock (equity), which also constitutes a way of getting involved in organisational governance, is that individual decisions can be voted on, in contrast with a board of directors electing a management board that takes care of individual decisions.

The answer to why governance tokens matter to enterprises is manifold. Firstly, off-chain governance is costlier than on-chain governance (and entails a higher risk of hard forks). Secondly, governance tokens are a tool to increase the user base of a business. This is because users may find added value in the prospect of participating directly in decision-making for personal, business and/or ideological reasons. Thirdly, governance tokens lead to more involved communities, which is something often sought. Fourthly, they are a necessary component in DeFi, allowing to claim membership to a novel and innovative group of undertakings.  Finally, they bring about the actual benefits of decentralisation, such as collecting disperse knowledge through democratic discussion and decision-making. Risks exist, however, such as the dilution of accountability in the group and the possibility of “whales” (those with control over a large number of governance tokens) taking over the decision-making process

Maker DAO

The Maker Protocol, also known as the Multi-Collateral Dai (MCD) system, allows users to generate Dai by leveraging collateral assets approved by “Maker Governance.” Maker Governance is the community organized and operated process of managing the various aspects of the Maker Protocol. Dai is a decentralized, unbiased, collateral-backed cryptocurrency soft-pegged to the US Dollar. Resistant to hyperinflation due to its low volatility, Dai offers economic freedom and opportunity to anyone, anywhere.

• Decentralization – The only way developers can put the ‘De’ in DeFi is with governance tokens. Without them, projects would be barrens of smart contracts over which no one has any control.
• Collaboration opportunities – Voting opens the door for discussion, and discussion opens the door for collaboration. When users can directly vote on the issue they face, they are incentivized to collaborate with other community members and reach a decision through discussion.
• More involved communities – Governance leads to more involved communities since users have both a reason and a method to actively steer a project’s path and direction.
• Efficient development – Although developers do not altogether forego their part in the decision-making process, governance models make it easier for them to arrive at concrete answers and implement the changes deemed necessary by their community.

Still at an early stage the concept of DAO’s is gaining traction and the protocols are learning how to work well – in 2022 this was shown with a massive win for the status quo of the protocol – but maybe not the best for the growth of a DAO

“In a major win for decentralization, members of MakerDAO, the lending protocol behind the Dai stablecoin, have rejected a series of proposals that would have seen the protocol’s governance structure become more centralized.

On Monday, the members of MakerDAO showed up to consider three proposals that would have reorganized the leadership of the decentralized autonomous organization (DAO) into something that more closely resembles a traditional corporation, complete with a board of directors.

The proposals were drafted as potential solutions for making the DAO more efficient and more capable of executing “high-level decisions.” Author of one of the proposals and member of the MakerDAO Protocol Engineering Core Unit, Sam McPherson, voiced his frustration about the current governance model, tweeting:

“The status quo is not working… The DAO is not currently set up to make high-level decisions which is leading to decision paralysis or less informed parties making sub-optimal calls.””

The project is fully live and in operation globally

Researched by Antony August 2022