The DAO is the latest Decentralized, Autonomous Organization to make major waves as they raised over $100 million worth of ETH tokens (12% of all ETH). The question remains, is it a good idea to invest in The DAO and have they learned anything from those who have gone before?
In this article I will talk about the experience gained from BitShares, not to promote BitShares as superior, but to highlight the hard lessons that can be learned from BitShares’ failures and how they might apply to The DAO.
Background
Let me take a moment to share my credentials on the subject of DAOs. The first two words of DAO, Decentralized Autonomous, entered the crypto-currency lexicon after a discussion between my father and I back in 2013. I introduced the concept that a blockchain can be viewed as a DAC. It was because of these articles that Vitalik Buterin, one of the founders of The DAO, started exploring the concepts in a three part series .
The last word of DAC was changed from Company (or Corporation) to Organization in order to avoid unnecessary legal entanglements, but the concept remains the same.
Over the past three years I have worked with the BitShares community to implement the worlds first Decentralized Autonomous Organization based upon many of the same principles as The DAO. Money was raised, tokens were allocated, and token holders were given the ability to vote on how to spend community money and set blockchain parameters.
The latest incarnation of BitShares gave members joint control over a $6 million dollar reserve fund. Advanced consensus and voting systems were implemented to address voter apathy. Powers were divided. Participatory budgeting was adopted. The stakeholders have the ability to vote for hard forks that implement new features. BitShares even adopted fee-backed assets to help fund specific features. Every thing in the blockchain was parameterized and those parameters could be changed by elected committee members. BitShares has been and continues to be one of the most comprehensive examples of a self-governing DAC / DAO.
There is only one major technological difference between The DAO and BitShares, with The DAO, the blockchain smart contracts can change without all of the nodes having to upgrade. This difference is relatively trivial and ultimately irrelevant to the potential success or failure of The DAO. The reason this technical difference is irrelevant is because success and failure of a DAO/DAC depends not on the technology used, but entirely on how a community interacts with the technology and each other.
Smart Contracts cannot fix Dumb People
BitShares had all of the tools, the talent, and the money to do great things if only the BTS holders could agree on what should be done, who should be paid, and how much should be spent. So what lessons have we learned from BitShares’ experiment and how is The DAO doing anything meaningfully different to address it?
Poor Voter Participation
One of the first things we learned from BitShares is that the vast majority (90%+) of stakeholders did not participate in voting. This is due to the fact that voting requires time, energy, and skills that most investors lack. How many people have the economic, technical, and entrepreneurial skills to vote responsibly?
In order to boost participation BitShares 2.0 introduced proxy voting which centralized decision making into about a dozen elected proxies. Even with proxy voting, most people ultimately chose their preferred proxy along party/philosophical lines rather than considering individual proposals.
The DAO currently requires a level of voter participation that is much higher than BitShares has ever seen for a worker proposal. Even with proxies the highest level of consensus stakeholders have achieved is just a tad over (20%). This means The DAO is expecting much higher levels of participation of voters without using proxies. Unless the majority of DAO stake is held in a few active hands, this will be very hard to achieve.
Perhaps even more interesting with The DAO, once you vote for something you are no longer allowed to split your ETH out and form a new DAO. This means that you have much to lose by voting and much to gain by not voting. With an initial quorum of 20% it will be very challenging to get enough agreement, especially with the downsides associated with actually voting.
Anti-Spending Movement
It didn’t take long for the BitShares community to realize that funding projects today would cause a short-term fall in the value of BitShares. Unable to bear the short-term paper-loss and psychological impact of a lower market cap, people started electing proxies that would vote against all spending proposals.
With The DAO the same principles are at work. Every time a project is funded, the amount of ETH backing the DAO tokens falls and is replaced with speculative IOU from a contractor. What is worse, when the ETH is sold to fund the projects the value of all ETH falls. Since The DAO keeps its savings in ETH, the actual cost of funding a proposal includes any loss value caused by selling ETH.
Considering many of the investors in the DAO also hold ETH there is a conflict of interest in their voting preferences. Most individuals will see the short-term cost (loss of liquidity) of authorizing spending to be much higher than the long-term benefit. After all, authorizing a $1 million dollar project will cause the DAO to lose 1% of its capital today and would likely move the Etheruem price by more than 1% down as everyone attempts to front-run the sell pressure created by the project. In the long-run the project may add value to Etheruem and the DAO, but the long-run is often years away.
Smart speculators know they can make the most money by not tying up their capital during the no-growth phase. They will sell today and buy back in closer to the completion the project.
Not everyone will agree with the value an approved project will bring to The DAO. So while those who vote to approve it see $1 million dollars being invested to create $10 million of value, many more will see that $1 million dollars being wasted with no chance of return. Who is right? Well odds are in favor of it being wasted as 9 in 10 startups fail.
Fortunately The DAO allows non-voters to split and reclaim their ETH by splitting their funds out.
Death by 1000 Splits
The DAO has tentatively raised $100 million dollars worth of ETH, but so far the investors have taken no real risk. Every single person who has purchased DAO tokens has the ability to reclaim their ETH so long as they never vote. The end result is a massive marketing campaign that totally misrepresents what has been invested and what hasn’t. Considering there is no real risk being taken beyond the risk of holding ETH and that there is the potential for a large gain it is no wonder so many people have participated.
So what happens next? Everyone seeking a zero risk return will abstain from voting. If greater than 80% fall in this category, then nothing will pass. There is a very real possibility that this will happen.
Will there be any proposals in the first place? To prevent proposal spam all new proposals must make a deposit that gets forfeited if a quorum (20%) is not reached. In this case there will be no proposals unless the proposers are already certain they will win. To be certain will require conducting non-binding polls outside The DAO. What happens if people vote in non-binding polls but then refuse to vote for the actual proposal? Free profits for The DAO when the deposit fee is forfeited. This may or may not be an issue depending upon whether the required deposit is small enough to risk losing. Anything less than $100 is probably OK.
Once the first project gets approved a new moral hazard is created. Lets assume it is approved with the minimum 20%. The DAO will receive reward shares in the funded project and those shares will be divided equally among all participants. The non-voters will get the rewards and can then split their funds. The voters on the other hand will be unable to split. They take 100% of the risk and only get 20% of the reward, where as the non-voters get 80% of the reward and minimal risk.
The DAO is complicated and I admit that I am not sure I fully understand how, when, and where ETH can be split relative to payouts and rewards. It may well be that non-voters end up funding 80% of the proposal and can only reclaim a fraction of their original investment after the proposal is funded.
Regardless of which way it is actually implemented, there are more benefits to be gained by not-voting and splitting your ETH out of The DAO than by voting and keeping your ETH in The DAO. Liquidity is valuable.
Ignore the Technology
Fancy technology can obscure our assessment of what is really going on. The DAO solves a single problem: the corrupt trustee or administrator. It replaces voluntary compliance with a corporation’s charter under threat of lawsuit, with automated compliance with software defined rules. This subtle change may be enough to bypass regulatory hurdles facing traditional trustee’s and administrators, but it doesn’t solve most of the problems the regulations were attempting to address.
What The DAO doesn’t solve is all of the other problems inherent with any joint venture. These are people problems, economic problems, and political problems. In some sense, The DAO creates many new problems caused by its ridged rules and expensive machine-enforced process for change.
The DAO doesn’t solve the “group trap” where by losers subsidize winners. It disempowers the individual actor and forces him to submit to group decision making. It doesn’t make raising money cheaper for companies, it just adds blockchain-enforced bureaucratic and political processes.
Ask yourself if you would still invest in The DAO if its rules were written into the charter of a traditional VC firm. Ask yourself it it would not be simpler to keep your ETH and simply vote with your investment dollars for individual blockchain IPO’s where the IPO rules are enforced by the blockchain. Now ask yourself, what value is The DAO providing to your capital in exchange for all of the added restrictions it places on your capital.
A traditional VC firm is run by experts who study potential investments in depth and get paid proportional to their success. People give money to a VC firm because they trust the management of the firm and accept reduced profits because the VC firm is adding value. The DAO is just a committee of non-professional voters who have relatively little ability to do proper due diligence.
Conclusion
My opinion is that The DAO will be DOA (Dead on Arrival). The theory of jointly deciding to fund efforts will face the reality of individual self interest, politics, and economics. There will be rapid defecting (splitting) as people realize there is little to be gained by banding together under the structure of The DAO and much to be lost.
It might not happen at first, but over time the Etheruem community will learn the hard way what the BitShares community has already discovered. Creating social systems to jointly fund development of projects and investments is challenging. Ultimately, technology can only aid in communication, it cannot fix the fundamental incompatibilities between individual self interest and community decision making.
I think, that many investors will refund during development time. It will take very long and people are not good in waiting. Selling the exchange way will drive the price down to sub ICO levels, but there it is caught by the refunding option. As a result there will be probably 1/3 less tokens, if the product actually comes out and then we have the chance for the growth,…
I don’t know, how it turns out to be with the voting, but you have to try new things in order to progress ;)
One of the reasons we created Steem was to address all of the issues BitShares learned about funding. Among these lessons:
Steem probably has more hard lessons to learn, but hopefully it is a better foundation than prior DAOs.
This is the only one I disagree with. Why should spending be mandatory? Once a service captures a niche it should focus less on growth/features and more on efficiency.
(aside: I upvoted your post but see a red downvote?? is my vote on the blockchain up or down?)
In the case of Steem, there is a constant need for new content because old content decays in value very quickly. Here we assume that new content is worth 10% of the market cap per year.
(aside: that issue will be fixed soon, don’t worry it counted as an upvote).
Sure, content is a cost of business for Steem, but I interpreted it like you were promoting forced R&D spending.
Which could still work if you see Amazon as a prime example…
I wonder what infernal pitch the criticisms about early adopter advantage will reach in a few years time. There is so little incentive to liquidate and so much to be gained, on paper at least, to stay vested. I have a feeling we will see enormous STEEM wealth differences between the very earliest adopters (anyone reading this close to the time I post it) and late adopters (those who come in a few years’ time).
What these future critics won’t be able to fathom is that the early adopters would have been long term holders by that time. Moreover, the critic’s best move would be to vest immediately so that they could become the long term holders of the future.
Fortunately steem-voting is prediction-market style; but even here we can easily envision a loop of steem investor collective upvoting itself to the detriment of the ideal target-group(s).
This issue was addressed in the white paper. An investor collective successful in attempting to game rewards for themselves would cost them more in terms of capital loss than they would gain from payouts. If you assume they gamed it to earn 100% of all rewards, the price would fall by at least 10% and they would be locked into vesting STEEM unable to escape.
There are enough good people around to downvote that kind of attack that it is unlikely to ever be an issue.
Bad wording on my part. I didn’t mean it as an attack vector. The active invested parties are currently deciding what people see when they enter Steem. They upvote based partly on what they think the other Steem investors will vote for (short term), what they think is objectively good content (long term), and what their own personal bias/tastes are (irrationality). The short term bias is obvious, and it might even help Steem at this stage to focus on internal issues, but eventually what investors are voting for will have to reflect what steem users are interested in, and it’s not clear exactly how this will happen. What investors in Steem think is objectively good content is also something that will reflect their own bias, e.g. they might think content is “dumb” when in fact it may be suited for an ideal steem target group. Over time the people holding Steem will be the ones making the most accurate judgements about upvotes for the current investor group, not necessarily for the ideal target group. The plans of giving everyone a vote is probably going to help a lot with this problem, there may be many other fruitful ways to deal with it as well.
Great post. “Smart Contracts cannot fix Dumb People” – after 2+ years in the BitShares community, I strongly agree. And that is no slight or judgment on any of the wonderful, hard working people who have really wanted something like this to succeed; it’s just a fact that different people have different priorities, and that making something fully subject to their votes eventually creates some paralysis. I’m a big fan of decentralization and power to the users, but BitShares certainly hit a wall there and DAO probably will, too.
People, Process, Technology… IT systems 101, you have to solve all three.
I have to agree. Tech will never solve an underlying people or process problem.
To be honest, even DAO finally resulted in the same voter problem as BTS, I don’t believe average DAO investors care. They care the investment return only, and they can cash in when DAO rises in price.
BTW, one reason why DAO is so successful in raising fund is because the success of ETH’s ICO. People earning high return from ETH’s ICO believe that they can earn more with DAO investment. ETH miners also benefits (even now) with the high price of ETH. Most of the investors are not really 100% sure about the so-called technology advances of slock.it (some may just daydream on the buzz word IoT). I believe these investors are right as DAO will rise high when the trading starts in my opinion.
BTS actually rise quite high in price when BTS1 first launched and started trading. But as time goes by, shareholders of BTS got punished as price went down. No miners can get involved. Only delegates got rewarded, and most of them doing nothing useful to BTS. (Another idealistic assumption on assuming delegates can use their reward to fund BTS projects, another failure assumption in my opinion.)
Miners are not harmful in my opinion (see ETH price, see farmable SJCX price, see DCR price). They helped you promote your coins/tokens. They help you spread the mouth of words. BTS2 supports trading natively. It should be the perfect platform for trading mined coins/tokens. Why so stubborn on DPOS? I believe bytemaster realize this stubborn is a bit too much (see STEEM is slightly mineable, but still not enough in my opinion).
Allow BTS to mine , allow STEEM to mine more (not just 1 witness) is at least one good way to promote BTS/STEEM.
I am long-time holder of BTS (I admire the technological advances, but burnt by the price down). I still believe in BTS. Just cannot tolerate to see it got abandon.
Hello Dan,
This is a great article, well articulated, and completely on point. I currently am working with Bitland, Openledger, and Synereo, and talking to the developers on those platforms, we all shared the same concerns that you have expressed in this article. As Openledger is built on the Bitshares platform, I have been working closely with Ronny Boesing to establish a new approach to decentralized organizations called the "Decentralized Conglomerate", which is not the same as a DAO, but will have similar technology powering it. We will be putting out a white paper very soon that will discern between a DC and a DAO, and why the DAO may have theoretical downfalls that may be too difficult to overcome without a new approach.
If you want to get in contact, please e-mail me at info@bitland.world.
Cheers!
Chris Bates
C.S.O. Bitland Global
www.bitland.world
You didn’t reply to Dan.
lol, whoops! Thanks :)
It is possible that what you said can come true about the DAO being DOA. But it holds true to all crypto/token/coin ICOs that have been done before.
We have to remind ourselves that technology is just a tool. The success and failure of DAO will ultimately lie on how well this tool is used. While a crowd is usually “dumb” in making a colletive decision, it is also the reason why a wise “figure-head” can sway the crowd towards success or growth. The best example is ETHEREUM itself, where Vitalik Buterin “inspires” the ETH holders and more investors to get into ETH while there is no current “practical” and easy use of ETH nowadays.
I believe that there is a big chance of DAO slumping for a while until the numbers are trimmed to the bare thinkers, which are wise enough to separate the “waste of time” to the potential success ventures. Again much like ETH…where it touched a very low point then later on rose to where it is today.
We can compare DAO to real life cooperative companies. Many cooperatives were founded with good funding and still they failed while some which are not that well funded, fared well and until today are standing successfully with exponential growths. DAO while being composed of “smart contracts” will still depend on the people involved with them.
We are all taking part in history today. Whether as actors or spectators, it is nice that we can express our expectations today and see what come of it in the near future. Personally, I would take part in the effort of improving the people who would wield this mighty tool we call DAO.
I would say the difference between The DAO and everything that has gone before is that The DAO doesn’t have a defined objective other than to fund other projects. Ethereum, BitShares, Mastercoin, and even Slock.it all have relatively defined purpose and the people buying into those projects are making individual investment decisions.
The DAO is the first DAO that expects people to give up their individual control in favor of community control. In the spirit of protecting individual control The DAO allows splitting. This splitting and/or selling out of The DAO will be the preferred method.
After all, given 3 projects that get funded by The DAO, chances are you only care about/believe in 1 of them. But by participating inThe DAO you get exposed to all three. By not participating in The DAO you can focus your investment dollars on the projects you most believe in.
Looks like a blogger on Financial Times has picked up on Dan’s blog post,
“To the contrary, because most of the tech-anarcho crew seemingly think history is bunk, we’ll just direct you to this. A telling account of the lessons learnt (all of the above basically) from a recent incarnation of a DAO-style project called Bitshares.”
here is some more analysis,
We won’t go on about how the world has had 100 years (or more) of feedback with respect to what happens when you remove the professional executive/management function from corporate identity, or transfer all day-to-day decision making to amateur committees. Any cursory review of modern history (or a quick read of Animal Farm) will flag up the problems: indecision paralysis; wasted time and resources on voting and bureaucracy; entirely non-diplomatic means of grabbing power just to get things done; uninformed decision making; exploitation of the ignorant; tragedies of the commons scenarios and last but not least: a lack of skin-in-the-game accountability for poor decision making leading to post-facto due diligence processes with dire consequences for capital, human resources and environments.
We won’t even mention that $110m raised in illiquid tokens based on mark-t0-market valuations is akin to a paper profit only, and might create a helluva Ether currency collapse if it’s actually spent on resources in the real-world…
To the contrary, because most of the tech-anarcho crew seemingly think history is bunk, we’ll just direct you to this. A telling account of the lessons learnt (all of the above basically) from a recent incarnation of a DAO-style project called Bitshares.
it’s a good read.
http://ftalphaville.ft.com/2016/05/17/2162084/more-decentralised-autonomous-organisation-dao-mysticism/
deleted
Too bad they require you to log in to read it.
Search the article title on google then follow the link. This work with WSJ articles too.
More decentralised autonomous organisation (DAO) mysticism
Group trap of the century.
“My opinion is that The DAO will be DAO (Dead on Arrival).”
On the conclusion paragraph you write 2 times DAO, edit the second to DOA
Even I didn’t spot that.
Up-vote my response to $500 and then maybe the OP will see it and make the needed update ;)
I fixed it. Good catch!
great new post about the DAO. I came to similar conclusions and approached the ethereum community. Though I failed to get the story across.
Some comments from reddit …
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Slock.it is an interesting venture that is for certain. Is it worth $100 million dollars?
Slock.it won’t be getting anywhere near the full DAO funds for their fundraising.
Maybe, maybe not. The small slice of non-equity incentives being offered to the DAO is another question as well.
You had me until “Ultimately, technology can only aid in communication, it cannot fix the fundamental incompatibilities between individual self interest and community decision making.” The bitcoin proof-of-work protocol did exactly this. It found a way to harness individual self interest to achieve consensus.
In this context I was referring to decisions about subjective things such as what to fund, not consensus about things which can be made objective.
I posted this in The DAO forums, and on reddit, referencing this original post - so that we might get a broader response gathered around this interesting analysis.
https://forum.daohub.org/t/a-thoroughly-articulated-yet-potentially-misinformed-analysis-of-the-dao-which-may-be-worth-discussing/2339
good title lol. I get the feeling, only misinformed criticisms will be listened to.
This is not going over very well on /r/ethereum or /r/ethtrader.
Sometimes I wonder if I’ll be that guy that yells, “What the fuck took you so long?!”, when Jesus comes back … right before the lightning bolt downvotes me to Hell. =b
They had their chance.
One major reason that people don’t vote is the lack of incentive!!!
Why an average person has to spend time and effort on voting but seeing no reward? Don’t tell me the long-term benefit of voting. Average people don’t give a shxt. This is somehow a design failure of voting-based DAO. (Just like the idealistic communism, which is also a failure in mankind history.) In sharp contrast, mining gives strong incentive to average people to work on it (even for people have no technological background). You need some kind of incentive to average people to vote. Not just give to the ‘delegates’ or 'witnesses’. One possible solution is to give reward to those who vote. I don’t know what it is. But incentive is a must!
I agree completely, but the incentive to vote must be tied to providing new information to the system. Otherwise, everyone will vote for the money rather than vote for the result.
With Steem we set out to reward voting, especially voting by large stakeholders. But the voting rewards are tied to how much new information is provided (relative increase in total votes) as well as to the final outcome (total paid on a post).
A DAO attempting to fund projects needs to tie voting rewards to the outcome achieved. Those who vote for something should have more exposure than those who are neutral. Those who vote against something (assuming negative voting is supported) should be hedged against the failure by those who vote for it. A prediction market is superior to voting assuming there exists an objective means of settling the outcome.
Can we adopt this incentive voting (or variant) back to bitshares? I am not the developer, but there should be something to do to save Bitshares.
I suppose one metric of deciding this is the following: positive votes must be leveraged (short USD) and negative votes must be hedged (long USD). Votes can be weighted by their dollar value. Votes must also be “locked in” for a minimum period of time.
The only problem with such an approach is that it is impossible to prove someone is really "short".
How about “The DAO 2.0” with prediction markets to decide on proposals. Also, why settle for DAO two? ;)
What a fascinating idea!
Aren’t Bitshares, Eutheruem, Steem all DAOs? or Is DAO a separate entity?
BitShares and Steem are, but Ethereum is not a DAO.
That’s one of my concerns, because Ethereum will host a lot of DAOs but the underlying platform it is not!
Ethereum is a DAO without any built in governance model. It will ultimately face a similar fate as Bitcoin and it will become impossible to make changes to the core protocol. For now it has some strong dev leadership, it will be interesting to see how it evolves.
Now, I wonder if all crypto-currencies are DAO. Anyone can mine one if they have proper equipments and softwares required, isn’t it? I mined litecoin for a while and gave up since it was making my computer act weirdly and I also felt like mining these days aren’t that profitable.
This thread on Reddit, which is apparently the official home forum of Ethereum now (reddit makes a poor ongoing discussion forum, what are they thinking?) got a good number of upvotes.
https://www.reddit.com/r/ethereum/comments/4ifd29/the_dao_buys_slockit/
The general gist of it is, “Hey let’s just buy up a bunch of companies, including a defunct Bitcoin miner manufacturer that wasn’t able to keep up.” If the Ethereum community is willing to send upvotes to a post like that, I seriously wonder what DAO voters will decide.
The DAO can’t buy anything. Its just a bank account. It can pay contractors at a monthly rate under a profit share agreement. It doesn’t run businesses but it could assimilate the manpower and finances create practical incentive. With a network of 4000+ crypto-geeks who are invested, the likelihood of the network effect alone creating a profitable situation is phenomenal.
Discussion is a good thing.
Perhaps the conclusion comes out after one year .
Also true that it takes in its own way to the era to understand.
The truth is that the governance and politics of Bitshares 2.0 got completely out of hand, but nevertheless a good experiment. Starting with the high / low fees debate, which was a rather distracting affair.
Nevertheless, I would not consider governance and voting a failure, it was a very successful implementation. The beauty of being able to chose your proxy (ie xeroc) as you agree with most of his thoughts. But also being able to vote yourself, if not agreeing with a particular decision, it is something which should be implemented for all types of voting, or democracy.
Sadly this is not going to compensate for the fact that “dumb” can vote, which may or may not be interested on the future of the project , or even a country, but their own narrow minded interests. There is not an easy solution for that.
The capability to invest directly onto the developers i.e. “brownies, ags, pts” interested me more, as they are the ones who have the best ideas, doing the work, and have to pay their bills ;).
I hope the DAO will be that, a way to invest directly onto some projects / developers, not a full governance model for all the decisions to be made.
Using ETH as the currency as it has been said is not right, as we all know this will put pressure on ETH. A stable currency could have been used like the DAI to hold the value instead, which would not have added pressure to the price in the future and maintain its purchase value.
Dumb votes with the crowd
In addition, “language barrier” would be one of the most important problem.
I was having second thoughts about not participating on The DAO crowdfunding. You just removed them for good. Thank you.
Want to withdraw my up-vote but it’s not possible I see… Accidentally pushed it.
I’m not against it because I haven’t read about it enough…