DAOs and the Centralization Problem

Given that DAOs have the word “decentralized” in their name, it’d be assumed that any amount of centralization would make the concept null and void. Except, the fundamental idea behind DAOs and the democratizing promise of decentralization, has yet to be proven as being inherently superior to a traditional corporate structure. 

Which makes you wonder if we’re looking at things the wrong way when it comes to DAOs.

The Case For Centralization

Who’s in Control?

In an ideal world, having a flat landscape of leadership has a lot of promise. But in practice, several cracks begin to show. This is why centralization does have its advantages. For one, it allows for better control over an organization. A centralized organization can more easily implement policies and procedures that everyone must follow. This can help to keep everyone on the same page and moving in the same direction. 

In DAOs, the lack of one figurehead making all the decisions, in order to foster a democratic environment sounds promising. When it comes to shareholders and the collective investment of funds and collaborating on decision-making, DAOs are great. The fact that they can be composed of anyone in any location on the planet is even better. At Grindery, we believe in DAOs. We want to work with them, but we’ve noticed that in a lot of cases, the central idea of a flat hierarchy behind DAOs isn’t practical in the long term. There has to be someone who’s willing to take the lead and take accountability. 

Recently, we published a blog on whether or not DAOs were here to stay, and in it, we identified four hurdles that DAOs face; decentralized and disproportionate governance, timely transactions, deregulation, and vulnerability to bad actors. All of them hinge on one key detail - who’s in charge? 

Democracy and Voting

In its current format, a collaborative DAO is like a kindergarten class - you’ve got a group of people, brought together over collective interests, that can vote one way or another but also run around seeking their own interests. But there is no one designated to wrangle the votes, manage the results, and implement them. We’re also years away from being able to rely on any sort of impartial algorithm that can take data and export a quick response without emotion or bias. Smart contracts can’t do that yet. So, human intervention it is.

While there are voting mechanisms, someone still needs to actively collate, and implement the outcome of the vote. A smart contract can only automate so much. But then what happens when there’s an emergency? Given that no changes can be made without consensus, decision-making takes time. Time that a DAO may not have in the face of a security breach. Instead, snap decisions need to be made.

Think of a successful startup, there’s always someone who will wake up at 4 am with the idea to solve a problem. Who steps up to take the lead in a DAO when everyone is on an even level, and you hope someone else will lose sleep over a problem, and not you? Meanwhile,, if you give someone emergency powers in a crisis, you’ve given up a flat hierarchy. 

Tokenomics

Tokenomics also play a role here. While the goal is to offer access in a democratic way, investors and other members of the DAO can accumulate major shares of tokens, thus giving them more control and concentrating the voting power to those that can “pay to play.” Do they become the de facto leaders? What then happens to the concept of the idea meritocracy? What if they can’t make a quality decision either? Or what if they don’t have the DAO community’s best interests at heart? What if an elite few hijack the DAO? 

The truth is that while the typical DAO structure is promoted as flat and without a publicly published hierarchy, there has to be some authority. There has to be someone who’s marginally in charge, sitting slightly above everyone, crafting the proposals and steering the ship. 

As unfortunate as it is, the appeal to authority is very human, and leaders always emerge. 

Leaders and Core Contributors

Regardless of how you define it, or what titles you use within your organizations, in the midst of your decentralized ecosystem, a well-defined core group of contributors will reveal themselves. They won’t be elected, but it will be generally understood that the rest of the group follows their lead. They may control certain projects within the organization or DAO, and manage the development, while farming out smaller items to the community for debate. This leads to benefits when it comes to economies of scale, as there is less duplication of effort and resources when everything is centrally managed. 

Certain DAO-adjacents projects such as Yearn Finance and Sushi function in this way. They’d rather have a smooth development process for their protocols, rather than relying on politics - aka voting and democracy. 

When it comes to the ever-changing nature of Web3, projects need to be nimble. Thus, the idea of having central custodians isn’t the worst thing to happen to DAOs. For example, in the aftermath of the Ethereum DAO hack, it was a core group that decided on the fork and made it happen, with the help of the community of developers, miners and node operators. Even Ethereum needed someone to steer the ship. At the top of the list of core contributors to that decision was the founder himself; Vitalik Buterin. He’s no stranger to suggesting that decentralized organizations need some centralization. 

Honest Centralization 

Coined by Antoni Trenchev, the co-founder of crypto lender Nexo, “honest centralization” is his suggestion to address the decentralization problem. It’s ensuring that checks and balances exist to ensure that the custodians of power don’t abuse their privilege. 

It is a complex issue and his solution entails relying on something other than the blockchain for governance; human intervention. Yes, it’s fallible, but smart contracts aren’t the perfect decision-maker yet. Maybe someday they’ll be able to operate a system where custodians can’t subvert an established process. But, today that isn’t the case. 

Honest centralization requires new protocols to be put in place that hinge on accountability. There is someone who holds the responsibility of enforcing governance proposals, ensuring that if funds are lost, the DAO/protocol/organization has a legal responsibility to return those funds, through any means necessary.

For example, MakerDAOs Black Thursday in 2020, where customers lost millions in unfair liquidations, but the community made excuses. They were decentralized, so no one person was at fault. Or because the protocol was permissionless, it could have been anyone outside of the MakerDAO community, or that it was the market's fault. Here, decentralization, egos, and a bias towards the infallibility of their treasury, led to this event.

It’s not that DAOs need control; they need accountability and responsibility.  Vitalik Buterin suggests:

“DAOs need to handle unexpected uncertainty. A system that was intended to function in a stable and unchanging way around one set of assumptions, when faced with an extreme and unexpected change to those circumstances, does need some kind of brave leader to coordinate a response.”

As much as we want to believe that community participation is good governance, it has limits.

The truth is that there isn’t such a stark divide between the management of DAOs and traditional centralized organizations. Or there shouldn’t be. There can still be distributed governance, but it needs a focal point to keep things focused, someone with a modicum of power, not all of it. If it’s the creator, the largest contributor, or the person with the most tokens, it doesn’t matter. Someone needs to ensure that there is order, transparency, and accountability.. Honest centralization isn’t meant to be the death of democracy and decentralization in Web3.

It’s an ignition point.