A Decentralized Governance System for the Future
0x389E
June 16th, 2022

By Dartmouth Blockchain

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{Overview of Decentralized Governance}

Decentralized governance is one of the most challenging aspects of decentralized organizations. In DAOs, decentralized governance has primarily taken the form of users voting on proposals through their token holdings. Those who hold more tokens hold more voting power. The premise is that decision making allows for more equality and transparency in the process of making changes to the protocol. In theory, if everyone has a say, no one will be able to take over the decision making process, and all will feel that they have ownership in the protocol that they are token holders of. Because of this, they directly benefit from the protocol’s success, and thus their vote matters. Decentralized governance still requires deep thinking and iteration to solve the problems it was made to fix. In this paper, we will lay out several issues in the current decentralized governance process along with a potential solution to these issues.

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{The Issue of Incentive Alignment}

One of the primary issues with decentralized governance is the lack of incentive alignment. This is where token holders are monetarily incentivized to do well by the protocol for which they hold tokens. The idea behind decentralized governance is that users who hold a certain governance token would be incentivized to create and vote on proposals put up by the protocol’s community that would affect change to all aspects of the protocol. However, the reality is that most individuals do not own enough governance tokens to feel that their vote matters. Often, as we have seen from first-hand experience, the core team of the protocol just end up messaging large token holders or endorsed delegates, asking them to vote. This shows that decentralized governance is not worthwhile for most voters as they are not actively participating, but rather passively voting.

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{Is Decentralized Governance a Real Value Add?}

Venture capital firms and large holders have begun delegating voting power as an attempt to promote active decentralization, but is this idea of decentralization just supposed to be a keyword for branding? Is governance truly decentralized if only a few parties are involved in the proposal process? Furthermore, is governance a real value add if the parties involved are not actively contributing and proposing change to better the protocol? The true issue here is figuring out how to incentivise small token holders, large token holders, and delegates to actively contribute.

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{The Issue of Credibility in Decentralized Governance}

A second issue in decentralized governance is determining credibility. All forms of finance have grappled with the concept of credibility. In traditional finance, all companies and individuals are identified, and, therefore, their education, background, and skills are projected by means of LinkedIn and other personal identity-backed platforms. Traditional finance is also often associated with face to face interaction, which often helps build trust, understanding, and credibility.

The emerging Web3 and decentralized finance economy does not yet have a universal platform that demonstrates genuine credibility. While decentralization has a multitude of benefits, it creates a challenge in allowing easy access to one's credibility and reputation. These decentralized enterprises have the ability to hire and onboard team members from around the world, as no central location is necessary to operate. However, community members are oftentimes connected through platforms where they can remain anonymous while simultaneously contributing to discussions, forums, and votes under anonymous aliases. Moreover, the general crypto community has adopted and embodied this idea of contributors having the optionality of remaining anonymous.

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{How Can Anon Be Deemed Credible?}

This dynamic has presented a glaring problem for many protocols that have incorporated decentralized governance. While the majority of those looking to participate in these decentralized protocols have genuine intentions, there is often no way of confirming this based on past reputation. This often leads to blind trust in the Web3 space where protocols do not know who they are talking to and/or trusting. In the context of DAOs, this presents a significant problem, as those who are actively participating are oftentimes unable to ensure that new community members have the expertise or background that they may claim.

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{The Issue of Plutocracy in Decentralized Governance}

A third issue in the current state of decentralized governance is the plutocracy that it fosters. A plutocracy is where wealthy individuals, with the majority of governance tokens, dominate the decision making process. Oftentimes, Web3 protocols are primarily controlled by these large stake holders known as whales. Furthering this problem, many small stakeholders who work in Web3 often have to sell tokens they receive in order to pay for lifestyle expenses.Therefore, these smaller holders are rarely able to exert the governance power that others who are able to hold those tokens are able to.

The plutocratic tendency of Web3 governance works against the mantra to decentralize as voting largely ends up in the hands of a small group of individuals. While monetary stake in a DAO is an important aspect in indicating an individual's likelihood to participate in governance, it often does not encapsulate other factors that indicate a meaningful contributor.

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{A Solution to Assist with the Issues of Incentive Alignment, Credibility, and Plutocracy in Decentralized Governance}

Decentralized governance is an essential aspect of the decentralized Web3 economy, so it is imperative that it functions as intended. The most immediate way to incentivize governance participation is monetarily. Paying active participants is an almost guaranteed way to increase the time and resources allocated to decentralized governance. However, there is a chicken and egg problem with paying for governance work. Protocols do not want to pay people for governance work if they are not sure of the quality or sophistication, and Web3 participants do not want to participate in governance because there is no payment. Should protocols incentivise active governance participants? Is direct payment the only way to incentivise participation?

We propose that protocols publish a set criteria that corresponds with a novel token reward: GE (Governance Emission) Tokens. GE Tokens are similar to VE (Vote Escrowed) tokens but are rewarded for governance participation instead of staking. The criteria to receive GE tokens will include proposals written, proposals voted on, forms of research, etc. The criteria required to receive GE tokens for each protocol will be public, so other protocols can quickly vet users by looking at the GE tokens in their wallets and then the corresponding criteria to receive those GE tokens.

The final aspect here is that after one month GE tokens would be burned and converted into fGE tokens (Former GE tokens). This will allow for users to maintain their credibility but no longer receive rewards for the work they put in prior to one month ago. Protocols would not want participants to continue receiving airdrops for work they did years ago, and participants would want to maintain their credibility, hence why GE tokens will be burned and converted into fGE.

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{How Do GE Tokens Solve the Issue of Incentive Alignment?}

GE tokens would be rewarded through governance participation therefore incentivising active participation. GE token holders will receive rewards and perks within the protocol; more GE tokens will lead to greater rewards. Each protocol will have the ability to designate certain reward tiers depending on the number of GE tokens a given entity holds. These rewards can include fiat payment, token airdrops, unique discord channels, etc. Voting power weights will still be based on current standard governance token holdings.

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{How Do fGE Tokens Solve the Issue of Credibility?}

This updated governance system fosters credibility throughout the decentralized space through creating a display of universally recognizable, quantified participation. In order to preserve the idea of credibility, it is imperative that GE/fGE tokens are non-liquid. Liquid GE/fGE tokens would result in protocols not knowing who is an active governance participant versus who bought a large sum of GE/fGE tokens without actually contributing to protocol governance. By keeping GE/fGE tokens non-liquid, protocols can know who is actively participating as well as who has participated in the past. GE tokens would not need to be liquid because the rewards/airdrops given can replace a need to take profits by selling.

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{How Do GE Tokens Solve the Issue of Plutocracy?}

This new governance structure gives DAOs the ability to tackle the plutocracy issue within decentralized governance because GE tokens are rewarded strictly based on participation and thoughtful contribution within a DAO. They are rewarded the same regardless of the number of governance tokens that a participant holds. If seen fit, protocols can choose to solve this plutocracy issue by including governance token airdrops in the GE token reward structure, thus allowing those participants who currently do not own as many governance tokens to accumulate more. Eventually, this will sway voting power to those who are actively working on improving the protocol.

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{The Impact of GE rewards on Tokenomics}

As previously mentioned, each protocol will have the ability to include governance token rewards in the GE token reward tier. It is important to note that implementing governance token rewards within the GE token infrastructure will impact the tokenomics of a given protocol. While implementing these rewards it is crucial that a protocol factors this supply into the token allocation. This governance team allocation would be equivalent to payroll in a traditional company. For example, if a protocol mints 1,000,000 new tokens annually, a certain percentage would be allocated to GE token holders. This would create an open market surrounding governance participation. If a protocol chooses to incorporate governance token rewards within the GE structure, it is important to allocate in order to avoid hyperinflation.

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{Conclusion}

If DAOs want to truly decentralize, they must improve the current governance structure. The combination of a novel system of decentralized governance with GE and fGE tokens can solve the current issues plaguing DAO governance: incentive alignment, credibility, and plutocracy. The need for a reputation-based and incentive-aligned system within DAOs and eventually the entire blockchain space is imperative in allowing for widespread adoption. Continuous rug pulls, scams, and hacks plague the crypto community, crippling its ability to tap into the traditional finance market share. Currently, DeFi is simply too unstable for the majority of those participating in traditional finance. While we have seen immense growth surrounding the legitimacy and capital invested, many still view DeFi as “the Wild West.” In order to achieve widespread adoption, DeFi as a whole must evolve to ensure security and stability for its new users. A reputation based system has the ability to greatly contribute in this effort to instill reliability in DeFi. Reputation and incentive alignment through GE and fGE tokens will build trust and further participation, which will eventually lead to further investment and growth for the decentralized economy overall.

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{charles.b.ambrose.25@dartmouth.edu}

{amayr.m.babar.24@dartmouth.edu}

{jack.s.brustkern.25@dartmouth.edu}

{max.a.sclar.25@dartmouth.edu}

{dartmouthblockchain@protonmail.com}

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