Dominant Assurance Contracts as a way to finance public goods, particularly in the context of Web3, have been discussed but as of yet they have not been tried. Quadratic Funding is a powerful tool to fund public goods but has a critical shortcoming. I propose a two-phased strategy for raising funds for public goods that require a set amount for their successful realization by merging these two methods. It is believed that such a combination will address several pressing challenges associated with the decentralized funding of public goods.
The core principle underpinning the decentralized funding of public goods is to utilize blockchain technology to incentivize potential free riders to participate. While, governments can mandate such participation, by converting free riders into ‘forced riders.’ This is not an option available to decentralized platforms. Decentralized platforms must incentivize contributions through rewards rather than punitive measures; carrots instead of sticks.
While this approach certainly presents challenges, its potential realization promises a better world for all. Who wouldn't champion a society rich with public goods while maintaining an ethos of voluntary contribution? A society where public goods are born from a process that is not only voluntary and democratic but also fosters an environment conducive to innovation? Such a vision promises a brighter, more equitable future for everyone.
Quadratic Funding (QF) is the critical building block of decentralized public goods funding. However, it isn't without its limitations. QF came from the principles of Quadratic Voting (QV), which advocate for a plurality of choice. The inherent issue lies within the contrast between voting and funding. While a variety of choices in voting is intrinsically valuable, when it comes to funding it doesn't ensure that any of the funded initiatives will successfully materialize the intended public good. This is a partially large drawback for public goods that require a certain scale to be delivered effectively.
Seen from this perspective, QF serves as an excellent tool for determining which public good to support but falls short in guaranteeing its actual provision. This distinction underscores the need for a more in-depth and layered approach to the funding and realization of public goods. The core takeaway is that given there is no guarantee a public good will be fully funded the 'free rider', or an individual who benefits from resources without contributing to them, may remain unconvinced to donate.
A potential free rider might think the following. It is great that if I donate a dollar to get it matched with 10 dollars thus seeing 11$ go to the public good, but that matters little if I truly don’t see the public good actually being provided at the necessary scale to matter. If the public good requires amount X, then any belief that it will fall short deters funding even with QF-style matched funding.
This situation can be more precisely depicted through a model where the 'free rider' is faced with making a decision amidst uncertainty. In the given example, the free rider forfeits a dollar and stands to lose that dollar if the public good fails to reach the necessary scale. The free rider has to factor in the probability of success. Thus, we have to do something to increase that probability. At heart, the idea to follow is fundamentally premised on increasing the perceived belief the public good will reach scale.
When dealing with a good that necessitates a specified level of funding for its provision, we encounter collective action problems. This scenario is quite akin to crowdfunding initiatives on platforms like Kickstarter. Platforms such as these have long realized people are disinclined to donate if there's a risk that the project may not amass the necessary funds. This collective apprehension can create a situation where no one contributes, leading to the potential failure of a project that could have been highly valuable and profitable if adequately funded. One solution to this problem that has been utilized is the use of Assurance Contracts.
Assurance Contracts were developed as an innovative means to fund public goods without resorting to taxation. The concept is straightforward. Under the conventional government-provided system, individuals are compelled to pay taxes, which are then used to finance public goods. The free rider problem is solved by forcing everyone to pay.
With assurance contracts, all participants are required to contribute a predetermined sum to amass the necessary funding for the public good. If the specified goal is not achieved, each participant receives a full refund. Note two important features:
Unlike the government, you get your money back if the public good isn’t provided.
If forces everyone who wants the public good to pay the fee, or else it isn’t provided (voluntarily solving the free rider problem)
In theory, this mechanism could stumble due to a single factor: the perceived value of the public good may not be high enough among a sufficiently large group of individuals. Those who are expected to donate the predetermined amount might simply realize the public good isn’t worth that amount. As a result, they make a deliberate choice to refrain from contributing. Note that the original version of Assurance Contracts stipulated that all participants contribute a predetermined amount to ensure the delivery of a public good. For the most part, we are deviating from this original conception as we won’t require a set amount nor for everyone to fund the public good for it to be provided.
In practical terms, however, there exists another significant factor that could hinder the realization of public goods, even with an assurance contract in place. Individuals might assess others' contributions before determining their own involvement. If they notice a lack of contribution from others, they may question their own commitment. This is a classic instance of a collective action problem that can obstruct the successful implementation of assurance contracts. The resolution to this issue involves discouraging potential contributors from adopting a wait-and-see approach toward others' participation. We need a carrot to incentivize acting first.
The concept, outlined by economist Alex Tabarrok and others, proposes a simple yet untried amendment. The adjustment is straightforward: depending on how early you contribute, you'll receive your initial investment back plus a bonus. An assurance contract with a rate of return that depends on how early you fund.
The refund bonus tackles the major issue around coordination failures hindering the public good provision. Simply it is now in your best interest to contribute early instead of waiting to see if everyone else contributes. Everyone thinking the same resolves this problem. In game theory terms the dominant strategy is to contribute first instead of waiting to see if every else contributes; thus adding the dominant element to the assurance contract.
For more info see this discussion years ago of DACs in the context of Ethereum. Also, see the original paper outlining the idea.
The concept is relatively simple. Utilize Quadratic Funding (QF) to accumulate money for the refund bonus that will be applied to the Dominant Assurance Contract (DAC). The DAC is effectively bootstrapped with the funds raised through QF. This process achieves two objectives:
It facilitates the selection of which public good to support
It provides a refund bonus that greatly enhances the chances of the public good achieving the necessary scale
To better understand this concept, let's explore a few examples:
As I am currently engrossed in the TV series Narcos, a particular instance comes to mind. The show portrays the struggle between the infamous drug lord Pablo Escobar and the Colombian government over control of the drug trade. Escobar uses his immense wealth, accumulated from narcotics sales, to intimidate the police and citizens into surrendering their fight against his cartel, effectively allowing drug trafficking to go unchallenged.
The public good in this scenario is quite typical - a peaceful society or, more broadly, the “Rule of Law”. Crucially, this public good requires a specific amount of resources to be realized. It's clear that opposing Escobar is pointless if you lack the resources to overpower his forces. The lesser of two evils would be to surrender rather than to fight and lose. In other words, if you're going to fight, you must ensure victory.
Envision a scenario where Quadratic Funding is utilized to raise funds for the battle against the cartel. The issue of collective action would promptly surface. Even if I'm deeply committed to the public good, my contribution would be contingent on the belief that others will contribute and that the required sum to vanquish Escobar could be amassed. To reemphasize the previous point, if the cost to defeat him is $100 billion, the appeal of matched funding diminishes if I have doubts about the feasibility of the public good being realized.
Now, let's assume that these funds were assembled for deployment within a Dominant Assurance Contract. In such a scenario, potential contributors would be inspired to participate, driven by the assurance that their contribution substantially elevates the likelihood of the public good being delivered. The doubt that their contribution to the Quadratic Funding might be wasted would be significantly mitigated.
As highlighted in this review of dominant assurance contracts, Michelangelo's Sistine Chapel is one of the most successful crowdfunded art projects ever. Art, in general, is ideally suited for this type of mechanism. Initially, everyone would need to contribute to the Quadratic Funding round to support the art they appreciate. Once the refund bonus accumulates, it would ensure that the project achieves the necessary scale. Public art projects like the Sistine Chapel clearly stand out as prime examples, as an unfinished chapel would hold no value to anyone.
One could argue that this isn't a good example because the Sistine Chapel did receive funding. However, the point is that such instances are rare, and there are countless wonderful public art projects that have remained unfunded due to the absence of a mechanism like the one discussed here.
These may seem like highly stylized examples, and indeed they are in many respects. Yet, they stem from real-life situations. For instance, raising sufficient funds to confront Escobar was an actual challenge. This situation was essentially a basic failure of public goods provision, which could have been mitigated by a mechanism like this. If citizens had the means to voluntarily raise money for such a cause, the problem might have been resolved more efficiently.
It's worth taking a moment to discuss the concept of equity in the context of a public good once it's produced. Initially, it's important to clarify that equity in a pure public good is unattainable. If a good is non-excludable, you can't charge for its use. However, this concept can have symbolic or tangible significance in cases involving goods with characteristics of public goods. For instance, my team and I are currently looking to crowdfund an innovation hub for Web3 using this method. While the innovation stemming from this hub represents a public good, other aspects like the physical building are not. The building can exclude individuals, even if the innovation itself cannot.
Ideally, tokens can be issued to represent ownership of the project. These tokens could also align with the Dominant Assurance Contract. The earlier you contribute, the greater the ownership you acquire. However, this can't be the only incentive, as it wouldn't resolve the initial challenge of encouraging donations. If there's doubt about achieving the necessary scale, then the value of equity tokens becomes questionable.
In summary, the proposed approach involves an initial round of traditional Quadratic Funding (QF) to select which public goods to support and to establish the necessary refund bonus. The ensuing phase employs dominant assurance contracts to guarantee that sufficient funds are accumulated to deliver the public good. This method not only boosts the chances of potential free riders contributing to the project, but it also encourages others to donate more generously, underpinned by heightened confidence in the assurance that the public good will be adequately funded.
While we can't predict with certainty how this will unfold, there's a strong inclination to believe that this approach could be instrumental in driving the public goods revolution in Web3.
The key takeaway is that when public goods require a specific amount for actualization, the use of dominant assurance contracts significantly increases the likelihood of success. It's worth noting that this perception may stimulate greater fundraising during the QF round, potentially eliminating the need for a dominant assurance contract round — an outcome that would be considered ideal.
Final Note
A small team including myself, see the t0wn project, is currently developing a functioning DAC. Big thanks to the lead dev on this - Armand Daigle. Please contact me, by email at scottauriat@gmail.com or ScottA#7909 on Discord, with any inquiries or questions.