The case for ICOs

99% of current ICOs will fail as investments. ICOs are adding additional problems to the already problematic equity Crowdfunding idea. In theory they could represent shares of companies — but then they would be regulated as securities and nobody seems to want that. In their current version they are not binding in any way — their owners have no legal claim other than to the token itself — and the founders who receive the funds have very weak incentives to follow their published plans. But there is one case where ICOs might be a good idea — funding development of open protocols and related Free Software. Not because they are a very good way to align the commercial incentives — but because there is no other way. Open protocols are not owned by anyone, there is no good way to capture the value they create — so they don’t get developed unless academics or volunteers do it.

Open protocols are an important thing. TCP/IP, SMTP, HTTP — all developed non-commercially — they are the basis of the Internet. It is now becoming evident why the big web monopolies are not a good thing. Open protocols are the only way to make the network effects work for everyone not only for the one dominant company.

ICOs could be a way to create incentives for open protocols development. But look at the Tezos troubles. When people suddenly receive hundreds of millions of dollars they are more likely to fight over it than to work hard to fulfill their plan. Or if they are more agreeable people — then they would maybe make some half-hearted attempt while paying themselves extravagant salaries or using the money for lavish offices, parties etc. This are the same problems that I described in the crowdfunding note — but worse — because the founders have no legal obligations and the investors have no governance rights at all. But with ICOs we are not restricted to the old simplistic funding models — with smart contracts we can code ICOs to gradually release tokens over a long time so that the founders have just enough funds to pay for the development. The issuance could be linked to fulfilling some mile stones or it all could be organized as a DAO with token holders voting on every important decision.

I am only afraid that the current ICOs will fail in so spectacular ways that the backlash will delay these innovations for a long long time.

Update 1: I don’t necessarily share the enthusiasm of The Token Handbook but it correctly identifies the immense design space. Most of the possible coin designs will be idiotic — but in such a huge space there will be a long tail of good solutions.

Update 2: Getting the economy of (fungible transferable — borrowing the terminology from the essay above) tokens will be very hard: On Medium-of-Exchange Token Valuations (by Vitalik Buterin). Maybe impossible.