Blockchain Blog 14: Decentralized Autonomous Organizations (DAO)
A decentralized autonomous organization (DAO) is a decentralized organization management system based on the use of smart contracts. These organizations are not controlled by a singular entity such as a government or a central bank. Essentially this organization would operate and manage a blockchain protocol by voting on rules and updates to the program. These blockchain protocols can exist in the form of exchanges such as Uniswap, liquidity pools, and even lending protocols such as AAVE and Maker.
DAOs enable large communities to partake in the decision-making process and overall governance of the organization. Decisions are voted on by its members. A vote could be called to decide how to allocate funding and resources. In order for a decision to go forward, a minimum percentage of the voters need to be in consensus or in agreement. Once the votes are counted and verified, the rules/updates are encoded into the blockchain itself through the use of smart contracts.
How do they work?
Smart contracts remove the necessity for intermediaries to become involved in the implementation of updates/rules/decisions. Rules and scheduled updates are introduced automatically when the specified conditions are met. This could be a scheduled date or after a specific block height is reached. All decisions, votes, and implementations are recorded into the blockchain which is visible for all to see. These records cannot be tampered with through the use of decentralized blockchain tech, where the block history is recorded onto nodes that operate around the world.
There are 3 key parts to a DAO:
Smart contracts: The coding behind the DAO must be created and audited first. This includes all the preliminary rulesets before the official launch. Once the DAO is live, rules can only be altered by governance proposals (voting).
Capital: Once the smart contracts have been put into place, the DAO must be funded and filled with members. Typically governance tokens (shares) are sold to raise funding. These tokens then give buyers voting capability in the organization.
Deployment: After the smart contracts and funding have been established, the DAO can then be deployed onto the blockchain. At this point the DAO is live and control of the DAO is no longer solely in the hands of the developers. Token holders now are in charge of proposals and decisions through voting
DAOs will offer governance tokens to attract investors and capital to it’s protocol/organization. These governance tokens represent membership and voting rights within the DAO. Having more governance tokens will give a user more of a stake in the DAO and more voting power, similar to shareholders in a publicly-traded company.
Possible examples of DAO usage
Some possible situations where utilizing a DAO management system would be ideal include: Groups of freelance workers that consolidate funds to pay for software subscriptions and other digital necessities. Charity groups could have members/donors approve funding allocation in a transparent setting. Financial firms could use DAO capabilities to allow members to vote on investments and other financial decisions.
Benefits of DAOs
Trust: In a traditional organization there is a great deal of trust between investors and those managing the group’s decisions/funding. ○ DAOs remove the necessity for this trust between the two parties as the coding ensures that decisions are accurately implemented. ○ Only the coding needs to be trusted to operate as advertised.
Efficiency: DAOs can help speed up network decision-making, eliminating the need for third parties to become involved in the decision-making process. Once a decision has been reached, smart contract coding ensures that the desired actions are taken without the need for further deliberation.
Consistency: The automation and streamlining of the decision making progress ensures that DAOs are consistent in their implementation of decisions and updates. ○ Human error and inconsistency are taken out of the equation in favor of equitable decision making and implementation.
Transparency: All financial decisions made by the organization are visible to all members through the use of decentralized blockchain tech. The underlying code and smart contracts behind the voting mechanisms are also available for audits. A DAO’s treasuries can be audited as well since the blockchain records all transactions.
The Principal-Agent Problem
DAOs are able to solve an issue called the principal-agent problem, where a person/group (agent) can make decisions and take action for another person/group (principal). If the agent takes action for its own benefit, it may be detrimental to the principal. This matter can be exacerbated if there is an information disconnect between the agent and principal, where the principal may not know it is being taken advantage of and is unable to verify the agent’s actions accurately.
○ elected officials representing everyday citizens
○ brokers representing investors
○ corporate executives representing shareholders.
DAOs can eliminate aspects of this dilemma, where the transparency afforded by blockchain technology enables users to fully identify all actions taken by the DAO.
Read Next Part: Blockchain Blog 15: Blockchain Consensus Protocols
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