The Importance of Decentralised Public Blockchains for DAO Formation

The technologies of smart contracts, tokens, and blockchains are enabling digitally native organisations (including DAOs) to form and flourish on-chain. Founders face a myriad of choices when considering where and how to deploy their organisations. Paramount to this decision is the question of security. Not all blockchains are created equal. In this article I will outline the value proposition of decentralised public blockchains for DAO formation and equip the reader with the basic knowledge needed to assess blockchains, see past the hype and make informed business decisions.

Blockchain Primer

A blockchain is a distributed database that is shared among the nodes of a computer network. At time of writing, the two largest blockchains Bitcoin and Ethereum have around 15,500 and 7,600 nodes respectively. All transactions on a blockchain are batched into blocks and upended to the chain. Nodes run software which verifies block and transaction data. If the network is running correctly, all nodes should hold the same data on transactions as each node must agree upon each new block and the chain as a whole. Nodes ensure everyone interacting with the blockchain has the same data.

Adding new blocks to the chain requires a consensus mechanism. Consensus mechanisms are combinations of protocols and incentives designed to facilitate agreement between nodes on the state of the blockchain. Bitcoin uses a proof of work consensus mechanism known as mining. Ethereum uses proof of stake.

The primary considerations when evaluating consensus mechanisms are;

Block creation — How are new blocks of transactions created.

Network security — How vulnerable is the blockchain to a nefarious actor altering transactions or changing transaction history for their own benefit.

Sybil resistance — How well can a blockchain defend against a sybil attack where one actor pretends to be many users.

Chain selection — In scenarios where multiple blocks exist in the same position, how do nodes decide which block is correct.

Bitcoin is a payment network allowing you to use digital money without payment providers. Ethereum is a smart contract protocol which is programmable. This means you can deploy more complex applications on the network. As the operations of businesses require more complex interactions than just sending and receiving money, blockchains capable of deploying smart contracts are the only viable choice for DAO founders.

The Value Proposition of Blockchains

The key value proposition of blockchains can be summarised as:

Blockchains enable coordination at scale without the need for trusted intermediaries.

To understand this proposition, there are two concepts worth exploring: Social Scalability and Social Hardness.

Social Scalability

Social Scalability is a term coined by Nick Szabo in his essay Money, Blockchains and Social Scalability and refers to the ability of an institution to overcome shortcomings that limit who or how many can successfully participate. Szabo argues that without institutional or technological innovation, participation in shared human endeavours would be extremely limited.

‘Innovations in social scalability involve institutional and technological improvements that move function from mind to paper or mind to machine, lowering cognitive costs while increasing the value of information flowing between minds, reducing vulnerability, and/or searching for and discovering new and mutually beneficial participants.’ — Nick Szabo

The main social scalability benefit of the internet has been to dramatically increase the volume and frequency of mutually beneficial exchanges. Companies like Uber, AirBnB and Amazon make it possible to find, match and facilitate deals at scale.

The predominant social scalability benefit of blockchains is trust minimization. Blockchains — and specifically smart contracts deployed on blockchains — can encode immutable rules which dictate certain actions. So rather than trusting a human run institution, we can trust code.

Social Hardness

Hardness in this context refers to an article written by Josh Stark: Atoms, Institutions, Blockchains. Stark argues that human civilization depends in large part on our ability to make the future more certain — i.e more hard. We need hardness in order to trust in our commitments to one and another. Money doesn’t work unless there is a degree of certainty it will still be valuable in the future. Trade is very risky if there isn’t confidence that parties will follow their commitments.

Atoms, Institutions and Blockchains are three different sources of hardness in our society.

‘Atom’ hardness is shorthand for objects in the physical world which we have used to cement our commitments to one another. An example would include physical money which we used as a basis for commerce or a literal brick wall we might use to enforce the idea of ownership of land.

Institutional hardness refers to groups of humans who work together and behave in predictable ways over long periods of time. Examples include legal systems, governments, central banks and corporations. All these institutions vary greatly in their operation but they share the same property of using organised human behaviour as a foundation which enables social, political and economic activity.

Blockchains create hardness around software, data and programs. Anyone with an internet connection can access and interact with a blockchain. Blockchains do not depend on an institution and they are transparent in a way that no institution is. Blockchains and the programs which run on them can be credibly neutral because their rules are transparent and immutable.

Institutional Hardness vs Blockchain Hardness

Institutions have become the dominant form of long-term coordination (hardness) in our society but they have several limitations.

• Most institutions are bounded in some way by state borders. This adds complexity and cost for endeavours that span borders.
• Most institutions depend on a central authority. This leaves them liable to moral hazard, regulatory capture, corruption and can act as a single point of failure.
• Institutions are often opaque. This makes it hard to assess an institution accurately or predict exactly how it will operate.
• Institutions are made of people and people are fallible.
• Institutions are expensive and take a long time to create.

Compare this to blockchains:

• Blockchains are inherently digital and span borders by default.
• Blockchains do not require institutions or any central authority to function.
• Blockchains are transparent and easily verifiable.
• Blockchains are composed of immutable code.
• Anybody can learn and deploy software onto blockchains. This makes experimentation possible.

‘Blockchains, like institutions, are a source of hardness. We need hardness because it is what makes it possible for us to build complex global coordination tools like law, governance, and money.’ — Josh Stark

In order to achieve the social scalability and social hardness aspirations described above the blockchains we choose to build on must be secure.

Blockchain Security

Blockchain security refers to the continuous integrity of transactions ensured through cryptography, decentralisation and consensus. The topics of cryptography and consensus are deeply technical and beyond the scope of this article. The decentralisation of a blockchain is integral to its security and arguably the main reason for using blockchains in the first place.

Blockchains cease being useful when they become centralised and dependent on specific groups of people. A 51% attack is when a group controls more than 51% of the nodes on a blockchain and is therefore able to alter the blockchain. They could prevent certain transactions from occurring or reverse transactions that occur whilst they are in control. Attacks like this are prohibitively expensive on large established chains like Bitcoin and Ethereum. To succeed, the attacker would need to control more than 50% of the hashing power — which means they could introduce an altered blockchain. To control that much of Ethereum would require staking around 7 million ETH costing around $7.7 billion. In practice, buying that much ETH would no doubt influence the price making the attack more expensive.

A 51% attack is not the only way to compromise a blockchain. Newer blockchains tend to have fewer nodes or nodes which are controlled by only a few entities. This presents a risk of centralisation and actors who control the majority of nodes can censor transactions or alter transaction history. Blockchains which are censorable cannot provide the foundation for long-term coordination. Therefore the decentralisation of a chain is paramount.

There have been some attempts to quantify decentralisation. Most notably the Nakamoto Coefficient proposed by Balaji S.Srinivasan in his paper on Quantifying Decentralisation. There are also some simple questions which we can use to quickly gauge the level of decentralisation — and therefore its security and usefulness — of a blockchain.

Assessing Decentralisation

How long has the blockchain been running?

How many nodes does the blockchain have?

Are these nodes geographically dispersed?

How much developer activity is there on the chain?

Are there one or two key entities behind all development work?

Whilst there is no definitive measure of decentralisation, by asking ourselves these simple questions we can arrive at reasonable conclusions about the state of decentralisation on a given chain.

Layer 2’s

As well as considering the security of the base (layer 1) blockchain, users should also consider the security guarantees of layer 2’s.

Layer 2’s are a collective term for Ethereum scaling solutions. Layer 2’s are separate blockchains which interact with Ethereum. The main benefit of layer 2s is to enable increased transaction speed and throughput thereby scaling Ethereum usage. A layer 2 blockchain regularly communicates with Ethereum (by submitting bundles of transactions) in order to ensure it has similar security and decentralisation guarantees.

There are two main classes of layer 2: Sidechains and rollups.

Sidechains are a separate blockchain that runs independent of Ethereum and is connected to Ethereum Mainnet by a two-way bridge. They run parallel to Ethereum and interact with Ethereum via bridges. Sidechains do not derive their security or data availability from Ethereum. Examples of sidechains include Polygon, Skale and Gnosis chain.

Rollups are divided into Optimistic rollups or Zero-knowledge rollups and they bundle (or ’roll up’) hundreds of transactions into a single transaction on layer 1. This distributes the L1 transaction fees across everyone in the rollup, making it cheaper for each user. Rollup transactions get executed outside of layer 1 but the transaction data gets posted to layer 1. By posting transaction data onto layer 1, rollups inherit the security of Ethereum. Examples of rollups include Arbitrum, Optimism and Boba Network.

A Humble Opinion

It is the opinion of the author that only Ethereum is decentralised and secure enough to build long-lasting businesses on top of. No other smart contract protocol is as battle tested, as large or with such a rich developer community. Ethereum has also been through several market cycles and has completed arguably the biggest technical upgrade (the merge) in the history of blockchains without a hitch.

Of the options within the layer 2 ecosystem, rollups appear to be the best option as they inherit the security guarantees of Ethereum.

This is by no means a settled opinion and readers are encouraged to do their own research.

Conclusion

The key innovation of blockchain technology is its ability to cement and automate our agreements to each other in code. The integrity of the underlying chain is paramount if businesses, institutions and jurisdictions are going to use blockchains in replacement of centralised servers.

In this article I have outlined the concepts of Social Scalability and Hardness to give the reader a strong foundation and understanding of why we are even building on blockchains in the first place. From there, it becomes possible to see the vital importance of blockchain security and in particular the level of decentralisation of a given chain. Without that, the value proposition of blockchains falls apart.

I have then suggested some simple questions users can ask when evaluating blockchains before providing an opinion on which blockchain ecosystem appears to be the safest place to build on at this time.

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