Decentralization is one of the critical pillars of the crypto world, as it allows developers to build horizontally governed DeFi platforms and protocols entirely controlled by their user communities.
Instead of traditional, heavily centralized structures seen in TradFi companies, corporations, and startups, crypto enthusiasts are pioneering blockchain-based decentralized organizational models. A Decentralized Autonomous Organization (DAO) is one such organizational structure.
In this guide, we’ll find out how blockchain technology leverages decentralization and what DAO stands for. We’ll also look at the role of smart contracts and native tokens in DAO structures and check out some of the leading DAOs on the crypto scene.
The Role of Blockchain Technology in Decentralization
Blockchain technology is the backbone of cryptocurrencies. Every crypto uses a blockchain network to facilitate transactions, host decentralized apps (dApps), and provide users with public addresses for storing the blockchain’s native crypto coins.
Unlike fiat currency banks, which have closed, centralized electronic banking networks for making payments and storing funds, most popular blockchains are decentralized.
Apart from private blockchains, where the company that owns the chain has exclusive control over the network, public blockchains have thousands of decentralized network nodes that process transactions.
The largest blockchains on the market are public networks like Ethereum (ETH), Solana (SOL), Cardano (ADA), and Avalanche (AVAX).
No single entity can control a public blockchain, and it’s impossible to simply shut a network down because of the numerous autonomous nodes. The only way to shut down a public blockchain is if 51% of the node operators agree to do so. This usually happens during key network upgrades when developers implement major changes in the blockchain’s computer code.
Anyone can operate a network node on a public blockchain if they meet specific requirements. For example, to run an Ethereum node, you must stake a certain amount of ETH to become eligible for operating a node and validating transactions.
The blockchain’s decentralized nature allows users to store their funds in crypto wallets and enjoy exclusive access to their assets. Additionally, dApp developers can create and launch different types of apps that don’t depend on programming kits controlled by big tech companies.
This led crypto enthusiasts a few steps further once they realized they could leverage dApp development potential and blockchain crypto storage features to build a new type of entirely community-governed structure called a DAO.
What Are Decentralized Autonomous Organizations (DAOs)?
The DAO concept unites blockchain programming and crypto storage in a new, fully independent, self-governing structure where a crypto project’s community is the body that decides in which direction a specific crypto project should go.
For example, a team of developers might create a DeFi protocol that provides users with yield-farming, staking, and decentralized crypto exchange (DEX) services. However, to make it genuinely decentralized, the developers would have to create a DAO structure as a governing body to delegate the decision-making authority to the community involved in the project.
In DAOs, developers have an essential role in implementing community decisions and proposals, such as upgrades, protocol forks, and partnerships. Still, developers can’t act on their own. They need to get community authorization for every update and network change through a voting mechanism.
Only community members can participate in the decision-making process and submit proposals. To prove you’re a member, you have to own a certain amount of the native DAO tokens. Many DAOs use a voting mechanism in which users with a larger number of native tokens enjoy bigger voting power.
This is why crypto storage is vital for the DAO mechanism because users need to connect their wallets to the DAO, just like any other dApp, and use their crypto balance to vote or submit proposals.
Many DeFi protocols have a DAO section in their dApps, which is reserved for community members, and this section allows them to submit proposals and vote on existing proposals.
Also, the DAO structure serves as a governing body for the crypto treasuries of DeFi protocols. This means that all proposals regarding how the treasury funds are spent must pass through a community vote. Initiatives such as new investments by the DAO, paid partnerships, or donations all need to get community approval.
The Importance of Smart Contracts for DAOs
DAOs are entirely virtual organizations based on blockchains, which means they use smart contracts to facilitate all operations.
A smart contract is an automated piece of code designed to perform a particular action on the blockchain. Developers use smart contracts to enable their dApps to perform complex procedures without human supervision.
For instance, when users conduct swaps or use a staking service on a DeFi dApp, they are actually using smart contracts that facilitate transactions on the dApp. Smart contracts are a unique feature of blockchain technology and offer blockchain platforms much more flexibility than traditional programs on closed, privately-controlled networks.
DAOs can’t operate without smart contracts because they would require direct human control over a huge amount of transactions and procedures, which is nearly impossible. It would be very difficult to manually check the token balances and voting power of thousands of community members to pass a vote.
Smart contracts automate all these operations, from connecting crypto wallets to a DAO, submitting proposals, and casting votes to calculate the individual voting power of each user and the final number of votes for a proposal.
Additionally, DAOs use smart contracts to implement community decisions, such as treasury fund allocations, new investments, or changes in the project’s day-to-day operations.
DAO Crypto Tokens
Every DAO needs to have a native crypto token to operate because DAOs use cryptocurrency-powered smart contracts to execute transactions and implement community decisions. Also, there needs to be a method for DAO community members to differentiate themselves from other crypto users.
Because of this, DAOs have native tokens, which also serve as proof of community participation for users. Only those with a certain amount of a DAO’s native token are eligible to participate in the project’s governance.
Besides gaining governance rights, DAO token holders also gain access to special perks on the DAO’s native platform, such as increased staking rewards or special transaction fee discounts when paying trading fees with the platform’s token.
Additionally, DAO tokens are made to provide community members and developers with an incentive to participate in the growth and further development of the project in the hope of the DAO token’s price growth.
DAOs Compared to Traditional Financial Structures
DAOs are in sharp contrast to the structure and mechanics of traditional financial entities such as banks and other hierarchically organized companies. There’s no central authority in DAOs, and developers only have the power to execute the community’s decisions.
In banks and corporations, the decision-making process is entirely in the hands of the owners and the upper management. Users don’t have any possibility to influence a company’s decision directly.
On the other hand, DAOs empower their users and make them partial owners of DeFi platforms. The distribution of platform ownership through DAOs is a core value of the Web3 era, which uses blockchain networks to give users direct ownership over the platforms they use.
The philosophy behind DAOs is that the community should be able to steer the development direction of blockchain platforms based on user experiences, market circumstances, and user needs.
With centralized TradFi entities, this is impossible because they are privately owned, and the owner structure exercises exclusive rights to make all decisions regarding the company.
Key DAO Benefits
- DAOs give decision-making power to the community and allow users to vote on the future of blockchain platforms.
- There’s no single point of failure in DAOs, and no one can simply shut them down.
- DAOs create a sense of community and belonging as users work toward a common goal of collectively contributing to the platform they benefit from.
- Prominent DAO tokens have considerable financial development potential.
- Decision-making is transparent within DAOs, and anyone can check the voting procedures through a blockchain explorer.
Key DAO Drawbacks
- DAOs are often much slower compared to centralized entities when it comes to decision-making.
- DAOs often struggle with security because of potential blockchain safety exploits and network breaches.
Examples of Popular DAOs
The leading DAOs on the crypto market are built around prominent DeFi platforms. Many blockchain gaming platforms and NFT projects also use DAOs for community governance, but DeFi DAOs are the ones with the largest communities.
Let’s check out some of the largest DAOs on the market responsible for governing multi-billion dollar projects and treasuries.
Curve DAO (CRV)
Curve DAO (CRV) is behind Curve Finance, a major DeFi protocol that provides deep liquidity for numerous popular cryptocurrencies across various blockchain networks.
Curve Finance is essentially a decentralized exchange that allows users to swap numerous stablecoins and tokenized crypto assets used across various DeFi platforms. This means that Curve provides other DeFi protocols with liquidity for the assets they use in yield-farming and staking.
The role of the Curve DAO is to govern the protocol and ensure that the 100+ Curve liquidity pools are working smoothly and paying out realistic yields to users. The DAO also decides whether to include new blockchains on the platform.
For example, Curve Finance started as an exclusively Ethereum-based platform, but thanks to the community and various DAO votes, the protocol now supports numerous networks, including Avalanche (AVAX), Optimism (OP), Polygon (MATIC), Fantom (FTM), Kava (KAVA), and more.
MakerDAO (MKR)
MakerDAO (MKR) is the governing body behind Dai (DAI), the largest algorithmic stablecoin on the crypto market. Stablecoins are incredibly important for curbing crypto volatility because they are tied to fiat currencies like the US dollar, and Dai has become one of the largest stable crypto assets while governed in a fully decentralized manner by MakerDAO.
One of the key principles of MakerDAO is to strive to create partnerships with crypto and traditional companies, with the goal of expanding the adoption of DAI. So far, MakerDAO has secured more than 400 partnerships and DAI integrations on a global scale.
Also, MakerDAO is responsible for overseeing the algorithm behind the DAI stablecoin and ensuring that Dai always maintains its US dollar peg.
Compound (COMP)
Compound (COMP) is a major DeFi lending platform built on the Ethereum blockchain. The platform specializes in crypto loans. Users can borrow or lend ETH, Tether (USDT), DAI, and USD Coin (USDC) with other cryptocurrencies as collateral. Compound uses a DAO structure to govern the platform.
Holders of COMP tokens are eligible to submit proposals and voting on including new cryptos in Compound’s services or modifying the platform’s operational policies, such as interest rates and other parameters.
UniSwap (UNI)
UniSwap (UNI) is one of the largest DeFi protocols that use a DAO for platform governance. The platform has hundreds of millions of USD worth of crypto across its dozens of liquidity pools and is one of the most important liquidity providers for Ethereum-based assets on the market.
The main function of UniSwap is to provide users with decentralized trading features for Ethereum-based ERC-20 tokens through deep liquidity pools that reward participants with high yields.
The UniSwap DAO has huge responsibility because it governs the largest DEX in the world, and all decisions are made through the voting mechanism, which allows users to vote based on the number of UNI tokens they hold in their wallets.
Some of the most important decisions made by the DAO was to include additional networks on the platform, such as MATIC, OP, and Celo (CELO).
Conclusion
The DAO model is an important product of blockchain technology because it shows that a different type of organizational structure is possible, in opposition to traditional, hierarchical organizations such as banks and corporations.
It’s important to remember that DAOs couldn’t exist without blockchains because they utilize crypto wallets and smart contracts.
The popular DAOs listed in this guide are great examples of successful implementation of DAO mechanics. However, it’s important to note that this is still a relatively young model, and many DAOs struggle to operate smoothly. Because of this, it’s important to keep in mind that DAOs aren’t flawless and also have some drawbacks.