Decentralized Autonomous Organizations (DAOs) are having a lot of prominence in this booming crypto ecosystem. As the name suggests, DAOs are organizations with a decentralized hierarchical structure. This means that a community collectively owns the decision-making process of an organization.
Although DAOs have emerged as the future of decentralized corporate governance, there have been many anomalies in their functioning. According to the recent report by Chainalysis, most DAOs are not as decentralized as they should be.
Chainalysis analyzed the operation of ten major DAO projects and found some crucial details. During the research, Chainalysis found that voting power in DAOs was largely concentrated. On average, less than 1% of all holders have concentrated more than 90% of all voting power.
This shows that a large amount of power was concentrated in the hands of a select few, a problem that the DAOs were supposed to solve. The Chainalysis report notes that:
This has significant implications for DAO governance. For example, if only a small fraction of the top 1% of owners worked together, they could theoretically outweigh the remaining 99% on any decision. This has obvious practical implications as well, in terms of the sentiment of the Investors, probably affects whether small holders feel they can contribute significantly to the proposal process.
The report also notes that a user must hold between 0,1% and 1% of the total token supply in circulation to create a proposal. However, to approve a proposal, the user must hold between 1% and 4%.
Understanding the major trade-offs in DAOs
The Chainalysis report shows that there have been trade-offs in the functioning of DAOs. If there are multiple owners creating a proposal, the average proposal quality can decrease. This could lead to governance spam in the case of DAOs. However, in the case of an insufficient number of owners, the community may feel that “decentralized governance” sounds false.
When it comes to approving a proposal on their own, between 1 in 10.000 and 1 in 30.000 holders have enough tokens to do so.
One of the clear examples of voting power concentration we saw was that of the Solend Loan DAO, based on Solana. During the liquidity crisis earlier this month, the Solana-based decentralized protocol Solend decided to take over the whale accounts. It also decided to run the liquidations through the OTC desks to avoid a series of liquidations on the books of the DEX.
Although the proposal received 1,1 million votes, a whopping 1 million votes came from individual users. Following community reactions, Solend decided to withdraw the proposal and work on another mechanism.