In its most basic form, a decentralized autonomous organization (DAO) can be defined as a community-led entity with no central leadership. Decisions are made from the bottom up on the blockchain, with every member of the community having a say on what happens.
At a glance, a DAO offers advantages such as transparency and freedom of speech and has often been touted as the future of organizational structures. But this is not entirely true in practice as DAOs are subject to similar bottlenecks present in traditional management models. From fraud to security breaches, and human hypocrisy, we dive into the dark side of decentralized governance in this article. We’ll explore some of the key challenges currently plaguing the sector.
The gray areas of DAO governance
There have been a number of publications on the malicious actions of some participants in DAO communities. One of the most shocking is an exclusive interview by DAO Times highlighting how professional fraudsters (aka money grabbers) drain DAO treasuries in plain sight.
The bottom line is that the existing DAO governance structure is flawed and open to attack from multiple fronts. Some of these problems include:
- Complexity
- Plutocracy
- Corruption
- Smart contract attacks
We delve into each of these points separately.
Complexity
From knowing how to join a DAO community to understanding how a particular proposal affects you as a regular user, there is a steep learning curve when it comes to DAO governance. Using a recently ratified proposal by Uniswap DAO as an example, Michigan Blockchain had proposed deploying Uniswap v3 onto the Filecoin Virtual Machine (FVM), arguing that the move could help Uniswap secure a market share in its data economy early on.
Although the proposal may be beneficial to Uniswap as a protocol, you’d agree a new entrant to the community may have some difficulty understanding the essence of the proposal. Several seemingly complex proposals are initiated in DAO communities every day and it is safe to say that most members do not understand why they should vote or contribute. To put things in perspective, Uniswap has nearly 350,000 token holders, about 28,000 lifetime participants in its DAO, and an average vote per proposal of just 1,647.
The complexity problem also extends into the lack of user-friendly interfaces, which may limit accessibility to non-technical users.
DAOs need to do more to improve user experience and provide educational resources that simplify complex proposals. This will encourage broader participation and attract users from diverse backgrounds.
It’s a field day for whales
Plutocracy is simply a government controlled by the wealthy, either directly or indirectly. This is not a DAO-peculiar problem as the rich have controlled more power and opportunities than the poor throughout history.
It is public knowledge that voting power is proportional to the number of tokens that a member holds in many DAOs. This means that if a small number of individuals or entities own a large number of tokens, they will have a disproportionately large amount of voting power. This could lead to a situation where a small group of people is able to control the decisions of the DAO, regardless of the wishes of the majority of members, undermining the democratic principles that DAOs are supposed to be based on.
Why should I vote if my votes don’t count?
One example of whale activity in a DAO is Balancer DAO’s governance battle with a clever whale known as Humpy in 2022. Given his massive veBAL voting power, Humpy continued to boost BAL APR for the specific pools he was yield farming. This went on for roughly eight months until the DAO reached a peace treaty.
There are a number of ways to address the problem of plutocracy in DAOs. One way is to use a voting system that gives each member equal voting power, regardless of the number of tokens they hold. This is known as a “one person, one vote” system. The problem with this approach is that it may come off as unfair to large holders. I mean, they heavily invested in the project. Secondly, malicious actors can hijack governance by creating multiple profiles.
Another way to address the problem is to use a system of weighted voting, where each member’s voting power is weighted according to their level of participation in the DAO. This would give more voting power to members who are more active in the DAO, and less voting power to members who are less active.
Finally, it is also possible to use a system of delegated voting, where members can delegate their voting power to other members. This would allow members to pool their voting power and give it to a representative who they trust to vote in their interests.
The best way to address the problem of plutocracy in DAOs will depend on the specific DAO and its governance model. Overall, an effective governance model should attempt to balance decentralization and effective decision-making, while reducing manipulation and minority control.
Corruption
Corruption in DAO is a broad term and exists in multiple forms – from voter fraud to insider trading, governance takeover, misappropriation of funds, and Sybil attacks, among others.
Take voter fraud, for instance, this occurs when someone tries to manipulate the voting process in order to get their preferred outcome. This can be done by buying votes, using bots to vote multiple times, or by other means. Members could also collude or form alliances to manipulate outcomes in their favor.
Forget the decentralized tag attached to DAOs, there is a general lack of transparency when it comes to how funds are spent. This leads to a high risk of embezzlement and misappropriation. Those with access to funds may choose to abuse these privileges and divert treasury assets to personal use.
Moving forward, decentralized organizations should have transparent and auditable voting systems, as well as clear rules and regulations about financial transactions. Whistleblowing should also be encouraged.
Loopholes in smart contracts
The fact that DAO governance relies on smart contracts could be a two-edged sword. On one hand, it takes away the human factor, and on the other hand, reliance on smart contracts to execute decisions is prone to security attacks. Hackers and malicious players are always on the lookout for vulnerabilities and bugs that can be exploited.
One of the most common smart contract vulnerabilities in DAO governance is the reentrancy attack. This attack occurs when a smart contract calls another smart contract, and then the second smart contract calls back to the first smart contract. If the first smart contract does not properly update its state after the second smart contract call, then the attacker can exploit this vulnerability to withdraw funds from the DAO’s treasury multiple times.
Another common smart contract vulnerability in DAO governance is the arbitrary code execution attack. This attack occurs when a smart contract allows an attacker to execute arbitrary code on the blockchain. This can be used to steal funds from the DAO’s treasury, modify the DAO’s code, or otherwise disrupt its operations.
Conclusion
Despite these so-called gray areas of DAO governance, we have to admit that the tech is still nascent and will definitely evolve in the coming years. Like other technologies, which have gone through years of trial and error to become better, I expect to see a more refined DAO ecosystem in a few years from now.
