Decentralized Autonomous Organization (DAO)

Principles, features, ways of further development

The real revolution in business was generated by the emergence of Ethereum, which provides a Turing-complete platform built on blockchain technology, thereby creating the possibility of creating Decentralized Autonomous Organizations.

Decentralized Autonomous Organization (DAO) is a form of organization in which the coordination of the activities of the participants and the management of its resources occurs in accordance with a pre-agreed and formalized set of rules, the monitoring of compliance with which is performed automatically and can be delegated to smart contracts. The financial transaction records of the DAO and the programming rules for such contracts are stored on the blockchain. There are several examples of how this business model can be implemented. The exact legal status of this method of doing business is not completely clear, however, there are two options for the interaction of the DAO and current legislation:

1. A legal entity with a certain legal status that integrates the DAO into the existing legal environment, as it allows direct control of resources outside the blockchain and participation in legally binding agreements; usually authorized by regulation such as BBVA or ITAS.

2. A legal entity without a legal entity: this is closer to a puristic vision of an organizational form, independent of the existing legislative environment; usually gets activated by a "code trust".

Cryptocurrencies can serve as a striking example of the second option. They are inherently the first DAOs in the modern sense of the term, which arose as a response to the actions of the authorities that led to the global financial crisis of 2008.

There is also a conditional division among DAOs. It is believed that full autonomy presupposes that the very structure of the organization has a certain "intelligence" that will allow it to independently cope with various tasks that arise in the course of its activities. For example, hiring employees for work that cannot be automated. Since Bitcoin, for example, does not employ people other than miners, and operates according to very simple rules, it is considered to be the simplest form of DAO.

Separately, it is worth highlighting such a type of DAO as DAC, a Decentralized Autonomous Corporation. DAC differs from an ordinary DAO in that it brings dividends to its participants.

A classic DAO allows its members to earn money by participating in its activities and investing their time and resources in them. DAK generates constant income, which depends on the success of its activities and is distributed among the shareholders. An example is The DAO, which was already closed due to a hack and loss of funds.

Any DAO can be classified using four key elements: multilateral agreements, resource management, and discussion and voting processes for decision-making.

So, what exactly does the DAO promise to society? The ability to structure large-scale merit-based communities with minimal barriers to entry, consider external factors, and — much like Bitcoin — not rely on traditional institutions. While Ethereum plays a dominant role in the creation of the DAO, the risks of smart contracts associated with the Solidity programming language are also a significant obstacle to the development of the DAO.

Consider the three main components of any DAO: decentralization, autonomy, and organization.

Decentralization. Usually one of the main elements of any DAO definition is the concept of "decentralization". This often discussed but poorly understood concept should be abandoned as it requires more detailed analysis. In cryptocurrency, the term "decentralization" refers to either the physical distribution of hardware (validators and full nodes) or the spread of political influence. In this case, the latter is relevant. Instead of the classic hierarchical distribution of power, the general approach of any DAO is to facilitate peer-to-peer coordination. This element can be characterized as a multi-stakeholder decision-making process.

Autonomy. The second important component of any DAO is "autonomy", which can best be described as the ability to manage oneself. This self-governing ability arises from the use of smart contracts to define coded “rules of the game” for any DAO. Accordingly, a priori DAO is governed by a mandatory, formalized and transparent set of rules. Relevant smart contracts can perform organizational functions automatically, regardless of the participation or absence of any other party.

Thus, the autonomy of any DAO can be expressed as the degree to which smart contracts govern its activities. By accepting this new perspective on economic relations, all value stream activities can be described. This description is especially suitable for blockchain, a transactional ecosystem that is not based on trust. The DAO's ability to initiate value streams — i.e. act and, therefore, be autonomous - thus depends on the ability to allocate resources (including financial) and manage them. Hence, the autonomy of any DAO is inherently related to the direct control of the resources by the DAO.

Organization. By focusing on what is governed by multilateral agreements and how the DAO exercises control over resources, these first two components primarily determine the scope of any DAO. Beyond the scope, there must ultimately be a consensus on how to proceed within this “multilaterally agreed autonomy”. Basically, the question is: how can the DAO decide which components it controls? Some discussion and subsequent decision-making process is needed to answer this question. The discussion should formalize an agreed process for finding a solution, which can be either discretionary or based on previously adopted rules. Usually discussed proposals are subsequently put to a vote. By definition, this voting process must be done on the blockchain, as otherwise it is impossible to be sure that the rules are being followed.

Typically, the only way to run a DAO is to use decentralized ledger (blockchain) technology that is capable of executing smart contracts. Conventional contractual arrangements also protect the parties involved from breach of contract by providing a means of retaliation, including government coercion. However, unlike smart contracts, they a priori cannot limit the scope of permissible actions by checking for compliance with certain rules and conditions, thus making it impossible to violate the conditions.

Further development of the DAO concept is seen by many experts in the integration of smart contracts and traditional legislation.

At the moment, the United Nations has 193 nation states and more than 275 jurisdictions around the world. In the European Union alone, there are over 40,000 legal acts, over 15,000 court judgments and 62,000 international standards. Historically, this daunting landscape has been fundamental to limiting uncertainty, as the reliability of the data has depended entirely on the accountability of the provider. If a legal system exists that is capable of enforcing its laws against government and thus regulated entities (such as data providers), they can be held liable for incorrect data.

As a result, transactions in traditional databases are final.

However, they are final only if they can be implemented and therefore require a certain level of trust in the institutional environment. The associated risks are heightened, especially for cross-border transactions involving many different jurisdictions. Managing these risks can be very costly (for example, through insurance and third-party services) and / or require staff with specific competencies.

On the other hand, in blockchain-based processes and information, data validity is not ensured by a third party, but by economic incentives. Why is this relevant for DAOs? Because it shows an internal collision that will happen whenever the DAOs interact with the physical world either directly (for example using a bank account) or indirectly (for example using a token representing a physical asset). One of the more progressive tokenization legislations has been passed in Liechtenstein, where tokens are defined as “containers” for (all kinds of) physical assets and are thus protected by an established legal system. While this is undoubtedly a significant progress, it restores the need for a higher-level legal system.

A more pragmatic and less idealistic option, in which DAOs do not radically replace, but rather complement existing forms of organization. They will also need to be integrated into the broader institutional environment and will therefore benefit greatly from this and other related initiatives.