At the end of last year I predicted that a DeFi bubble would begin to form in 2020, leading to the total value locked (TVL) in the market doubling in size. This milestone was reached in June but by August it had doubled twice more, reaching today’s TVL of $7.5 billion.
I did not anticipate the sheer volume of funds that would pile into the space. And I also did not anticipate the role that “decentralized autonomous organizations” (DAOs) would play in supercharging the growth of DeFi. Now that it’s become clear, I think it’s fairly obvious where this is heading.
The term DAO is a misnomer. DAOs aren’t always that decentralized and they certainly aren’t autonomous (they are organizations governed by people). But they do organize stakeholders in a way that is unlike anything before it.
DAO’s are governed by token holders that vote on proposals with their tokens. The more tokens, the more voting power and the more influence over the direction of the protocol. DAO tokens often grant their holders cash flows generated by the organization and have been at the heart of the yield farming craze. These tokens are also a great way for centralized teams to decentralize the governance process, allowing them to hand over large parts of the protocol to the community (and to perhaps avoid heavy handed regulation).
An unexpected (although in hindsight very obvious result of this) is that DAO token holders act in a self-interested way. Not only will DAO members look to maximize any cash flows from their token (or vote to introduce cash flows if they didn’t already exist), they have also looked to increase the token’s capital growth.
This was seen clearly last week when two DeFi projects, Balancer and MCDEX, passed (by a huge margin) proposals that sought to increase the price of their respective governance tokens.
In the examples above, Balancer voters approved a proposal to make BAL token distributions favor those who supplied liquidity to the BAL/ETH Balancer pool. In the other case, MCDEX governors voted 100% to 0% to increase MCB rewards for MCB holders. Shocker.
Decentralized exchange, Curve.fi, also had a proposal submitted last week that aimed to modify the fee structure to incentivise users to time-lock their CRV tokens in return for platform fees.
While there’s an argument that many of these changes are “zero sum”, one particular project, yearn.finance (YFI), is seeing dozens of proposals introduced that have fundamentally improved the platform. Yearn, a yield farming aggregator that optimises returns for its investors, distributed its YFI token in July with enormous success. YFI token holders are not just working inside the yearn.finance bubble, but have also approached MakerDAO to help implement an income generating strategy for ETH (yETH). The strategy would see ETH deposited in yearn.finance used to borrow DAI inside Maker and invest in optimal yield-generating strategies. This particular “vault” could well see ETH generate double digit returns for a sustained period of time.
YFI’s governance has been far from zero sum, and this has been reflected in the token’s price which today broke an all-time high of $17,500 (having launched from nothing just a few weeks ago). YFI holders have also demonstrated that proposals need not be immediately self-serving, voting this week to distribute 1% of all treasury in-flows to the Ethereum public goods platform, Gitcoin.
What we’re seeing now is a glimpse at how the DeFi bubble is likely to be expedited, making DAO (DeFi) tokens increasingly sought after as voters pass proposals that seek to grow token holder value.
Over the coming months and years, the blunt governance tools being used by the likes of Balancer and Curve are likely to be sharpened and honed, creating more ingenious mechanisms that harness Ethereum’s composability and maximizes token value.