Rethinking the crux of Defi protocol governance

Leverage from NFT collection Leverage V3 by Michaeln

The Real Problem in DeFi Governance

Paka Labs believes that there are two key problems with the current governance mechanism of DeFi.

One, Governance Lever

The problem is that the $COMP and $MKR that address (which is suspected belong to Sun YunChen) used to participate in governance came from borrowing, not from the long-term asset holdings. If that address is adding some kind of highly controlled assets to the agreement, it is entirely possible for that address owner to use the agreement as his ATM by “banknote printing” and the owner has little downside risk at $COMP or $MKR, which is inconsistent with the principle of incentive compatibility. It still needs to provide the collateral if the address suspected to belong to Sun YunChen wants to use decentralized lending agreements to borrow governance tokens. In fact, if the borrower does not have sufficient collateral assets, he can also borrow governance tokens from others by issuing bond derivatives.

Second, “open goal”

DeFi’s governance is more complicated than other types of DAO governance because DeFi has more resources than just the funds in the protocol Treasure, and even more than the funds in TVL (in fact, the ownership of the funds in TVL does not belong to the DeFi protocol itself, this is why Solend’s takeover of the account of the capital predators) was so controversial), and the most critical resources for the DeFi protocol are often non-financial resources, for example,

  • Liquidity resources in DEX

How do we remove the levers of governance?

We need to crack each of them against each means of enabling governance leverage.

Defending against Vote Borrowing: Lock-up in exchange for Governance ights

First, vote borrowing is relatively easy to defend against. Both time-weighted voting and reputation-based voting can reduce the impact of vote borrowing. In fact, Curve’s governance already uses time-weighted voting. Curve’s governance right is achieved by voting with veCRV, not CRV, which could be obtained by locking up CRV. The longer the lock-up period, the more veCRV you get, for example, 4 years for 1 veCRV and 1 year for 0.25 veCRV.

Defending against Vote-Buying: privacy technologies may promise for it

Vote-buying is a relatively difficult one.

Hostess from NFT collection The Robbery by Cherry_Pie_NFT

Increasing Governance Participation Rate: Governance Political Parties and Governance Incentives

Even some of the benchmark DeFi protocols may without high governance participation rates, for example, only about 5% participation rate for Compound’s governance, which stimulus someone to capture the benefits of the protocols by controlling voting rights. Low turnout also motivates some protocols to achieve greater leverage through indirect governance, as detailed in Fei-Index-Aave’s operation.

  • Voters who are delegated are inconsistent in their activity and no one asks them to do like that, leaving a portion of the vote dormant for long periods of time.
  • There are always no rewards for participation in governance, which makes token holders prefer to stake/lock their tokens in DeFi to abtain interests.

How to set up a gatekeeper mechanism?

After the governance attack on Mochi, Curve outlawed Mochi Protocol competing for liquidity. However, we need an ex-ante asset access link to ward off fraud and better protect DeFi participants’ funds than an ex-post “asset retirement”.

  • Whetherelection and removal of members of the Senate are decided by a governance vote or not determines whether the senate is an independently existing power entity or just a surrogate of power authorized by the governance vote.

Summary

As DeFi has evolved, part of the protocol has become one of Web3 infrastructures with the attributes of a public good. Their basic responsibility is to protect the financial security of participants which is the baseline of DeFi’s development. There are two major risk factors, one is the potential for governance powers to be amplified by financial leverage, leading to power and responsibility inequitable governance, and the other is the lack of a reliable asset access vetting process.

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PAKA

PAKA

Founders fund in Polkadot ecosystem, running as a DAO venture. Long Polkadot, short Web2.0