What is the Dao?
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What is the Dao?

The Dao is Ethereum's very own decentralized crowd funding Dapp, with $150m ready to invest.  Is it going to work?

Published: May 30th, 2016 | Author: David M

You will remember (actually, most likely you will not) our desperately-in-need-of-a-rewrite article on Ethereum, in which we described the then unlaunched protocol as "the technology upon which any and all blockchain applications may be built". As a low-level protocol - often compared to javascript - Ethereum was meant to be used as the programming language for a whole host of so-called bitcoin 2.0 applications, most notably new types of companies called "Dapps", or in other words a front end interface associated with smart contracts running on the ethereum network.

These incorruptible, infallible smart contracts live only to execute the purpose for which they were designed. Think of things like - the execution of a trust or distribution of dividends; the running of a lottery, prediction market or micropayments supporting p2p networks; or executing a ballot vote amongst shareholders and the execution of the majority will.

As the technology develops it is not difficult to think of advanced contracts replacing many of the functions traditionally fulfilled by the breathing. Scary and exciting at the same time!

Ethereum itself, being the protocol, is only the canvas upon which these contracts may be created. The DAO endeavors to be a very specific sort of venture capital fund.

What is The Dao exactly?

The DAO is a crowdfunding vehicle in which holders of DAO tokens jointly decide, by ballot and debate, in which Dapps to invest. But the DAO is itself a Dapp, with the voting mechanism and dividend distribution themselves are hardwired into smart contracts on the Ethereum blockchain. With DAO holders controlling a whopping $150 million in Ether, it is likely that this will be the chief vehicle by which Dapps secure investment, making the DAO, in the punny words of Nolan Bauerle writing in Coindesk , "a new Dow".

To what extent does the DAO live up to it's acronym? Internally, the method by which investment consensus is reached is decentralized, and the contracts run autonomously. But who ensures the criteria for investments to be presented to the DAO? Will real world contractor's be interested in a smart contract-based employment agreement? And what happens if there is a disagreement as to services rendered? Who does the contractor sue? And how will such an organization be viewed by, for instance, the SEC? Read on dear reader.

Determining the DAO investment criteria

A group of esteemed individuals known as curators act as the gatekeepers of the DAO, and serve at the pleasure of DAO holders. Their sole mandate is to 1) ensure the identity of the person or entity submitting the smart contract for considerations and 2) ensure the code of the submitted contract belongs to the submitting entity. This is only to prevent malicious or fraudulent proposals from being entered to a vote. Curators are value agnostic and exist only to ensure proposals come from legitimate sources and do not constitute an attack on the network.

How to manage relationships with external contractors

Many of the ventures that will be considered link the computer and external worlds and thus require some mechanism for employing the services of "brick and mortar" contractors. Indeed, two current proposals on offer relate to the internet of things and electric cars - both of which would require massive offline operations. Of course, smart contracts may be written that govern specific relationships - but how will this work exactly? As the DAO is really a decentralized network of investors with no central address or corporate structure to speak of, who signs the invoices?

DAO.LINK is a product meant to assuage the fears of these old school centralized businesses that stubbornly cling to the notion of companies with addresses and employees. A venture between Slock.it and Bity.com, dao.link attempts to provide a legal framework for offline companies. Though not fully flushed out, it seems that contractors will receive wallets with Bity - itself a fully licensed company based in fintech-friendly Switzerland - as well as sign on to a Swiss-based legal agreement for provision of services to the relevant DAO. Additionally, dao.link/bity associated lawyers, extremely well-versed in the issues we are currently discussing, would provide on-demand support as required. All well and good if everything goes according to plan, but what of grievances?

Arbitration

One of the hottest topics currently being debated in the world of DAO is Andreas Antonopoulos' proposal "DAMN": decentralized arbitration and mediation network. He states in his proposal:

"For decades, well-funded, sophisticated commercial parties have been using Alternative Dispute Resolution (ADR) methods to avoid lengthy, costly, cumbersome local court processes. By contract, parties can agree to waive their right to seek justice in a local court and have their disputes settled in a private forum, an alternative forum. One alternative forum, arbitration, is internationally recognized in more than 150 countries, thanks to the New York Convention (as it is commonly known) and its subsequent amendments."

Essentially, the solution would require contractors to waive their rights to local jurisdiction and agree to settle disputes according to ADR. There are a number of advantages to Andreas' proposal:

  1. It abides by the decentralized spirit of the DAO: No central legal relationship is required for dispute resolution.
  2. Dispute resolution becomes more or less automated by smart contracts; with mediation and payment triggered automatically according to hard coded criteria.
  3. Multiple DAMNs smart contracts could be created to cater to different needs and usable by anyone.
  4. It is much, much cheaper than going the traditional arbitration filing route.

Of course on the downside this will not help much if DAO tokens are viewed as subject to SEC jurisdiction.

Regulation and The DAO

Stephen Palley addresses the regulatory angle in his article how to sue a decentralized organization, referenced above, and he points to two issues that should concern any potential Dao holder. First, while the DAO automates corporate structure and governance, it does not assume additional responsibilities that often go along with such governance; namely for our purposes, ensuring regulatory compliance and providing an address for potential lawsuits. Palley "expects that a court would see that the entity that isn't really an entity is a fiction and could allow suit to proceed against individual members". Not sure if the ADR would cover such a ruling.

Or it might be that the SEC decides DAO is an illegal securities offering and try to freeze the funds of investors. That would get nasty as the courts try to freeze the funds of members, who themselves are furiously trying to get their Ether back into fiat.

Structural issues

A widely debated article published in hackingdistributed.com has outlined a number of structural defects in the logic of the DAO that might distort the open and active debate amongst investment participants, leading to strategic voting or investments rather than actual voting based on whether an investor thinks a proposal will be profitable or not. The authors call for a moratorium on investment proposals until these issues are rectified.

Check out the article for a full explanation, but the authors rather convincingly argue that: 1) There is a disincentive to vote "no" due to a ridiculous overly complicated requirement of exiting the DAO, forming your own, and then creating a contract offering yourself to invest.  Definitely horrible UX, and will most likely change at some point.  Really stops people from voting no early so they can wait and see if a "no" majority will be reached, which leads to a "yes" bias; 2) There are a number of ways for bad guys to game the system, either by strategic voting, variations on the 51% attack, or "spamming" DAO holders who split (a process by which users can avoid investing in projects they dislike) that have not been adequately thought through and prepared for.

The authors provide a few suggested fixes, and suggest that the curators impose a moratorium until they, or other solutions, are deployed.

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