DAOs, Immutability and Carbon Credits

Introduction

In 2009, bitcoin made its trading debut at 0.0 US dollars per coin and now the price is approximately 40,000 dollars. The value of bitcoin is clearly a function of supply and demand plus network effects and hype, but I also believe the technology of bitcoin is a piece of software proving the concept of immutable and democratized currency and therefore expect further price expansion. Because what if we can build immutable organizations and virtual worlds on top of the software. What if we can create digital 3D stores, meeting rooms and communities that provide equal or greater utility than their real world equivalent. An evolved society in which transactions occur with currencies that are controlled by a group subscribing to a pre-written enforceable contract rather than relying on rules written by a central authority or bank. While smart people like Chamath Palihapitiya and Jack Dorsey argue that web3 is an illusional marketing term used by venture capital for rent seeking, I believe web3 is a concept formed by a compendium of technological ideas.

The Genesis Block

Web3

Web3 was introduced by New York Times journalist John Markoff in 2006 to describe a semantic web; an internet that behaves and thinks like a human. Markoff’s definition has since expanded to include terms such as metaverse, blockchain, decentralization, big data and artificial intelligence. While web2 advanced upon a static web1 by allowing users to upload and share content on websites and social media, proponents of web3 believe web2 apps has insufficient interactive intelligence capability. For example, googling Brazil versus France may result in football scores instead of actual differences between the countries. Unlike web3 skeptics such as Dorsey - who tweeted that web3 is a centralized power scheme by venture capitalists and their LP’s - believers have full faith in a decentralized web 3.0 where content creators monetize their content and researches access data more effectively in decentralized databases. There may be some value behind Dorsey’s argument because VC’s are pouring money into web3 projects like blockchain and metaverse companies. However, note that Dorsey edges on being a bitcoin maximalist and was raised in a web2 world where centralization means that most information is stored on servers owned by Amazon Web Services or Microsoft. For believers, rent seekers will not achieve ownership and people will ultimately possess immutable addresses on the blockchain which represents their online identities. This online representation will for example anonymously create a path to collect sensitive information such as medical data for research to treat disease across the globe. Also, with online addresses all interaction with video or a text posts will be tied to a personalized immutable address, which means that content creators will get paid directly rather than share profits with centralized parties like YouTube or Spotify.

John Markoff who coined web3

Potential Web3 Developments

Users will connect in a web3 network without central servers, as their data interacts directly with a decentralized blockchain. Transactions will not occur with fiat currencies like the dollar, but rather in digital cryptocurrencies. Applications will use AI to optimize user interactivity and let network participants communicate in an immutable and censor resistant fashion. Web3 users will enjoy more efficient browsing, searching and communication. The internet experience will be semantic, thinking and ubiquitous meaning the internet may understand the emotion of all communication between users in addition to being accessible anytime and anywhere around globe. Decentralized autonomous organizations is an excellent example of a potential web3 development. DAOs allow large communities to achieve an objective like creating a business or supporting a good cause. Instead of launching an LLC firm, charitable trust or investing arm, entrepreneurs with good ideas can form a DAO with a transparent set of rules to fundraise directly from the public.

Jack Dorsey Web3 tweet

Decentralized Autonomous Organizations

The creation of decentralized autonomous organizations (DAO) is an exciting web3 initiative. To understand the concept of a DAO, we can use a vending machine example. Part of a typical vending machine is automated, but humans remain necessary to restock low vending machine inventory. If the vending machine instead functioned like a DAO, the machine would realize low inventory and by using a smart contract, the vending machine would signal to its robot friend to restock the inventory. A vending machine corporation can therefore in practice be replaced with computer code. DAOs are pooled fund collectives owned by its community participants and therefore forms a great structure for working with like-minded people to safely raise funds for projects across the world including charities, freelancer networks and venture investing proposals. DAOs are like LLC’s – traditional public firms – but instead of guidance by a board and CEO, the DAO executes based on proposals voted on by network participants holding its governance token. Codifying away CEO decisions leads to a democratic governance, which hopefully aligns incentives within the organization. The proposals voted on are changes to the smart contract, which is basically the computer that is running the blockchain. The computer/smart contract executes when the pre-conditions by the DAO are met. The benefit of a DAO is that it holds all funds in a treasury so there is no need to keep funds with a bank as the treasury is the bank, which cuts through a lot of red tape and avoids lots of painful regulation. In addition, the power rests transparently with the community and not privately with a few people. There are many different DAOs existing now including Maker, Olympus and Klima DAO. Generally, a DAO has a specific purpose. MakerDao is one of the largest DeFi projects in 2021 and their flagship product is the stablecoin DAI; pegged one to one with the US dollar. The holders of MakerDao coin control the MakerDao protocol, which governs how the smart contracts on the Ethereum blockchain are executed. While most other stablecoins like USDC and USDT are backed by fiat, the Maker DAO is backed by a pool of crypto currencies like ETH, BAT and MANA. Basically, holders of ETH can convert their money into a stable DAI currency through a collateralized debt position to avoid volatility and instead lend and borrow at a stable rate. Everything DAO is not always great and we shall investigate more through using another famous DAO, the Klima DAO, as an example.

DAO structure

DAO Issues and Klima DAO Governance

The main problem with DAOs is that people despise voting and are generally uninformed. In the traditional stock market, public firms hold annual shareholder meetings where shareholders vote on major strategic firm decisions. However, small shareholders generally know nothing about a firm’s board or bye laws so a proxy voting firm generally represents them, which leads to misaligned incentives. Poor understanding also occurs when DAO participants vote for DAO proposals so for a DAO to function properly alternatives to coin-voting are currently being researched by blockchain professionals. Another problem with DAOs is their reliance on open source code. If everyone can read the code, the DAO is unable to hold business secrets. For example, investing in a systematic hedge fund displaying the source code for all its investing models means a hacker could just copy them, meaning that certain business ideas fall outside the scope of a DAO. In addition, open source code may leave DAOs vulnerable to hacker attacks. However, despite some obvious issues with DAOs, there are some ideas that work. To improve our understanding of how a DAO works, we can use Klima DAO as an example. Firstly, the objective of Klima DAO is to allow web3 builders a chance to participate in global carbon markets through purchasing the Klima token. Per website documentation, each Klima token is a fungible ERC 20 token backed by 1 carbon ton of tokenized offset locked in the Klima DAO treasury. The locking up of voluntary carbon credits in the Klima treasury limits overall supply of carbon credits, which increases the price of releasing carbon into our atmosphere and thus incentivizes companies to make climate friendly decisions. Holding more Klima tokens means having more votes on proposals, ultimately impacting our environment. If there is a large holder of Klima, the Klima DAO decision making is no different than a normal LLC firm. Having many holders of the token is therefore important to create a higher degree of decentralization.

Klima helps protecting our environment

How to get Klima?

There are two approaches to purchase Klima. Simplest is buying Klima in the open market and then stake Klima through connecting a decentralized wallet like Metamask to the Klima staking protocol. Staking is attractive because it earns a super high yield of around 30,000 percent per year in return for locking up coins. The staking yield is made possible through the second approach of attaining Klima tokens, which is to bond Klima with based carbon tokens (BCT) or liquidity provider tokens. Each BCT represents 1 ton of carbon and must be purchased in the open market. After purchasing BCT, the bonder moves the BCT into a decentralized wallet and connects the wallet to the Klima bonding protocol. The bonding process takes 5 days until completion and in return the bonder earns discounted Klima of around 3-8% lower than market price. Ultimately, bonding locks up carbon in the Klima Dao treasury and therefore increases the value of the Klima token as it provides liquidity and allows stakers to earn that high Klima yield. For example, if 100 BCT worth a combined 1000$ is bonded with Klima at a value of 1000$ per token in the open market, then the bonder receives 1 Klima for those 100 BCTs, while the remaining 98.7 Klimas – depending on the bond discount – are distributed to stakers. The bonding action is inflationary and pushes the price of Klima down. However, if the price of Klima goes below the intrinsic value of the treasury, the Klima Dao will buy back coins and burn them to limit supply, which pushes the price back up to the intrinsic value of the treasury. Finally, since most investors are staking Klima, there are not many coins existing in the open market, which is why Klima is trading at a premium over the intrinsic value. As a medium of exchange, the value of money must remain stable over long periods of time. Klima is not a medium of exchange currency, but rather a store of value currency for climate activists and investors believing that government will drive up the price of carbon to incentivize companies to pursue environmentally friendly project.

Klima DAO layout

Conclusion

Whether or not you believe in web3, I recommend spending time to investigate your preconceived bias about the topic. There are enormous resources currently spent by engineers, artists and investors to developing DAOs. Only time will tell if all pooled resources lead to venture capitalist or individual monetization, but my guess is the latter because the blockchain will give people control of their own content. Web3 is laying the foundation for new companies with a decentralized framework when the objective is transparent without any necessary business secrets. Thus, DAOs is a potential avenue for future creators and entrepreneurs.