Shapeshift is a company that runs a crypto exchange. Last year it turned from being a central exchange to building on top of Thorchain and becoming decentralised, meaning users won’t need KYC but can still swap tokens. Now Shapeshift has announced it will even decentralise its company. The platform will be open-sourced, the company will be closed down, distributing the funds to shareholders and all employees will lose their official jobs. Shapeshift will become a DAO. A decentralised autonomous organisation.
Reading Erik Vorhees’ announcement I thought about what this would be like? How would the employees interested in the product get paid? How do the founders like Erik keep a say, how will the work get done, how will the product keep evolving and how will they find new people to work for the DAO. Some of it will be driven by passion and curiosity, but a big part of this will be tokenomics and the incentives it creates. Not much works without incentives and people will have to keep making a living, earning money with what they do. So what if a DAO like the one Shapeshift is shapeshifting into can provide just that?
Why DAOs are the next big thing
I envision the future of work - at least in some areas - to have something to do with DAOs or the working style they provide. What if you could work for something you're passionate about, by just starting to contribute in a small way and ramp up as you see where you can fit in? What if that would pay you based on the amount of contribution? What if you would have a say in the decisions that business is making?
Normal jobs right now work more like this: you need a degree and good credentials to even get invited for a job interview at a company you like. If you’re lucky a bunch of interviews will get you a job which then locks you in to work for a contractually agreed time and location. Alternatively you could freelance, but that can be challenging without a network of customers and you’re mostly on your own. You are responsible to find your own work but you enjoy a high degree of freedom AND your input (work) is directly linked to your output (pay). Is there a way to have both a community/team and a high degree of freedom?
DAOs seem to offer just that. A DAO is an organisation, a community and that means you can collectively look for and work on projects or build your own products. I’ve joined a DAO - Bankless DAO and it was quite easy. Purchase and prove that you have 35K BANK tokens in your wallet, join a guild and introduce yourself. All done on their discord. After you’ve introduced yourself, just start looking through the channels or check out the bounty board to find out if there are things to do. After some time I got my first tasks and worked on two pieces of writing for their newsletter and got rewarded in $BANK.
Of course that won’t immediately pay you like a traditional job would, but once you have established your position within the DAO, there will be paying engagements and other forms of rewards that could make up a ‘salary’.
So let’s summarize; no CV needed, no job interview, easy entry, work flexibly as much as you like and have a say by voting on proposals. If you are interested in freedom and flexibility, but still like the community you might have in an office, then a DAO seems a great place to work.
Technically a DAO is a collection of smart contracts, describing and enforcing its rules. So if members want to access the treasury, to pay for a project, they need to vote and reach consensus. Truly decentralised, no one is leading and making decisions on their own. But since they are reallyeasytocreate, there is a big, growing ecosystem with DAOs for many different topics:
But as you can imagine, it can be challenging to align a bunch of strangers on the internet without contracts or a CEO. You need something else to get everyone pulling in the right direction and that is mainly through rewards, incentives and skin in the game. A lot of this can be influenced by tokenomics, so let’s look at what they generally do.
Variables of Tokenomics
Looking into tokenomics for Bitcoin, Ethereum, Terra, Mirror and Anchor has shown multiple common characteristics of these protocols that drive their behavior. Bitcoin, has the ultimate scarcity and simplicity of 21 million coins issued. Ethereum has utility as it can be used to pay for execution of smart contracts. These are probably the two most important aspects, but there are others.
Supply and demand play the biggest role in economics and that’s no different for tokenomics. Supply is the amount of people willing to sell their tokens and demand is who wants to buy. Supply and demand define the price. If one side gets reduced, that will change the price. Take staking in the PoS consensus mechanisms; when stakers lock their funds into the network, that supply is taken off the market for a while. Usually there is a balancing mechanism incentivising / disincentivizing only a certain amount of staking or number of stakers. Ethereum is going through this during its transition to 2.0. Stakers can already lock up their funds in the new beacon chain, but won’t have access to them until the merge happens some time in 2022. This has taken ~ 6 million ETH out of circulation, leading to a reduced supply.
Liquidity is the degree to which an asset can be bought or sold without influencing the price. Normal people might not even think about this, but if you manage a large amount of money or if a very niche token only has a few buyers and sellers, even small quantities can move the price. Many protocols try to increase liquidity by offering incentives to liquidity providers. Mirror and Anchor pay rewards to stakers of LP tokens.
Inflation in tokenomics measures the supply of new tokens into circulation. Even though Bitcoin has a hard cap, it will keep issuing new supply (6.25 BTC / block at the moment) for a while. If you hold tokens that you bought for fiat and new tokens get created, increasing the supply, your tokens price could get reduced. A lower price will help transaction fees (in USD terms) and will encourage people to use the token instead of holding it. Another side of inflation or the new supply of tokens is their initial distribution. With Bitcoin everybody had the same access from the beginning; start mining to earn coins. The Terra ecosystem started with a genesis supply of tokens distributed to VCs, the community, treasury and only a small portion went to public sale.
Deflationioray tokenomics on the other hand reduces the supply in circulation. Depending on the amount of Ethereum transactions, Ethereum after EIP-1559 will burn more ETH than is created, reducing its supply in circulation. This could be great for holders of Ethereum as less supply means an increasing scarcity on the market, which could hike the price of ETH. The downside however is; a price increase will also lead to an increase in transaction fees when denominated in USD. High transaction fees reduce the utility of a token even when the fee in ETH will stay the same. Fewer people will use the network if it's expensive to do so.
Tokenomics in a DAO
So how can the above described tokenomics be used to coordinate and incentivise a bunch of strangers on the internet to work for the goals of a DAO? Some DAOs might work on products, like MakerDAO and Shapeshift, some collect NFTs and others provide services to, or content for all of them.
Most have two things in common; they need a community of people and they need capital in their treasury. People, to do work like development and design of products, researching NFTs or writing articles. This work can lead to income not only for the person creating it, but also adding to the DAO treasury. The treasury in turn can then be used to pay for expenses of the DAO, external resources or rewards to its members (payroll). This is the basic setup of a DAO:
A lot of this basic setup gets defined when starting a DAO and can of course be altered by governance proposals and votes. The genesis supply is the initial supply of tokens and they can be distributed in many ways. Some like to hand out tokens to early contributors, to investors or via “fair token” launch to anyone willing to stake some tokens. Most DAOs will make sure they have tokens in their treasury to fund projects and pay members.
A DAO might even decide to not have its own token, but use reputation for governance and pay members with stablecoins. There are pros and cons to both sides. Having an own token gives more control over the tokenomics and incentivises members. Members who hold the token increase its value by working to progress the DAO. The downside is that governance, payments and incentives are all mixed in one token which makes trying to control its behaviour more difficult.
Let’s say you wanted to increase the value of your token by enacting deflationary tokenomics. Deflation means reducing the total supply and can be achieved by burning tokens. All else equal, a reduction in supply will lead to an increase in price. So the DAO token is worth more when denominated in USD, ETH, BTC or bananas.
The remaining tokens (the ones not burnt) in the treasury can now buy more stuff. A member still getting paid the same amount of tokens will be able to trade them for more USD or ETH. A win-win. Why doesn’t everyone do this? A reduced supply and increase in price could lead people to trade less as they see their token as increasing in value over time, making it attractive to hold it. Fiat currencies tend to be inflationary for that reason. They want to increase spending and keep its utility up.
Any DAO willing to play central bank and manipulate tokenomics will have to do this carefully as it is a complex topic. Potentially buying back tokens to burn them has similar effects to share buybacks. It reduces the amount in circulation and increases scarcity, but requires sufficient funds in the treasury to execute. The income sources of the DAO are the main ways to fill up treasury and will most likely be in a different currency than the token since they are paid mostly from outside. An article written might generate revenue from a sponsor paying in USDC or ETH. These funds are then used to buy back the DAOs token and burn them. The more a DAO does this, the higher the price of its token will rise (given demand stays the same), the more USDC or ETH it will cost them to do this until it becomes unaffordable to do so. Binance does this on a regular basis, using profits to buy back and burn and has recently burned $500 million USD worth of tokens.
It all ties back to what a DAO wants to achieve. An expensive token will make it harder for new members to gain a share in the governance process. Genesis members will simply have such a large amount of tokens that new members will have it hard to climb the ranks even after putting in a lot of time and effort.
From a members perspective owning and holding tokens means believing in the mission of the DAO and having skin in the game. With every token, members own a piece of the DAO and are of course interested in increasing the value of their piece. Burning tokens is one way to increase the value, the other option is creating revenue streams to fill the funds and expand the DAO.
Since DAO tokens don’t really have a utility other than voting in governance and skin in the game for its members, a deflationary policy will be what most pursue. Inflation here only make sense when the price of the token is to be kept low so that it can be spent and used ie. It has utility.
DAOs are an experiment and for it to be a successful experiment, members will have to keep working for them and continue to be a contributing member of the community. The best communities win and who wouldn’t want to be part of a great community that pays you?
Interested in collaborating on tokenomics and discovering new protocols? Join our tokenomics discord channel.