I was hunting for hidden gems in the Solana ecosystem when I discovered a very unique kind of DAO (decentralized autonomous organization), called MetaDAO. This project is experimenting with a new system of governance called Futarchy, and if it works, it could have a huge impact on how DAOs choose to govern themselves in the future. One of the best ways to start a successful project is to find a problem and create a solution for it. The problem that MetaDAO is trying to fix is one people have been working on since the beginning of civilization, and that is how to govern effectively.
Why Democracy Sucks
I hate to be the one to tell you this, but as far as systems of governance go, democracy doesn't actually work very well. This is true even though modern society practically worships it as the ultimate ideal governance model, that's why you are always hearing about how we need to protect democracy, spread democracy, and let democracy have relations with your wife. Democratic governance is slow, it's messy, and it often makes horrible decisions that force the will of the majority onto the minority whether it is good for them or not. People have been trying to make it work for thousands of years, sometimes they'll get lucky and it will kind of work for a while, other times it wont work so well and you end up with such stupidity as voting in a complete dictator who never leaves, or voting to invade another country for no reason. Democratic governments also have a tendency to grow into bloated inefficient bureaucratic monsters over time that need to extract more and more resources from their citizens to maintain themselves. Personally I think we should all just govern ourselves instead of letting governments control us, extort us, and imprison us, but that's outside the scope of this blog.
Maybe countries are just too big to be run effectively as a democracy, what about something smaller, something like a DAO perhaps? Surely democracy can work with a DAO! Nope. Still doesn't work. I don't know if you have ever participated in DAO governance, but I have and it is a slow arduous process that few have the patience for. I mean just look at Uniswap, it's been years now since the airdrop and they still can't manage to vote to share the protocol's profits with token holders, even though that would seem like a no brainer decision that can drive a whole lot of value to the token. In another example, Compound's DAO has been dealing with a governance attack lately, with a bad actor managing to pass a proposal to give his group 24 million dollars worth of COMP tokens. The reason that proposal even passed was because hardly anyone showed up to vote on it, other than the bad actor. The DAO managed to negotiate their way out of it after the fact, but it's still a great example of how low voter participation can easily derail traditional DAO governance. This is also an issue in nation state democracies as well, voting is supposed to take the will of the people and implement it, but one of the reasons why this doesn't actually work is that not enough people show up to vote. Also, the ones that do vote might not be educated about what they are voting on, can be manipulated, or some of them will literally just vote randomly. These are problems in a DAO as well, especially when it comes to smaller stake holders, because they have less of an incentive to actually read through all the proposals and discussions in order to come to an educated decision. Time is money after all, and it takes a lot of time to read every thing you would need to in order to be an informed voter. Governance by voting is also slow and prone to gridlock when neither side of a particular issue can manage to get majority support and absolutely nothing gets done. The many problems with democratic DAO governance has led to an entire graveyard full of failed DAOs or failing DAO's slowly burning through what is left of their treasuries as they wander around like zombies, while bag holders bicker with each other in governance forums.
Just imagine (you may have been through this and not need to imagine it), things start to go south for a DAO, a bear market is raging, emotions are high, and those emotions are influencing members' votes. Often times, this scenario ends with people just giving up on escaping the hole they've slowly voted themselves into. Then they vote to dissolve the DAO and distribute the treasury to token holders. Although usually by this point nobody is walking away with very much at all and probably lost money.
Futarchy, A Solution To Governance?
There's got to be a better way right? How do you get people to make good governance decisions on a consistent basis? Well, what if the DAO had a magic crystal ball? Every time your DAO needed to make a decision, it could pull out the crystal ball and see a vision of what the future looks like if you decide one way or the other. Even if the vision is kind of blurry, it would still give you a huge advantage in your decision making!
This glimpse of the future is exactly what MetaDAO's new DAO governance model based on "Futarchy" enables. Futarchy is a relatively new system of governance that was developed by the economist Robin Hanson in 2000. It uses a variation of prediction markets called decision markets to make governance decisions. In a traditional public company governed by a board of directors, they will make a decision and then the market will react to that decision. For example, if ACME Corp decides that it would be a good idea to fire their CEO and hire a new one, they do so and make an announcement about this decision. The ACME stock price would then react to this news. If the market believes that this change is likely to have a positive impact on the company's future earnings potential, the stock price might go up; conversely, if the market thinks otherwise, the stock price could go down. With a futarchy decision market, instead of making a decision first and then finding out if the market thinks it was a good decision or not, you are basically testing the decision first to see how the market would react. This way you can find out what choice is best before making the choice and not after. This is why it's like a crystal ball for governance decisions, imagine if you could see the future before making important decisions, your decisions would be so much better. That sounds pretty good right? So how does it work?
In a futarchy system, instead of voting on the implementation of individual policies, they would vote on a metric. This metric would measure how well the organization or country was doing. Decision markets would then be used to pick whatever policies that will improve the metric the most. Through the power of the markets, the best proposal would trade at a higher price, and that would be the proposal that is implemented. People are voting with their dollars essentially, and because they have some tangible skin in the game that makes the voting process less abstract to them, they are more likely to choose the policy most likely to be successful instead of the policy they simply wish would be more successful.
Even though all markets aren't 100% efficient all of the time, they are still an excellent aggregator of disparate sources of information. It's almost like a computer that processes all known information about an asset or company and spits out a price that reflects all that information. Not only are they are better than polls, scientists, and governments at aggregating information and making predictions, they are also harder to manipulate. It's quite fascinating really, markets have been processing information on a global scale since before the internet even existed. A famous example of the power of markets is after the Challenger space shuttle explosion of 1986, the stock market figured out which NASA contractor was responsible for the explosion within a half hour, while it would take the Government investigation more than 5 months to assign blame.
Over time markets reward those who make accurate predictions, giving them more power in the form of capital than those who make inaccurate predictions. This means as long as the same market participants stay in the market, over time that market will produce increasingly accurate predictions. Governance decisions will become more efficient, and the organization or country should prosper and accomplish more in less time than it would with traditional democratic governance. Markets are also much harder to manipulate than voters and politicians, this is backed up by a 2006 research study that found manipulation attempts failed to make prices less accurate.
How It Works
How does MetaDAO implement futarchy? Futarchy for a crypto DAO is going to work a little different than it would for governing something like an entire country. In a futarchy country, people would be betting on metrics such as GDP or even something like high school drop out rates. In MetaDAO, the price of the DAO's governance token, META, is the metric they use in the decision markets. Participants are betting on whether or not a proposal will increase or decrease the price of META. The process goes like this:
First a DAO member will present a proposal, a proposal can be about anything that will affect the DAO's treasury and therefore the token price. To do this they will use the autocrat program, an open source program on Solana that creates two markets, a conditional pass market and a conditional fail market.
The proposal will include SVM (Solana virtual machine) instructions for what to do if the proposal passes, such as transferring an amount of USDC to a particular address.
Both markets will have a TWAP (time weighted average price) oracle to determine the final price of each market and decide whether the proposal has passed or failed after a predetermined amount of time.
In a traditional futarchy market, all fail trades are reverted if a proposal passes. On a blockchain it is not technically possible to revert transactions, so the MetaDAO fixes this problem by using a conditional vault program. Anyone wishing to trade the market simply deposits underlying assets, such as USDC, into the vault and the program mints conditional META tokens in return. One token is for pass and one token is for fail, indicated by a p or f in front of the token name. The vault will never have more liabilities than assets because the proposal will always either pass or fail, so a user will be able to redeem the conditional tokens for the tokens they put in originally after the market resolves to pass or fail.
Courtesy of Proph3t's Youtube Channel Market participants will place bets on whether the proposal will increase or decrease the price of META. If pMETA is trading at $100 and you think the proposal will decrease the value of the token to $90, you will sell pMETA at $100, hoping to book a $10 profit when the market resolves. If someone else thinks the proposal will increase the value of META to $110, they will buy pMETA at $100, hoping that they will get a $10 profit as well.
The market runs for the preset amount of time, and if during that time there is more demand for pMETA than fMETA, the final TWAP price will reflect a higher price for pMETA and the proposal passes.
Once the proposal passes, the SVM instructions will execute and do whatever the proposal said. All fMETA trades will be reversed, and traders will redeem their conditional tokens for the assets they initially deposited into the vault and collect any profit they made if they bet correctly. For example, if you deposited 100 USDC in the vault, and pMETA's final price was $110, you would redeem your 100 USDC for a META token that is worth 110 USDC and you now have 10 USDC in profit.
Potential for profit makes governance way more fun
An example of a proposal that recently passed on MetaDAO was a fundraising proposal to raise money from the sale of META tokens in order to hire a full time team. The "pass" market closed with a price of $435.62 versus a price of $386.22 for the "fail" market. This market processed over 14k in volume, which isn't a lot, but I'd imagine if futarchy catches on you will be seeing governance proposals with much more liquidity, which will likely lead to more accurate predictions and better outcomes for the DAOs.
Drawbacks
Futarchy isn't perfect of course, there are some downsides that MetaDAO openly describes in their documentation. For one, markets don't always trade on fundamentals, sometimes traders trade based on what they think other traders will do. So even if a trader thinks a proposal might be good for a token's price, they might bet on it failing if they think that's what everyone else is going to do. MetaDAO proposes this downside could possibly be mitigated by using gated markets and only whitelisting traders who have a track record of trading based on fundamentals. Another draw back to futarchy is that it isn't necessarily good for smaller decisions that aren't going to have much impact on the tokens price, but these kind of decisions still need to be made. There are potential solutions to that problem as well though, I would recommend checking out their white paper for more details. Finally, futaric markets are zero sum conditional markets, meaning you can't win without someone else losing. This means it might require incentives to get people to participate, but if the decisions being reached are leading to DAO growth, then these incentives can easily be sustainable.
Final Thoughts
Futarchy is still brand new as far as governance systems go, and the Solana ecosystem is a perfect place to experiment with it. There are already 3 DAOs using MetaDAO's governance system (Drift, Dean's List, and Future DAO) and I am going to be watching these DAOs very closely over the next couple of years. Either they will crash and burn and futarchy will be a failed experiment in a long line of failed governance systems, or maybe it will succeed and we may get to watch history being formed as futarchy DAOs grow to be the strongest DAOs in the entire ecosystem. It would be interesting to compare the growth trajectories of a futarchy DAO and a traditional DAO launched around the same time. If it does work, other DAOs will notice how well these futaric DAOs are doing and will probably strongly consider switching over, of course they will have to argue about it for six months in long winded governance forum posts and have multiple votes first!
MetaDAO is a perfect example of the kind of innovation that is one of the best aspects of crypto, while many projects are just copy pasta clones of older projects, every once in a while a project will actually do something unique. It's these projects that remind me why I love crypto so much. Instead of just trying to get rich quick off another metaverse or by restaking something 18 times until it has reached Inception levels of ridiculousness, they are literally tackling a problem that people have been trying and failing to solve for millenia. Crypto is the ideal sandbox to try to implement a market based approach to governance because people can easily set up transparent and liquid markets with very little friction. Rules can be set in stone in a smart contract so that participants aren't forced to trust someone's black box. Just imagine if governments used blockchain technology to make traditional elections more transparent and auditable. We've had the tools to ensure fair elections for over a decade! If governments and regulators can avoid stifling innovation by staying out of the way long enough, then these innovations, like MetaDAOs' futarchy governance, may have the potential to change the world for the better.
