Issue #74: Spectrum of Decentralization
You may have noticed I haven’t been publishing every week recently. The performance anxiety associated with publishing every Sunday while maintaining a demanding day job took its toll over the last year and a half. It would creep in every Thursday or Friday and not ease until I hit the “publish” button Sunday morning, nuking my ability to recharge over the weekend. Also, while this newsletter has been a net positive for me professionally, the time spent writing on weekends has had a net negative impact on my relationship and that trade just isn’t worth it to me anymore. I need to find a better balance.
So, going forward I will be publishing every two weeks and we’ll see how it goes.
As always, thank you for reading :)
Today’s topic…decentralization. We’re in the middle of the decentralization process at the Forta Foundation and it has encouraged me to think about when decentralization is a benefit, and when it becomes a hinderance.
The two most common forms of decentralization in Web 3 are decentralized infrastructure (i.e. hundreds of nodes each operated by a different entity), and decentralized governance (i.e. no centralized decision-making authority). We’re talking about the later today.
Like me and this newsletter, finding the right balance is key for long term sustainability.
Let’s zoom in…
Spectrum of Decentralization
Decentralization in Web 3 is often associated with the absence of a single authority calling the shots; the quintessential single authority being a company with an executive team. No company sitting in the middle? I guess this thing is decentralized!
In reality, decentralization isn’t binary. It lives on a spectrum.
One one end, centralized decision making in the form of a CEO or dictator. On the other end, decentralized decision making in the form of a cooperative or a democracy. My choice of words in the previous sentence was very intentional, for enterprises and countries are the most tangible examples for discussing decentralized governance.
Most mature Web 3 projects are somewhere in the middle of this spectrum. No discernible CEO or executive team, but supported by a relatively small group of independent contractors and grantees.
It’s important to remember that no project starts decentralized. You wouldn’t get anything done! Someone or some group of people have to be the catalyst. MakerDAO was probably the closest any project has come to starting decentralized, and it was a clusterfuck early on.
Decentralization is however the destination for many, and there’s a fairly well-worn path to move your project from left to right.
There’s a myriad of factors and functions you can look at to determine how decentralized a projects is or isn’t. Here’s an incomplete list:
What decisions are subject to token holder vote?
Who participates in governance?
What is the ownership distribution of the token?
What is the original team’s involvement in decision making?
Who has the ability to change, pause or shut down the protocol?
Is there a multisig with elevated privileges?
Who sits on the multisg?
If there is a security issue, who is responsible for fixing it?
How is the treasury managed?
For the worse, the transition from centralized to decentralized governance today is entangled with the issuance of governance tokens. In lieu of a legitimate exit strategy, most projects issue a token so they can say “see, we’re decentralized!” in the hopes of avoiding scrutiny from regulators, prematurely moving from left to right.
The path isn’t without trade offs, and projects should be very intentional about if, when and how they transition.
There are trade offs to being on either end of the spectrum. Centralized operations are exposed to regulation, corruption and single points of failure. Decentralized operations sacrifice efficiency and speed.
As a general rule, projects run by traditional companies will be more efficient and nimble than projects with a decentralized governance structure because decision making power accrues to a smaller group of people, who in most cases are in the best position to make those decisions.
The cold reality of true decentralized governance is that fewer decisions are made, and each decision takes longer to make. We see this play out over and over again in DeFi.
I couldn’t find discernible statistics on this, but my gut says most of the innovation in Web 3 happens before a project achieves decentralized governance. After that, communities seem to adopt a “let’s not screw this up” mentality.
The goal for each project should be finding the optimal point on the spectrum, while recognizing that the optimal point can shift over the life of a project.
For example, a brand new DeFi protocol will benefit from more centralized control because the frequency and magnitude of decisions that need to be made early on are much higher. You want to maintain flexibility, nimbleness and control over the vision.
Fast-forward a few years and the once new DeFi protocol is now a foundational protocol supporting an entirely new ecosystem of applications. The protocol is more likely to benefit from decentralized governance at this stage because predictability and reliability are now important features to preserve. If you’re constantly changing, it’s hard for an ecosystem to develop on top.
Ethereum is another great example of this. It has objectively thrived precisely because it doesn’t change very often.
As I was writing, I realized this lines up nicely with the Web 3 tech stack. As you move up the stack, the layers tend to benefit less and less from decentralization.
Can we centralize a few things?
The higher you are in the tech stack, the less you benefit from decentralization.
This means that user interfaces, aggregators and wallet applications are better off being managed by companies rather than communities. And frankly, users should want that.
I want a great UI/UX, timely technical support, and most importantly, accountability when things go wrong (because that drives behavior as much as incentives).
It’s been refreshing to come across a few projects recently that from the jump have said “we’re taking a centralized approach to building our product”. To me, this communicates some self-awareness about where their optimal point on the spectrum is. It also tells me they are committed to finding a real business model sans token.
At the end of the day, centralized and decentralized projects can and will exist harmoniously.
Thanks for reading,
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