The End of Scale: Blockchains, Community & Crypto Governance

We are excited to introduce the Outlier Ventures vision of the future and our investment thesis: The Convergence Ecosystem. The new data value ecosystem see data captured by the Internet of Things, managed by blockchains, automated by artificial intelligence, and all incentivised using crypto-tokens. For a summary of the thesis take a look at the introductory blog, today I want to take a deeper look at how important communities, governance and politics will play in this new era.

The industry is rapidly experimenting with new (and old) consensus mechanisms and decision-making techniques to coordinate and govern the emerging token economy. This experimentation began with Bitcoin and spawned thousands of tokens each with different rules to encourage or discourage behaviours within the network and allocate resources. Tokens and automated decision-making tools allow for the mass decentralisation of entire industries through a distributed coordination network. These networks are birthing new types of resource allocation structures such as decentralised and autonomous organisations, pushing forward our conception of what an organisation should be.

Crypto Tokens

Cryptographically secure and digitally scarce tokens are the key innovation that makes a group of technologies into a living, breathing ecosystem.

Tokens are a native digital coordination mechanism for the Convergence Ecosystem. Until now we have been retrofitting a financial infrastructure designed for cash and cheques to the digital, software-defined era. Ever since the emergence of Bitcoin, it has been clear that distributed ledgers with automated consensus held the potential for new forms of asset and value exchange. It was not until the ERC20 smart contract on Ethereum that experimentation around digital and programmable money began at significant scale. There is now a mechanism to fund open-source protocols that would have previously struggled to raise financing because open-source lacked a business model. As Albert Wenger has noted: “Now, however, we have a new way of providing incentives for the creation of protocols and for governing their evolution.” In early 2018, we are still at the very beginning of this evolution.

Over the next year or so, we expect to see a much clearer delineation between two types of tokens: crypto-assets and cryptocurrencies.

Cryptocurrencies will be designed to be a medium of exchange and crypto-assets will be designed to be a store of value and offer utility in a digital economy. Despite the fact dominant token ecosystems have a element of both; design challenges abound when attempting to incentivise usage with digital scarcity. It is unclear if single-token systems like Bitcoin and Ethereum can provide a sustainable balance; instead it is likely we will see multi-token systems as a more effective mechanism.

Experimentation is happening at a rapid pace on both the supply and demand side.

We have tokens with a deflationary economy, scheduled inflation and others that let the community vote on how and when new tokens are minted and/or burned. That is just programmable money supply; we are also experimenting with demand-side economics: variable transaction fees, demurrage charges, interoperability, and different consensus rules. Non-fungible tokens such as cryptokitties and the new Ethereum ERC 721 NFTs will also impact demand by incorporating historical ownership creating a subclass of crypto-assets called crypto-collectables. In addition, a currently underutilized token model is the crypto-consumable, a token that is programmed to reduce in value over time using a decay or burn function. This could be a continuous decline in value like a used car or a step decline like a ticket to a live event. This sort of token design would not be a store-of-value and would be be a powerful way to increase network token velocity. Our head of cryptoeconomics Eden Dhaliwal is working with Imperial College London and our portfolio companies to experiment and design sustainable token ecoomies.

Today the industry is focused on the initial distribution of these tokens in generation events. But the initial distribution is just one stage of building a sustainable ecosystem.

Token distribution schedules will become more sophisticated over time to include staged releases like traditional equity fundraises and mechanisms such as airdrops or token faucets. Continued network engagement will separate successful networks from unsuccessful ones. 2018 and beyond will show that the much of the ICO class of 2017 was prepared for initial distributions but underprepared for sustainable growth and utility. It must be remembered that prior to 2017, tokens were distributed to the network in exchange for utility; Bitcoin distributes Bitcoin as a reward for the secure clearing and settling of Bitcoin transactions. By giving away the majority of tokens upfront, many 2017 ICO projects are left with few tokens to reinvigorate demand later down the line. Most projects will fail, but the open-source nature of the ecosystem means learnings and code will be available to all. We can learn and build faster than ever. Unlike economic modelling or theory, the industry is testing economic theories in real-time with real money. It is the greatest experiment in socio-economics we have ever seen.

Tokens are the first native coordination mechanism for the digital and now machine economy.

We expect tokens to be issued at each layer of the stack to incentivise behaviours within each particular network and to connect with the broader ecosystem through a series of exchanges and interoperability protocols. The model would be similar to today’s global economy in which each nation issues and uses their own currency within their own borders and trades foreign currency with other countries for products and services that it needs. If Bitcoin is indeed the digital store-of-value in the same way gold is the physical store-of-value, it is likely we will see a digital hierarchy of money emerge with Bitcoin as an apex token, protocol tokens like ethereum, NEO and CARDANO Labo below Bitcoin, and utility or application tokens below the protocol tokens. As the Convergence economy develops and core infrastructure is developed, tokens will become increasingly liquid and frictionless leading to extraordinarily complex economic dynamics.

Communities & Governance

Tokens themselves are simply a type of value instrument, the rules under which these instruments are generated, distributed and managed are decided by community members through agreed governance rules.

These governance rules are set and decided by the community members using different forms of decision-making. For protocol tokens like Bitcoin, Ethereum et al., governance includes decision-making on changes to the network. The explosion of tokens and blockchain-based networks has led to a renaissance in thinking about governance, especially decentralised governance.

We have the Bitcoin network with a strong libertarian value-system valuing decentralisation above all else. And therefore there is a separation of ‘powers’ between developers, miners and users; no one stakeholder group can ‘force’ a decision on the others. This results in a very slow-moving but stable network. Ethereum, while still aiming to be a decentralised network, does not have quite as strong libertarian streak but does have more leadership with Vitalik Buterin who is often able to push through changes because the community follows his lead. See the 2016 summer fork to return funds lost through the DAO bug.

New projects are experimenting with automated governance in an attempt to avoid messy human decision-making.

Tezos is hoping to enable governance to be ‘upgraded’ through community voting. dfinity-network is doing something similar but allowing retroactive changes to the ledger. These types of ‘on-chain’ governance as they are known are still technically immature and open up a whole new attack vector. Other projects like Augur and Gnosis are testing futarchy, a type of voting model in which the community defines a set of values and then prediction markets are used to decide which decisions will maximise those values.

We are also seeing exciting experiments with curation markets and reputation staking from projects like Colony and @Ocean_protocol. This type of decentralised and automated model is extended further with decentralised autonomous organisations (DAOs). In these sorts of organisations, all decision-making is offloaded to smart contracts and decisions would be automated based on the rules encoded in the smart contracts. One of the first examples was of course TheDAO, a DAO for venture funding, that was never able to allocate capital after a bug was exploited. Other live examples include Dash, a privacy-focused cryptocurrency; Digix, a gold payment system project; and Aragon, a platform hoping to provide the entire governance service for other token projects.

The end-point of blockchain-based automation will come through AI DAOs as articulated by Trent McConaghy These theoretical organisations will be managed and owned by AI algorithms enabling AI to interact in the economy by earning and spending tokens. An AI could own a fleet of self-driving vehicles, charging fares which it then uses to pay for maintenance, tolls, insurance, and taxes.

Blockchains and tokens will be issued, distributed, governed and owned in increasingly diverse ways. Governing models will evolve and we are likely to see an industry with multi-types of governance each co-evolving around the belief-systems of the community they serve.

Bitcoin will remain staunchly libertarian; Ethereum has more of a central leadership which appeals to pragmatic developers; and self-sovereign identity underpins the value-system of the Sovrin Foundation blockchain. We will soon see more projects with social democratic values that prioritise wealth redistribution through ‘network’ (read: State) intervention or pre-agreed taxation rules. Others will prioritise ethical and environmental values with green-friendly policies that use non-consumption based consensus mechanisms (eg Chia) and focus on common-ownership and resource sharing.

“The Convergence Ecosystem should support a diverse range of different governing models that support different communities. There is no optimal model of governance; only a perpetual tension to maintain alignment amongst stakeholders.”

We have millenia of literature exploring politics and governance, everything from Plato’s five regimes to John Locke’s libertarianism to Jeremy Bentham’s utilitarianism. Philosophers and political scientists will never settle on an ‘optimal’ governance model because ‘optimal’ can only exist for individuals in limited contexts never for society at large.

As with almost all information and communications technologies that have come before, blockchain technology was born decentralised.

Bitcoin with the first blockchain implementation was a libertarian movement created as a direct reaction to a centralised financial system. Early adopters shared this value-system. As more and more blockchains and tokens are created, the industry attracts an audience with different belief-systems. As it continues to mature, different communities will have unique objectives and priorities that will require specific design trade-offs. The financial community requires more and faster transactions and will sacrifice decentralised consensus to achieve that, as can be seen with Ripple and it’s XRP token. The healthcare community must adhere to privacy regulations and so will require more privacy than public blockchains currently afford. The ecosystem will support a variety of communities using different governance models with differing levels of decentralisation and automation depending on the values of the community and the needs of the market.

We are in the very early stages of understanding how to design token economies and the governance models that support them.

As an industry, we must be more supportive of new ideas and implementations. It is not a zero-sum game in a growing market. Some tokens, communities and governance experiments will fail. Let’s learn quickly from their failures and compound learnings.

The biggest advantage the decentralisation community has is momentum and the brightest minds from around the world are working together to solve tough problems. Communities will co-exist and thrive. Let’s be inclusive and supportive.

For more on how crypto-communities and crypto-tokens will integrate with the Internet of Things and Artificial Intelligence, read the full paper here.

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