There’s nothing quite like a market crash to embolden crypto-sceptics and make the mainstream question everything. We’ve entered a phase where the schadenfreuders are louder than the shillers, and the lights on the community’s guiding torches have dimmed. 

It’s easy to dismiss the gleeful voices shouting “I told you so”, but engaging in critical discussion is healthy and necessary to progress. The critiques of Web3 range from absurd to moot to genuine and address blockchains, NFTs, cryptocurrencies, the culture and Web3 itself.

One specific problem in Web3 is that of hyperfinancialization. This is particularly interesting because while hyperfinancialization is one of its biggest issues, financialization is an intrinsic benefit of Web3.

The word ‘financialization’ is commonly used to describe the increasing size of a country’s financial sector relative to its whole economy. In Web3, I’m taking it to refer to the value and power placed on financial capital. One of the most glaring symptoms of hyperfinancialization in Web3 is governance plutocracy.

A plutocracy is a society ruled by wealth, one where money = power. One might remark that money is always power,, but within the governance of Web3 projects this relationship couldn’t be more explicit. The prevalent method of decision making in most DAOs is via ‘coin voting’, where one fungible token = one vote. Money literally is power in this method of governance.

Coin voting is often defended by pointing out that the biggest token holders have the greatest interest in a project succeeding, and should therefore have more influence over it. However, this way of thinking misses an important point: an individual actor’s interest in a project is not just determined by their ownership share of the project itself, but also the size of the investment relative to their whole portfolio. An investor may be the biggest token holder in a specific project, but this investment could be the smallest one in their portfolio. 

One outcome of this form of governance is that financial interest is valued over any other interest. The values and interests of stakeholder groups like DAO workers and users are underrepresented relative to investors. As a result, proposals may skew towards decisions directly impacting financial value, at the expense of those impacting other community values.

One response to these challenges has been to distribute tokens to stakeholders who didn’t buy their way in. We’ve seen this play out with airdrops, where tokens are retroactively distributed to protocol users and contributors as a way of sharing financial upside and voting power. Additionally, active protocol contributors are able to earn tokens as payment for contribution via bounties or part-time work.

As Li Jin put it “A core philosophical tenet of web3 is that there are more ways to provide value to an ecosystem than through capital — and furthermore, that value should be able to be earned, not just purchased”.

Despite community token allocations, the distribution of tokens remains very uneven in most projects. Taking the example of Uniswap, which is the top DAO coin by market cap - a small number of employees and investors hold 40% of Uniswap tokens, giving them outsized power in governance decisions.

In a recent proposal in Lido DAO on the topic of treasury diversification the impact of whales in coin voting was shown on full display. The outcome of the vote was effectively determined by the votes of two whales owning 17M and 15M LDO each (combined they made up 49% of the vote).

There have also been prominent discussions around a recent MakerDAO governance proposal that saw criticism because of the power of a few VC firms to sway the outcome of the vote.

Hyperfinancialization is not intrinsic to Web3, and is a solvable problem. While coin voting is common practice, it is not the only way to distribute influence to project stakeholders. The beauty of voting via rules written in code is that we can make them custom and complex such that they balance various needs and objectives.

Quadratic voting is one way of increasing the influence of small token holders. This voting mechanism allows individuals to use additional votes to indicate how much they care about an issue. Individuals’ aggregate number of votes is tied to the ownership stake in the organization, but by spending multiple votes they can increase their relative influence over the issue. 

Using additional votes gets increasingly more expensive, so this mechanism is vulnerable to a Sybil attack, whereby an individual uses several wallets to vote multiple times. The first vote on each wallet is cheap, so this mechanism gets you more influence at a cheaper price than casting 4 votes from one wallet.

A more Sybil-resistant way to address governance plutocracy is to introduce a non-financial governance token. In order for a token to be non-financial, it needs to be non-tradable (aka non-transferable or soulbound). This is because governance tokens that can exchange hands will be sold to the highest bidder. Soulbound tokens offer more possibilities for Sybil resistance because a collection of diverse SBTs based on contribution history can be used as a reliable indicator that an individual is a unique human.

The beauty of non-financial governance tokens is that they can be distributed in any manner of ways. There remains a high degree of flexibility and customization, so projects are able to create governance systems that reflect the complexities of their communities.

“Transferable tokens held for some period could unlock the right to SBTs that confer further governance rights over a protocol. SBTs open a rich possibility space to experiment with mechanisms that maximize community engagement and other goals.” (Weyl, Ohlhaver, Buterin)

One straightforward way that a community might employ soulbound tokens for governance is to distribute one token to each unique individual participating in a project. Tools such as Proof Of Humanity and BrightID can be used to verify the uniqueness of individuals before they are allocated a governance token. Offline cooperatives and countries have long used the principle of 1 person = 1 vote to ensure that the interests of individuals are protected. With soulbound tokens, this method of governance becomes accessible to Web3.

Soulbound tokens can also be used to generate a complex governance model that takes multiple inputs into account. There might be different kinds of governance tokens with varying weights granted based on depth of protocol participation, for example. Alternatively, there might be different governance tokens for each stakeholder group, with each token having the scope over a particular set of decisions.

Using non-transferable tokens for governance doesn’t have to come at the exclusion of traditional ERC-20 coin voting. Optimism has recently established a two-chamber governance system whereby OP (transferable) token holders control the ‘Token House’ and holders of the non-transferable Citizenship tokens govern the ‘Citizens House’. This is an interesting experiment and will likely provide valuable insights for new organizations designing their voting system (such as Lido, which is exploring bicameralism as well).

Soulbound tokens are one of the key mechanisms with which we can start to definancialize Web3 and introduce more nuance into governance. While there has been a lot of criticism of SBTs in recent months, the challenges raised are addressable. Before throwing the baby out with the bathwater, it is important to remember that SBTs will be a key tool in the next generation of sybil-resistant and non-financialized governance.

At Otterspace, we believe that the future of Web3 is less financialized, and that non-transferable tokens are an important piece of infrastructure to make this future possible. We’re building a protocol and app to leverage the power of badges - join the Otterspace waitlist to start using non-transferable tokens in your community governance.

Subscribe on Mirror and Twitter to stay tuned for new releases.

There’s nothing quite like a market crash to embolden crypto-sceptics and make the mainstream question everything. We’ve entered a phase where the schadenfreuders are louder than the shillers, and the lights on the community’s guiding torches have dimmed. 

It’s easy to dismiss the gleeful voices shouting “I told you so”, but engaging in critical discussion is healthy and necessary to progress. The critiques of Web3 range from absurd to moot to genuine and address blockchains, NFTs, cryptocurrencies, the culture and Web3 itself.

One specific problem in Web3 is that of hyperfinancialization. This is particularly interesting because while hyperfinancialization is one of its biggest issues, financialization is an intrinsic benefit of Web3.

The word ‘financialization’ is commonly used to describe the increasing size of a country’s financial sector relative to its whole economy. In Web3, I’m taking it to refer to the value and power placed on financial capital. One of the most glaring symptoms of hyperfinancialization in Web3 is governance plutocracy.

A plutocracy is a society ruled by wealth, one where money = power. One might remark that money is always power,, but within the governance of Web3 projects this relationship couldn’t be more explicit. The prevalent method of decision making in most DAOs is via ‘coin voting’, where one fungible token = one vote. Money literally is power in this method of governance.

Coin voting is often defended by pointing out that the biggest token holders have the greatest interest in a project succeeding, and should therefore have more influence over it. However, this way of thinking misses an important point: an individual actor’s interest in a project is not just determined by their ownership share of the project itself, but also the size of the investment relative to their whole portfolio. An investor may be the biggest token holder in a specific project, but this investment could be the smallest one in their portfolio. 

One outcome of this form of governance is that financial interest is valued over any other interest. The values and interests of stakeholder groups like DAO workers and users are underrepresented relative to investors. As a result, proposals may skew towards decisions directly impacting financial value, at the expense of those impacting other community values.

One response to these challenges has been to distribute tokens to stakeholders who didn’t buy their way in. We’ve seen this play out with airdrops, where tokens are retroactively distributed to protocol users and contributors as a way of sharing financial upside and voting power. Additionally, active protocol contributors are able to earn tokens as payment for contribution via bounties or part-time work.

As Li Jin put it “A core philosophical tenet of web3 is that there are more ways to provide value to an ecosystem than through capital — and furthermore, that value should be able to be earned, not just purchased”.

Despite community token allocations, the distribution of tokens remains very uneven in most projects. Taking the example of Uniswap, which is the top DAO coin by market cap - a small number of employees and investors hold 40% of Uniswap tokens, giving them outsized power in governance decisions.

In a recent proposal in Lido DAO on the topic of treasury diversification the impact of whales in coin voting was shown on full display. The outcome of the vote was effectively determined by the votes of two whales owning 17M and 15M LDO each (combined they made up 49% of the vote).

There have also been prominent discussions around a recent MakerDAO governance proposal that saw criticism because of the power of a few VC firms to sway the outcome of the vote.

Hyperfinancialization is not intrinsic to Web3, and is a solvable problem. While coin voting is common practice, it is not the only way to distribute influence to project stakeholders. The beauty of voting via rules written in code is that we can make them custom and complex such that they balance various needs and objectives.

Quadratic voting is one way of increasing the influence of small token holders. This voting mechanism allows individuals to use additional votes to indicate how much they care about an issue. Individuals’ aggregate number of votes is tied to the ownership stake in the organization, but by spending multiple votes they can increase their relative influence over the issue. 

Using additional votes gets increasingly more expensive, so this mechanism is vulnerable to a Sybil attack, whereby an individual uses several wallets to vote multiple times. The first vote on each wallet is cheap, so this mechanism gets you more influence at a cheaper price than casting 4 votes from one wallet.

A more Sybil-resistant way to address governance plutocracy is to introduce a non-financial governance token. In order for a token to be non-financial, it needs to be non-tradable (aka non-transferable or soulbound). This is because governance tokens that can exchange hands will be sold to the highest bidder. Soulbound tokens offer more possibilities for Sybil resistance because a collection of diverse SBTs based on contribution history can be used as a reliable indicator that an individual is a unique human.

The beauty of non-financial governance tokens is that they can be distributed in any manner of ways. There remains a high degree of flexibility and customization, so projects are able to create governance systems that reflect the complexities of their communities.

“Transferable tokens held for some period could unlock the right to SBTs that confer further governance rights over a protocol. SBTs open a rich possibility space to experiment with mechanisms that maximize community engagement and other goals.” (Weyl, Ohlhaver, Buterin)

One straightforward way that a community might employ soulbound tokens for governance is to distribute one token to each unique individual participating in a project. Tools such as Proof Of Humanity and BrightID can be used to verify the uniqueness of individuals before they are allocated a governance token. Offline cooperatives and countries have long used the principle of 1 person = 1 vote to ensure that the interests of individuals are protected. With soulbound tokens, this method of governance becomes accessible to Web3.

Soulbound tokens can also be used to generate a complex governance model that takes multiple inputs into account. There might be different kinds of governance tokens with varying weights granted based on depth of protocol participation, for example. Alternatively, there might be different governance tokens for each stakeholder group, with each token having the scope over a particular set of decisions.

Using non-transferable tokens for governance doesn’t have to come at the exclusion of traditional ERC-20 coin voting. Optimism has recently established a two-chamber governance system whereby OP (transferable) token holders control the ‘Token House’ and holders of the non-transferable Citizenship tokens govern the ‘Citizens House’. This is an interesting experiment and will likely provide valuable insights for new organizations designing their voting system (such as Lido, which is exploring bicameralism as well).

Soulbound tokens are one of the key mechanisms with which we can start to definancialize Web3 and introduce more nuance into governance. While there has been a lot of criticism of SBTs in recent months, the challenges raised are addressable. Before throwing the baby out with the bathwater, it is important to remember that SBTs will be a key tool in the next generation of sybil-resistant and non-financialized governance.

At Otterspace, we believe that the future of Web3 is less financialized, and that non-transferable tokens are an important piece of infrastructure to make this future possible. We’re building a protocol and app to leverage the power of badges - join the Otterspace waitlist to start using non-transferable tokens in your community governance.

Subscribe on Mirror and Twitter to stay tuned for new releases.