DAOs: Why the Hype Doesn't Add Up

The Evolution from Cryptocurrency to Decentralized Autonomous Organizations

Not long ago, platforms such as Coinbase introduced the traditional financial world to the advantages of cryptocurrencies as a distinct asset category.

Cryptocurrencies and other decentralized technologies have spurred the development of applications designed to generate genuine societal benefit. These applications offer an automated method for establishing trust, but at a significantly reduced cost compared to conventional intermediaries like banks and governments, which have historically controlled trust as a service.

The Promise and Peril of DAOs

Building upon this decentralized shift, innovators are now discussing the next significant advancement – the decentralized autonomous organization, or DAO. These are envisioned as systems capable of guaranteeing trust at the organizational level.

However, while the issues DAOs aim to resolve are legitimate, their proponents often misinterpret the core of these problems. The proposed solutions, in many cases, may ultimately create more difficulties than benefits.

How Smart Contracts Build Trust

Decentralized applications are fundamentally built upon smart contracts – algorithms that execute when specific, predetermined conditions are fulfilled. This automation streamlines common decision-making processes.

Smart contracts establish trust by ensuring predictability. When a defined sequence of actions occurs, payment in tokens is guaranteed.

DAOs: The Next Step in Trust-Building?

Enthusiasts view DAOs as a logical progression in this trust-building process. They propose bundling a series of smart contracts to create a “smart” organization.

Within this framework, business decisions – including inventory management, cash flow, pricing strategies, and even personnel recruitment – would be determined by predetermined parameters.

Consider, for instance, a third-party seller on Amazon. This business operates based on several straightforward inputs: consumer demand for products, the cost of materials and production, and shipping expenses.

Determining the value of such a business for an investor, based on these inputs, should be relatively simple. A DAO could theoretically eliminate decisions driven by managerial bias or self-interest.

The Limitations of Algorithmic Management

Business leaders frequently make choices that may not maximize investor returns, often for reasons that are unclear or motivated by personal considerations.

For example, a decision to switch to a more expensive supplier could be a risk mitigation strategy against quality issues, or it could be due to a personal connection between the owner and the supplier.

A DAO could potentially run an entire business without human intervention, with all decisions made by smart contracts. If a product line underperforms, production and prices would automatically adjust.

Profits would then be distributed to DAO investors based on pre-approved smart contracts.

The Problem of "Edge Cases"

However, this reliance on smart contracts to solve isolated problems is vulnerable to what proponents dismissively label “edge cases.”

What happens in the event of a labor dispute or a fire at a manufacturing facility? It’s challenging to envision a smart contract responding more effectively than a human manager in such situations.

This is why businesses utilize traditional contracts alongside smart contracts. The reality of business relationships is far more complex and nuanced than can be captured by a series of algorithms.

DAOs could retain human employees or consultants to address these unforeseen circumstances, but it’s questionable whether individuals would be eager to resolve issues created by smart contracts.

The Difference Between Transactions and Relationships

Decentralized finance has generated value by improving the validation of quantifiable economic decisions. This success stems from the fact that an automated trust mechanism for transactions – even complex ones – has a clear metric (economic value) to assess the benefit of a decision.

However, a significant distinction exists between establishing trust in transactions and fostering trust in relationships, organizations, or communities.

Economic value is derived from transactions, while different forms of value are gained from participating in relationships and organizations. Organizations provide a sense of belonging, which ultimately contributes to our sense of self.

The Importance of Intuition and "The Game"

This sense of belonging arises from the constantly evolving network of reciprocal relationships within a group.

In organizational settings, we continually balance competing values when making decisions – should we prioritize actions that lack immediate economic benefit but increase the likelihood of future support?

Pierre Bourdieu described this totality of values as a “field,” emphasizing that each individual’s field is uniquely shaped by their historical and cultural background.

According to Bourdieu, navigating these relationships requires not a universal algorithm, but an intuitive understanding he termed a “sense of the game.”

This “sense of the game” distinguishes a visionary from a competent businessperson. More importantly, it separates a good person from a good manager.

The true test of whether a DAO can replace our current business structures, in my view, is when a smart contract can determine that it is appropriate to grant an employee a day off. For those passionate about DeFi, that should be the ultimate challenge.