Using blockchain applications in the real world.
Blockchains have grown beyond the monetary use case since Bitcoin was founded. Today we have dozens of applications doing billions in transaction volume in real-time. And this is just the beginning.
What are dApps?
A decentralised application is an application that can operate autonomously, typically through the use of smart contracts, that runs on a decentralized computing, blockchain system. Like traditional applications, DApps provide some function or utility to its users. However, unlike traditional applications, DApps operate without human intervention and are not owned by any one entity, rather DApps distribute tokens that represent ownership. These tokens are distributed according to a programmed algorithm to the users of the system, diluting ownership and control of the DApp. Without any one entity controlling the system, the application becomes decentralised.
A standard web app, such as Uber or Twitter, runs on a computer system that is owned and operated by an organization, giving it full authority over the app and its workings. There may be multiple users on one side, but the backend is controlled by a single organization.
DApps can run on a P2P network or a blockchain network. For example, BitTorrent, Tor, and Popcorn Time are applications that run on computers that are part of a P2P network, whereby multiple participants are consuming content, feeding or seeding content, or simultaneously performing both functions.
In the context of cryptocurrencies, dApps run on a blockchain network in a public, open-source, decentralized environment and are free from control and interference by any single authority. For example, a developer can create a Twitter-like dApp and put it on a blockchain where any user can publish messages. Once posted, no one—including the app creators—can delete the messages.
Decentralized applications (dApps) are digital applications or programs that exist and run on a blockchain or peer-to-peer(P2P) network of computers instead of a single computer. DApps (also called "dapps") are outside the purview and control of a single authority. DApps—which are often built on the Ethereum platform—can be developed for a variety of purposes including gaming, finance, and social media.
Decentralised applications have been popularised by distributed ledger technologies (DLT), such as the Ethereum blockchain or, more recently, the Hedera Hashgraph. DApps rely on the inherent security of both decentralisation and cryptography algorithms.
The trustless and transparent nature of DApps have led to greater developments in the utilisation of these features within the decentralized finance (DeFi) space.
DApps are divided into 17 categories: exchanges, games, finance, gambling, development, storage, high-risk, wallet, governance, property, identity, media, social, security, energy, insurance, and health.
How do dapps work?
Dapps have their backend code (smart contracts) running on a decentralized network and not a centralized server. They use the Ethereum blockchain for data storage and smart contracts for their app logic.
A smart contract is like a set of rules that live on-chain for all to see and run exactly according to those rules. Imagine a vending machine: if you supply it with enough funds and the right selection, you'll get the item you want. And like vending machines, smart contracts can hold funds much like your Ethereum account. This allows code to mediate agreements and transactions.
Once dapps are deployed on the Ethereum network you can't change them. Dapps can be decentralized because they are controlled by the logic written into the contract, not an individual or a company.
What are the Key takeaways?
Decentralized applications—also known as "dApps" or "dapps"—are digital applications that run on a blockchain network of computers instead of relying on a single computer.
Because dApps are decentralized, they are free from the control and interference of a single authority.
Benefits of dApps include the safeguarding of user privacy, the lack of censorship, and the flexibility of development.
Drawbacks include the potential inability to scale, challenges in developing a user interface, and difficulties in making code modifications.
What are the Advantages of dApps?
Many of the advantages of dApps center around the program's ability to safeguard user privacy. With decentralized apps, users do not need to submit their personal information to use the function the app provides. DApps use smart contracts to complete the transaction between two anonymous parties without the need to rely on a central authority.
Proponents interested in free speech point out that dApps can be developed as alternative social media platforms. A decentralized social media platform would be resistant to censorship because no single participant on the blockchain can delete messages or block messages from being posted.
Ethereum is a flexible platform for creating new dApps, providing the infrastructure needed for developers to focus their efforts on finding innovative uses for digital applications. This could enable rapid deployment of dApps in a variety of industries including banking and finance, gaming, social media, and online shopping.
- Promotes user privacy
- Resists censorship
- Flexible platform enables dApp development
What are the Disadvantages of dApps?
The use of dApps is still in the early stages, and thus it is experimental and prone to certain problems and unknowns. There are questions as to whether the applications will be able to scale effectively, particularly in the event that an app requires significant computations and overloads a network, causing network congestion.
The ability to develop a user-friendly interface is another concern. Most users of apps developed by traditional centralized institutions have an ease-of-use expectation that encourages them to use and interact with the app. Getting people to transition to dApps will require developers to create an end-user experience and level of performance that rivals already popular and established programs.
The challenge of doing code modifications is another limitation of dApps. Once deployed, a dApp will likely need ongoing changes for the purposes of making enhancements or to correct bugs or security risks. According to Ethereum, it can be challenging for developers to make needed updates to dApps because the data and code published to the blockchain are hard to modify.
- Experimental, may not be able to scale
- Challenges in developing a user-friendly interface
- Difficult to make needed code modifications
What Are Examples of Centralized and Decentralized Apps?
Well-known examples of centralized apps are Twitter, Facebook, Instagram, and Netflix. Banks and other financial institutions use centralized apps to allow their customers online access to their accounts.
Peepeth, a social network alternative to Twitter, is an example of a decentralized app. Cryptokitties is a dApp game that allows users to buy and sell virtual cats. MakerDAO is a decentralized credit service supporting the stablecoin Dai and allows users to open a collateralized debt position (CDP).
What Is the Difference Between a Centralized and Decentralized App?
A centralized app is owned by a single company. The application software for a centralized app resides on one or more servers controlled by the company. As a user, you'll interact with the app by downloading a copy of the app and then sending and receiving data back and forth from the company's server.
A decentralized app (also known as a dApp or dapp) operates on a blockchain or peer-to-peer network of computers. It enables users to engage in transactions directly with one another as opposed to relying on a central authority. The user of a dApp will pay the developer an amount of cryptocurrency to download and use the program's source code. The source code is known as a smart contract, which allows users to complete transactions without revealing personal information.
What Are Ethereum dApps?
These are decentralized applications that are powered and developed using the Ethereum platform. Ethereum dApps use smart contracts for their logic. They are deployed on the Ethereum network and use the platform's blockchain for data storage.
How can we classify dApps?
DApps can be classified based on whether they operate on their own block chain, or whether they operate on the block chain of another DApp. By this classification, DApps are divided into three types.
- Type I DApps operate on their own block chain. Block chains such as Bitcoin and Ethereum can be classified as Type I DApps.
- Type II DApps are protocols that operate on the block chain of a Type I DApp. These protocols themselves have tokens that are required for their function.
- Type III DApps are protocols that operate using the protocols of a Type II DApp. Similar to Type II DApps, Type III DApps also have tokens that are required for their function.
What are Smart Contracts?
Smart contracts are used by developers to maintain data on the block chain and to execute operations. Multiple smart contracts can be developed for a single DApp to handle more complex operations. Over 75% of DApps are supported by a single smart smart contract, with the remainder using multiple smart contracts.
DApps incur gas, that is fees paid to the validators of the block chain, due to the cost of deploying and executing the DApp's smart contracts. The amount of gas required of a DApp's functions is dependent on the complexity of its smart contracts. A complex smart contract of a DApp that operates on the Ethereum blockchain may fail to be deployed if it costs too much gas, leading to lower throughput and longer wait times for execution.
What about dApp Operations?
Consensus mechanisms are used by DApps to establish consensus on the network. The two most common mechanisms to establish consensus are proof-of-work(POW) and proof-of-stake(POS).
Proof-of-work utilises computational power to establish consensus through the process of mining. Bitcoin uses the proof-of-work mechanism. Proof-of-stake is a consensus mechanism that supports DApps through validators that secure the network by having a stake and percent ownership over the application.
A Bitcoin mining rig composed of dozens of graphics processing units
DApps distribute their tokens through three main mechanisms: mining, fund-raising and development. In mining, tokens are distributed as per a predetermined algorithm as rewards to miners that secure the network through transaction verification. Tokens can also be distributed through fundraising, whereby tokens are distributed in exchange for funding in the initial development phase of the DApp, as in an initial coin offering. Lastly, the development mechanism distributes tokens that are set aside for the purpose of developing the DApp through a pre-determined schedule.
There are three main steps that always occur in the formation and development of any DApp: the publishing of the DApp’s whitepaper, the distribution of initial tokens, and the distribution of ownership.Firstly, the whitepaper is published, describing the DApp’s protocols, features and implementation. Then, required software and scripts are made available to the miners and stakeholders that support the validation and fundraising of the network. In exchange, they are rewarded with the initial tokens distributed by the system. Lastly, as greater numbers of participants join the network, either through utilisation of the DApp or through contributions to the DApp’s development, token ownership dilutes, and the system becomes less centralised
What are dApps characteristics?
DApps have their backend code running on a decentralized peer-to-peer network, as opposed to typical applications where the backend code is running on centralized servers. A DApp can have frontend code and user interfaces written in any language that can make calls to its backend.
DApps have been utilized in decentralized finance (DeFi), in which dapps that perform financial functions on blockchains.
All the DApps have an identifying code that may only work on a specific platform. Not all DApps work on standard web browsers. Some of them only work on special websites with a customized code, adjusted to open certain DApps.
The performance of a DApp is tied to its latency, throughput, and sequential performance. Bitcoin's system for transaction validation is designed so that the average time for a Bitcoin to be mined is 10 minutes. Ethereum offers a reduced latency of one transaction every 15 seconds. For comparison, Visa handles approximately 10,000 transactions per second. More recent DApp projects, such as Solana, have attempted to exceed that rate.
Internet connectivity is a core dependency of blockchain systems, which includes DApps. High monetary costs also act as a barrier. Transactions of small monetary values can comprises a large proportion of the transferred amount. Greater demand for the service also leads to increased fees due to increased network traffic. This is an issue for Ethereum, which is attributed to increased network traffic caused by DApps built on the Ethereum blockchain, such as those used by Non-fungible tokens. Transaction fees are affected by the complexity of a DApp's smart contracts, and by the particular blockchain
What is an NFT?
A non-fungible token (NFT) is a non-interchangeable unit of data stored on a blockchain, a form of digital ledger. Types of NFT data units may be associated with digital files such as photos, videos, and audio. Because each token is uniquely identifiable, NFTs differ from blockchain cryptocurrencies, such as Bitcoin.
NFT ledgers claim to provide a public certificate of authenticity or proof of ownership, but the legal rights conveyed by an NFT can be uncertain. NFTs do not restrict the sharing or copying of the underlying digital files and do not prevent the creation of NFTs with identical associated files.
NFTs have been used as a speculative asset, and they have drawn criticism for the energy cost and carbon footprint associated with validating blockchain transactions as well as their frequent use in art scams.
An NFT is a unit of data stored on a digital ledger, called a blockchain, which can be sold and traded. The NFT can be associated with a particular digital or physical asset (such as a file or a physical object) and a license to use the asset for a specified purpose. An NFT (and, if applicable, the associated license to use, copy or display the underlying asset) can be traded and sold on digital markets. The extralegal nature of NFT trading usually results in an informal exchange of ownership over the asset that has no legal basis for enforcement, often conferring little more than use as a status symbol.
NFTs function like cryptographic tokens, but, unlike cryptocurrencies such as Bitcoin or Ethereum, NFTs are not mutually interchangeable, hence not fungible. While all bitcoins are equal, each NFT may represent a different underlying asset and thus may have a different value. NFTs are created when blockchains string records of cryptographic hash, a set of characters identifying a set of data, onto previous records therefore creating a chain of identifiable data blocks. This cryptographic transaction process ensures the authentication of each digital file by providing a digital signature that is used to track NFT ownership. However, data links that point to details such as where the art is stored can be affected by link rot.
What are the NFT blockchain standards?
Specific token standards have been created to support various blockchain use-cases. Ethereum was the first blockchain to support NFTs with its ERC-721 standard and is currently the most widely used. Many other blockchains have added or plan to add support for NFTs with their growing popularity.
ERC-721 was the first standard for representing non-fungible digital assets on the Ethereum blockchain. ERC-721 is an inheritable Solidity smart contract standard, meaning that developers can create new ERC-721-compliant contracts by copying from a reference implementation. ERC-721 provides core methods that allow tracking the owner of a unique identifier, as well as a permissioned way for the owner to transfer the asset to others.
The ERC-1155 standard offers "semi-fungibility", as well as providing an analogue to ERC-721 functionality (meaning that an ERC-721 asset could be built using ERC-1155). Unlike ERC-721 where a unique ID represents a single asset, the unique ID of an ERC-1155 token represent a class of assets, and there is an additional quantity field to represent the amount of the class that a particular wallet has. The assets under the same class are interchangeable, and the user can transfer any amount of assets to others.
Because Ethereum currently has high transaction fees (known as gas fees), layer 2 solutions for Ethereum have emerged which also supports NFTs:
- Immutable X – Immutable X is a layer 2 protocol for Ethereum designed specifically for NFTs, utilizing ZK rollups to eliminate gas fees for transactions.
- Polygon – Formerly known as the Matic Network, Polygon is a proof-of-stake blockchain which is supported by major NFT marketplaces such as OpenSea.
How do store NFTs off-chain?
NFTs involving digital art generally do not store the associated artwork file on the blockchain due to its size. The token functions in a way more similar to a certificate of ownership, with a web address pointing to the piece of art in question, making the art still subject to link rot. Because NFTs are functionally separate from the underlying artworks, anybody can easily save a copy of an NFT's image, popularly through a right click. NFT supporters disparage this duplication of NFT artwork as a "right-clicker mentality", comparing the value of a purchased NFT to that of a status symbol "to show off that they can afford to pay that much".
What about Plagiarism and fraud?
There have been cases of artists having their work sold by others as an NFT, without permission. After the artist Qing Han died in 2020, her identity was assumed by a fraudster and a number of her works became available for purchase as NFTs. Similarly, a seller posing as Banksy succeeded in selling an NFT supposedly made by the artist for $336,000 in 2021; with the seller in this case refunding the money after the case drew media attention.
The price paid for specific NFTs and sales volume of a particular author may be artificially inflated due to wash trading.
Security/Wallets Intro: “What, Why & How” Are We Going to Learn Security?
Why do you need blockchain wallet? First to send and receive bitcoins. Second to store your crypto safely and third to convert your crypto to fiat currency. Crypto wallets are equivalent to a bank account. They are Accessed with private keys.
How do we manage our public and private keys?
Wallets keep track of your private key to store, send & receive, and list transactions. They can be kept in warm and cold storage. Warm storage are smartphone apps and online wallets. Cold storage are paper, hardware and brain wallets.
You can choose your wallet type. Features can include multi-signature, privacy, network connections (security for full or 3rd party nodes) and who holds the keys (you or Coinbase).
How do keys work? Here is an example of Public Key to access Bitcoin address:
Bitcoin validating node will execute the locking and unlocking scripts in sequence. Locking scripts can be found in previous transaction output, specifies requirements for redeeming transaction Unlocking script can be found in transaction input, redeems the output of a previous transaction
Why Pay-to-script-hash? Offloads complicated script writing to recipients. Makes more sense from a payer-payee standpoint. Merchant (rather than customer) is responsible for writing correct and secure script. Customer doesn’t care what the script actually is P2SH is the most improvement to Bitcoin since inception
How do thin clients do simple payment verification?
Simple payment verification (SPV) is method for verifying if particular transactions are included in a block without downloading the entire block. It will keep track of your transactions only on lightweight or thin clients. SPV wallets contain a network node on the Bitcoin protocol without a blockchain.
Assumptions: incoming block headers are not from a false chain
- Connect to many different nodes
- Long term, chain is probably honest
- Can’t really afford to put the entire blockchain on your phone
- Creating a thin client is a decent tradeoff
What is Multi-signature account access? With regular Bitcoin addresses, each account 1 key or seed. Any single person can steal funds. With Multi-signature addresses, multiple signatures (i.e. 3 of 5 signatures) are needed to access an account.
What are some best practices for key generation? For starters, never reuse pseudonyms Why? Someone should not be able to determine how much bitcoin you own. Compromising one key is independent of the other ones. Keys are computationally easy to generate anyways. Wallet software will handle this
What are Wallet backups? like Hierarchical Deterministic (HD) wallets are deterministic and more convenient to know a seed or master key. Exchanges use these and have a one-way hash function with seed, index number and optional chain.
Decentralized finance (DeFi) offers financial instruments without relying on intermediaries such as brokerages, exchanges, or banks. Instead, it uses smart contracts on a blockchain. DeFi platforms allow people to lend or borrow funds from others, speculate on price movements on assets using derivatives, trade cryptocurrencies, insure against risks, and earn interest in savings-like accounts. DeFi uses a layered architecture and highly composable building blocks. Some applications promote high interest rates but are subject to high risk. Two of DeFi's goals are to reduce transaction times and increase access to financial services. The Ethereum blockchain popularised smart contracts, which are the basis of DeFi, in 2017. Other blockchains have since implemented smart contracts.
Some of the key attractions of DeFi for many consumers are:
- It eliminates the fees that banks and other financial companies charge for using their services.
- You hold your money in a secure digital wallet instead of keeping it in a bank.
- Anyone with an internet connection can use it without needing approval.
- You can transfer funds in seconds and minutes.
What are the key takeaways in DeFi?
Decentralized finance, or DeFi, uses emerging technology to remove third parties in financial transactions.
The components of DeFi are stablecoins, software, and hardware that enables the development of applications.
The infrastructure for DeFi and its regulation are still under development and debate.
What is DeFi? To understand decentralized finance and how it works, it helps to understand how centralized finance differs from DeFi.
Decentralized finance eliminates intermediaries by allowing people, merchants, and businesses to conduct financial transactions through emerging technology. This is accomplished through peer-to-peer financial networks that use security protocols, connectivity, software, and hardware advancements.
From anywhere you have an internet connection, you can lend, trade, and borrow using software that records and verifies financial actions in distributed financial databases. A distributed database is accessible across various locations; it collects and aggregates data from all users and uses a consensus mechanism to verify it.
Decentralized finance uses this technology to eliminate centralized finance models by enabling anyone to use financial services anywhere regardless of who or where they are.
DeFi applications give users more control over their money through personal wallets and trading services that cater to individuals.
What is Centralized Finance?
In centralized finance, your money is held by banks, corporations whose overarching goal is to make money. The financial system is full of third parties who facilitate money movement between parties, with each one charging fees for using their services. For example, say you purchase a gallon of milk using your credit card. The charge goes from the merchant to an acquiring bank, which forwards the card details to the credit card network.
The network clears the charge and requests a payment from your bank. Your bank approves the charge and sends the approval to the network, through the acquiring bank, back to the merchant. Each entity in the chain receives payment for its services, generally because merchants must pay for your ability to use credit and debit cards.
All other financial transactions cost money; loan applications can take days to be approved; you might not even be able to use a bank's services if you're traveling.
How Does DeFi Work?
Decentralized finance uses the blockchain technology that cryptocurrencies use. A blockchain is a distributed and secured database or ledger. Applications called dApps are used to handle transactions and run the blockchain.
In the blockchain, transactions are recorded in blocks and then verified by other users. If these verifiers agree on a transaction, the block is closed and encrypted; another block is created that has information about the previous block within it.
The blocks are "chained" together through the information in each proceeding block, giving it the name blockchain. Information in previous blocks cannot be changed without affecting the following blocks, so there is no way to alter a blockchain. This concept, along with other security protocols, provides the secure nature of a blockchain.
What are DeFi Financial Products?
Peer-to-peer (P2P) financial transactions are one of the core premises behind DeFi. A P2P DeFi transaction is where two parties agree to exchange cryptocurrency for goods or services with a third party involved.
To fully understand this, consider how you get a loan in centralized finance. You'd need to go to your bank or another lender and apply for one. If you were approved, you'd pay interest and service fees for the privilege of using that lender's services.
In DeFi, you'd use your decentralized finance application (dApp) to enter your loan needs, and an algorithm would match you up with peers that meet your needs. You'd then need to agree to one of the lender's terms and receive your loan.
The transaction is recorded in the blockchain; you receive your loan after the consensus mechanism verifies it. Then, the lender can begin collecting payments from you at the agreed-upon intervals. When you make a payment via your dApp, it follows the same process in the blockchain; then, the funds are transferred to the lender.
Is there a DeFi Currency?
DeFi is designed to use cryptocurrency for transactions. The technology is still developing, so it is difficult to determine precisely how existing cryptocurrencies will be implemented, if at all. Much of the concept revolves around stablecoin, a cryptocurrency backed by an entity or pegged to fiat currency like the dollar.
What is the Future of DeFi?
Decentralized finance is still in the beginning stages of its evolution. For starters, it is unregulated, which means the ecosystem is still riddled with infrastructural mishaps, hacks, and scams.
Current laws were crafted based on the idea of separate financial jurisdictions, each with its own set of laws and rules. DeFi’s borderless transaction ability presents essential questions for this type of regulation. For example, who is responsible for investigating a financial crime that occurs across borders, protocols, and DeFi apps? Who would enforce the regulations, and how would they enforce them?
Other concerns are system stability, energy requirements, carbon footprint, system upgrades, system maintenance, and hardware failures.
Many questions must be answered and advancements made before DeFi becomes safe to use. Financial institutions are not going to let go of one of their primary means of making money—if DeFi succeeds, it's more than likely that banks and corporations will find ways to get into the system; if not to control how you access your money, then at least to make money from the system.
What are some DeFi platforms?
MakerDAO is a prominent lending DeFi platform based on a stablecoin that was established in 2017. It allows users to borrow Dai, a token pegged to the US dollar. Through a set of smart contracts that govern the loan, repayment, and liquidation processes, MakerDAO aims to maintain the stable value of Dai in a decentralized and autonomous manner.
In June 2020, Compound Finance started rewarding lenders and borrowers of cryptocurrencies with, in addition to typical interest payments to lenders, units of a cryptocurrency called COMP. This token, which is used for running Compound, can also be traded on cryptocurrency exchanges. Other platforms followed suit, leading to "yield farming" or "liquidity mining," where speculators shift cryptocurrency assets between pools in a platform and between platforms to maximize their total yield, which includes not only interest and fees but also the value of additional tokens received as rewards.
Additionally, Aave introduced "flash loans", which are uncollateralized loans of an arbitrary amount that are taken out and provably paid back within a single blockchain transaction. While there can be legitimate uses for flash loans such as arbitrage, collateral swap, self-liquidation, and unwinding leveraged positions, many exploits of DeFi platforms have used flash loans to manipulate cryptocurrency spot prices.
Another DeFi protocol is Uniswap, which is a decentralized exchange (DEX) set up to trade tokens issued on Ethereum. Rather than using a centralized exchange to fill orders, Uniswap pays users to form liquidity pools in exchange for a percentage of the fees that traders earn by swapping tokens in and out of the liquidity pools. Because no centralized party runs Uniswap (the platform is governed by its users), and any development team can use the open-source software, there is no entity to check the identities of the people using the platform and meet KYC/AML regulations. It is not clear what position regulators will take on the legality of such platforms.
What are the key DeFi characteristics?
DeFi revolves around decentralized applications, also known as DApps, that perform financial functions on distributed ledgers called blockchains, a technology that was made popular by Bitcoin and has since been adapted more broadly. Rather than transactions being made through a centralized intermediary such as a cryptocurrency exchange or a traditional securities exchange, transactions are directly made between participants, mediated by smart contract programs.3These smart contracts, or DeFi protocols, typically run using open-source software that is built and maintained by a community of developers.
DApps are typically accessed through a browser extension or application. For example, MetaMask] allows users to directly interact with Ethereum through a digital wallet. Many of these DApps can be linked to create complex financial services. For example, stablecoin holders can lend assets like USD Coin or Dai to a liquidity pool in a borrow/lending protocol like Aave, and allow others to borrow those digital assets by depositing their own collateral. The protocol automatically adjusts interest rates based on the demand for the asset. Some DApps source external (off-chain) data, such as the price of an asset, through blockchain oracles.
What about DeFi errors? Coding errors and hacks are common in DeFi. Blockchain transactions are irreversible, which means that an incorrect or fraudulent DeFi transaction cannot be corrected easily.
What Does Decentralized Finance Do? The goal of DeFi is to get rid of the third parties that are involved in all financial transactions.
Is Bitcoin a Decentralized Finance? Bitcoin is a cryptocurrency. DeFi is being designed to use cryptocurrency in its ecosystem, so Bitcoin isn't DeFi as much as it is a part of it.
What Is Total Value Locked in DeFi? Total value locked (TVL) is the sum of all cryptocurrencies staked, loaned, deposited in a pool, or used for other financial actions across all of DeFi. It can also represent the sum of specific cryptocurrencies used for financial activities, such as ether or bitcoin.
What is a DAO? A decentralized autonomous organization (DAO), sometimes called a decentralized autonomous corporation (DAC), is an organization represented by rules encoded as a computer program that is transparent, controlled by the organization members and not influenced by a central government. A DAO's financial transaction record and program rules are maintained on a blockchain. The precise legal status of this type of business organization is unclear.
Open membership: Some DAOs operate with a fully open membership policy. In these cases, joining a DAO is as simple as joining their [Discord]
Token Gated Membership: Some DAOs limit membership via token gating. In this model, the DAO member must authenticate that they hold the DAO's NFT membership token in their crypto wallet before they may enter the DAO's Discord server or website. Token gating allows for a membership that is fixed in size but can automatically change over time as people transfer the NFTs. Due to blockchain transaction fees, this flexibility comes at a cost.
How do DAO Contributions work? Just like a C-corp, the output of a DAO is wholly dependent on the output of its members. How and what contribution entails varies greatly from DAO to DAO. There are many tools used to track member's contributions. These tools allow the DAO to compensate its members with funds from its treasury. The treasury can hold any type of token, including stablecoins and the DAO's own governance token.
What about DAO Governance?
- DAOs can create a governance token to coordinate its governance. These tokens are equivalent to shares in a traditional corporation. Governance is conducted through a series of proposals that members vote on through the blockchain.
- There are many ways to set up the relationship between governance token allocation and voting power. The number of tokens is directly linear with voting power with Quadratic voting and delegates.
- A DAO can set up a voting delegation system. For example, the ENS DAO put out a Call For Delegates when they set up their governance token. In such a system, an individual wallet may sign, on the blockchain, that they would like to delegate their voting power to a delegate of their choice for future DAO proposals.
What are the main issues with DAOs?
- Social: Shareholder participation in DAOs can be problematic. For example, BitShares has seen a lack of voting participation, because it takes time and energy to consider proposals.
- Legal status, liability, and regulation: The precise legal status of this type of business organization is generally unclear, and may vary by jurisdiction. On July 1, 2021, Wyoming became the first US state to recognize DAOs as a legal entity. American CryptoFed DAO became the first business entity so recognized. Some previous approaches to blockchain based companies have been regarded by the U.S. Securities and Exchange Commission as illegal offers of unregistered securities. Although often of uncertain legal standing, a DAO may functionally be a corporation without legal status as a corporation: a general partnership. Known participants, or those at the interface between a DAO and regulated financial systems, may be targets of regulatory enforcement or civil actions only if they are out of compliance with the law.
- Security: A DAO's code is difficult to alter once the system is up and running, including bug fixes that would be otherwise trivial in centralized code. Corrections to a DAO require writing new code and agreement to migrate all the funds. Although the code is visible to all, it is hard to repair, thus leaving known security holes open to exploitation unless a moratorium is called to enable bug fixing. There were several notable coding problems in 2016 with "The DAO"
These applications are in the infancy stage. Similar to the web from the 1990s. There's still a lot to be developed on top of core networks like Ethereum to create the internet of value.