Introduction
An innovative governance proposal on Lido, the preeminent liquid staking protocol, has largely gone under the radar. The crux of the proposal advocates for a Dual Governance scheme [1], in which stETH holders will be granted governing power of the Lido protocol in addition to LDO holders.
As we delve into the particulars of this proposal, we come to realize that DAOs, despite their bells and whistles, must confront age-old challenges that have long perplexed organized communities. Although DAOs are equipped with novel features such as “self-executing smart contracts” and “governance tokens on permissionless blockchains”, the crux of governance ultimately boils down to crafting effective institutional designs.
Like the delicate art of nation building, DAOs call for a shared sense of purpose, cooperation, and a robust decision-making framework. Both endeavors involve traversing complex power dynamics and balancing competing interests in pursuit of collective goals. In this piece, we will compare the Dual Governance scheme to the U.S. Congress's bicameral structure, highlighting their shared checks and balances approach, while also exploring their distinct nuances.
Lido’s Dual Governance Proposal
Lido is a Decentralized Autonomous Organization (DAO) providing a liquid staking solution for Ethereum. The Lido ecosystem is currently governed by its protocol token, LDO, which empowers users to vote on activities, upgrades, and changes specific to the platform. Lido's stETH derivative tokens [2] maintain a 1:1 ratio with the price of ETH, representing users' staked ETH holdings.
Given the sizable amount of staked ETH the protocol controls (6.17Mn ETH, or $11.5Bn) [3], core developers at Lido believe something has to change with how the Lido DAO is governed to prevent moral hazards.
The Dual Governance proposal therefore seeks to address the principal-agent problem that emerges in the current governance state, where LDO holders—the agents—may act in their own self-interest, contrary to the stETH holders' interests—the principals.
In this context, stakers' interests align more closely with the Ethereum network, while LDO holders' interests are less congruent. In a worst-case scenario, LDO holders could even stage a heist [4] and steal the ETH staked in the smart contract, abusing their controlling power over liquid staking codes. This is because the Lido DAO has the ability to upgrade the stETH contract, enabling it to burn stETH from any address and mint it to a different address. This means that, although the DAO doesn't directly control the ETH backing stETH, it could effectively steal funds from users by altering the code to burn their stETH and mint it elsewhere.
A Dual Governance scheme aims to better align the incentives of both parties, ensuring that such a worst-case scenario never occurs. Under this scheme, LDO holders still propose protocol changes, but stakers gain veto rights and can reject proposals considered "Critical governance decisions." This veto power is crucial in protecting stakers' interests and preventing governance capture or protocol misalignment.
The design of the Dual Governance mechanism aims to give active stETH community members time to react to controversial decisions. First, an execution timelock is imposed on all critical decisions, giving the community a chance to express disagreement via the Veto Escrow smart contract. If a small portion of the community (e.g., 5%) disagrees, the governance enters a temporary Veto Voting state.
Should a large percentage of the total stETH supply join the escalation, governance transitions to a Veto Negotiation state, allowing stakers to negotiate with governance. Successful negotiations resume normal governance operations. However, if negotiations fail or an extremely large percentage of stETH supply joins the escalation, a Global Settlement is triggered, dismantling the protocol and returning ETH to stakers.
Source: https://hackmd.io/@lido/BJKmFkM-i
Veto Lift Voting is a mechanism that allows stETH holders to permit the execution of specific governance decisions even during a disagreement between LDO and stETH holders. When governance is in the Veto Negotiation state, stETH holders with locked tokens in the Veto Escrow can initiate a vote with two possible outcomes: lifting the veto or not lifting the veto.
The voting lasts for a set duration, with the initial two-thirds of the period allowing votes for either outcome and the last third only permitting votes for not lifting the veto. A successful vote requires meeting a minimum quorum and having more voting power in favor of lifting the veto. If successful, the veto is lifted, and the decision can be executed; otherwise, the decision remains non-executable. The two-phase mechanism ensures fairness and prevents sudden outvoting without a chance to react.
Bicameralism - Dual Chamber Legislature
The design of Lido’s dual governance scheme mimics principles of bicameralism [5], which refers to a setup of government legislature in which the law-making body consists of two chambers or houses.
The U.S. Congress, consisting of the House of Representatives and the Senate, serves as a prime example. In devising the structure of Congress, the Framers also faced their own version of principal-agent problem, which is one between the elected officials (agent) and citizens (principal). The bicameral design seeks to strike a balance between preventing the government from being captured by populist “mob rule” through the Senate and, at the same time, from being too distant from the people’s popular opinion and becoming detached from its electorate.
Of course, such a constitutional arrangement is as much a result of deliberate design as a historical inevitability since it is deeply rooted in realpolitik and the tug-of-war between populous and less populous states. Nonetheless, the Great Compromise of 1787 [6] eventually allowed for lower chamber representation based on population and upper chamber representation based on equality among the states.
During the conception of the U.S. Constitution, the Framers deliberately designed different membership [7] and scopes of governance for the two Houses and incorporated the principle of check and balance to prevent abuse of power and to protect civil liberties.
Source: American Government: Power and Purpose (2017)
For instance, the number of representatives in the House is directly related to each State's population. The representatives are elected every two years. In contrast, members of the Senate are appointed by the state legislatures for six-year terms, which are staggered so that one-third of the senators will be re-elected every two years. Furthermore, each state receives equal representation in the Senate, with two senators per state, irrespective of population.
The Constitution assigns distinctive scopes to the House and the Senate regarding functions and power. The Senate holds power to ratify treaties and approve presidential appointments, while The House has the sole authority to originate revenue bills (tax bills). And at the end, each legislative body's approval is required to enact a law.
Source: A Scientist’s Guide for Engaging in Policy in the United States
Dual Governance and Bicameralism
Many parallels between dual governance and bicameralism can be observed. On a high level, both seek to mitigate the principal-agent problem through better alignment of interests and both seek to limit the power of the governing body by introducing elements of checks and balances. Examining further, we can observe four main rationales for a bicameral legislature and dual governance scheme: 1) representational diversity, 2) virtues of delay, 3) specialization and 4) predictability.
1）Representational Diversity. In the U.S. Congress, the Senate serves as a check on popular passions and thus on the possibility of majority tyranny from the house of representatives [8]. In the case of Lido, dual governance broadens representational diversity by incorporating the interests of stETH holders alongside those of LDO holders. Here, stETH holders serve as a safeguard against governance capture by LDO whales, ensuring a more balanced decision-making process.
2) Virtue of Delay. The bicameral legislature and dual governance scheme increase the complexity of the governance process. The need to conciliate a bill in both chambers in the case of Congress and the introduction of a time lock for Lido reduce the prospect of arbitrary changes and therefore thwart the impulse for governing parties to resort to quick fixes when complex problems would benefit from more deliberative and considered treatment. Of course, on the flip side, such a design can also lead to more gridlock situations in which nothing gets passed.
3) Specialization. Hamilton and Madison, in The Federalist Papers #62, argued:
“It is not possible that an assembly of men called for the most part from pursuits of a private nature, continued in appointment for a short time, and led by no permanent motive to devote the intervals of public occupation to a study of the laws, the affairs, and the comprehensive interests of their country, should, if left wholly to themselves, escape a variety of important errors in the exercise of their legislative trust.” (The Federalist Papers #62) [9]
Senators, benefiting from longer terms, are better equipped to amass expertise and human capital pertinent to governance. Indeed, a crucial responsibility of the Senate is to review and refine matters originating in the House. House members, being closer to their constituents, may more accurately represent popular opinion. For Lido’s dual governance scheme, it is not unreasonable to posit that LDO holders are better at decisions relating to protocol parameters and maintenance while stETH holders are better suited to evaluate proposals from the perspective of Ethereum’s network security.
4) Stability and Predictability. In Federalist #62 [10], Madison also articulated, "No government, any more than an individual, will long be respected without being truly respectable; nor be truly respectable, without possessing a certain portion of order and stability". Bicameralism curtails the fickleness of policy-making, while Lido's dual governance adds to the sense of security for its stakers, which is important as the protocol matures.
Constitutional Engineering & DAO Design
Bicameralism is, of course, not a uniquely American phenomenon as its historical roots can be traced back to classical societies [11] in Greece and Rome. Modern bicameralism originated in the U.K. and is also adopted in many other countries [12], each with variations in their exact designs.
Source: A Practical Guide to Constitution Building
The comparison outlined above is made at a micro-level, focusing specifically on the U.S. Congress and Lido's dual governance proposal. On the broader level, designing a DAO is not dissimilar from conceiving a constitution. In essence, they are institutional arrangements consisting of systems, processes, and policies for the purpose of coordinating activities efficiently for a common objective. As such, principles in constitutional engineering, a topic that had been much more well-studied, can serve as great reference material for the development of nascent DAO designs.
One area of comparative constitutional structures is the evaluation of veto gates and veto players [13]. Veto Gate refers to a formal institution that serves as a point in the legislative process where a proposal can be blocked, and Veto Player refers to any person or group who has the capacity to block a proposal.
For instance, the presidential system with a bicameral legislature in the U.S. has three veto gates: presidential veto, the two houses and the Supreme Court. The number of veto players, however, depends on the dynamics of political parties. The relative dominance of a party can lead to one veto player controlling all three veto gates.
Lido’s dual governance scheme is perhaps the first DAO to attempt to install a veto gate in its institutional design. How well the scheme will serve its designed purpose, nonetheless, is less certain and will hinge on the interactions of veto players. For instance, whether stETH holders will act as a monolithic group with homogeneous interests remains to be seen. As Lido also provides liquid staking on multiple other chains such as Polygon, Solana and Avalanche, the potential inclusion (of lack thereof) of non-ETH stakers in Lido DAO’s governance will further complicate the dynamic of LDO holders and stakers.
Optimism Collective: Token House & Citizens' House
Having explored Lido's dual governance approach in detail, it is worth noting that other projects are also exploring innovative governance structures. One such example is Optimism, an optimistic layer 2 rollup on Ethereum, which has implemented a distinct bicameral approach that addresses the diverse needs of its community members.
The Optimism Collective consists of two houses: the Token House and the Citizens' House. The Token House, comprised of OP token holders, votes on various governance proposals, while the Citizens' House is responsible for Retroactive Public Goods Funding (RetroPGF) [14].
RetroPGF is a series of experiments in which the Citizens' House members allocate protocol profits or portions of the token treasury to projects [15] that have significantly contributed to the public good based on specific criteria. The underlying concept of RetroPGF is that it is more effective to identify and reward projects that have proven their value retrospectively rather than allocating proactive grants for potential future benefits.
During each round of RetroPGF, Citizens vote to distribute funding to deserving projects based on their contributions over a predetermined time period. This approach establishes strong incentives for the community to develop public goods that positively impact the Optimism Collective. As a result, the ecosystem becomes more accessible for building, learning, and connecting, which ultimately drives increased usage and demand for blockspace.
An identity-based Citizen House membership [16] promotes diversity, prevents plutocracy, and encourages long-term commitment, which aligns with the goal of supporting public goods in Optimism Collective. By detaching membership from token holdings, the Citizen House can maintain a more inclusive and balanced decision-making process, reducing the risks of manipulation and collusion. This approach ensures that the governance of public goods funding prioritizes the well-being and sustainable growth of the entire community rather than focusing solely on increasing token value.
Conclusion - Ambition made to counteract ambition
In Post-Capitalist Society (1993) [17], Peter Drucker, who is considered the father of modern management [18] theory, hypothesized the emergence of an autonomous community organization that fits between the private sector and public sector.
“Every developed country needs an autonomous, self-governing social sector of community organizations. It needs it to provide the needed community services. It needs it above all to provide the bonds of community and to restore active citizenship. Historically, community was fate. In the post-capitalist society and polity community has to become commitment.”
Blockchain's core innovation comes down to governance — the new mode for the distribution of trust. DAOs, powered by blockchain, have served as the foundation for many organic formations of communities, and they certainly have the potential to live up to Drucker's vision of spawning a "new center of meaningful citizenship". However, the path to achieving this goal is labyrinthine and punctuated by challenges.
“Ambition must be made to counteract ambition.” — Federalist Paper No. 51. [19]
The spirit of checks and balances propounded by James Madison is not just a timeless canon for polities, but also a tenet for any populous community organization seeking to balance the interests of diverse stakeholders. It is therefore encouraging to see the likes of Lido DAO and Optimism Collective to actively incorporate more complex institutional arrangements in its governance process.
For DAO to live up to its vision of a new form of social organization untethered to the whims of centralized authority, innovation must materialize on the institutional design level in addition to the technological level. To genuinely harness their potential, DAOs should not shy away from exploring the rich tapestry of constitutional engineering, extracting valuable lessons from the rise and fall of past political structures.
About the Author
Michael serves as a strategy associate at a global cryptocurrency exchange. He is a regular contributor to The Blockcrunch and produces in-depth research memos on crypto projects. He also writes about crypto, economics, and policy. Before his current role, he had worked at J.P. Morgan and the Brookings Institution. Michael holds a degree in public policy from Cornell University. Connect with him on Twitter at @michael_lwy.
References
[1] https://research.lido.fi/t/ldo-steth-dual-governance/2382/51
[2] https://learn.bybit.com/altcoins/what-is-steth-lido-staked-eth/
[4] https://research.lido.fi/t/ldo-steth-dual-governance/2382
[5] https://www.law.cornell.edu/constitution-conan/article-1/section-1/bicameralism
[6] https://www.senate.gov/artandhistory/history/minute/Great_Compromise.htm
[7] https://constitution.congress.gov/browse/essay/artI-S1-3-4/ALDE_00013293/
[8] https://mpra.ub.uni-muenchen.de/5825/1/MPRA_paper_5825.pdf This was especially true for the Senate prior to the Seventeenth Amendment in 1913 when Senators were chosen by state legislatures. The Seventeenth Amendment introduced the popular election of Senators, which in turn democratized the Senate and arguably weakened its original purpose as a check on popular passion.
[9] https://avalon.law.yale.edu/18th_century/fed62.asp
[10] https://avalon.law.yale.edu/18th_century/fed62.asp
[11] https://philosophy.naiau.kiev.ua/index.php/scientbul/article/download/31/26
[12] https://en.wikipedia.org/wiki/Bicameralism#Rationale_for_bicameralism_and_criticism
[14] https://app.optimism.io/retropgf
[15] https://optimism.mirror.xyz/Upn_LtV2-3SviXgX_PE_LyA7YI00jQyoM1yf55ltvvI
[16] https://community.optimism.io/docs/governance/citizens-house/
[17] http://pinguet.free.fr/drucker93.pdf
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