Traditional companies are governed by a board of directors or some other small group. These groups usually consist of up to 10 people and these people are the ones who dictate what goes on in the company, what direction it should go in and they make other important decisions about how things are run. This is a centralized management system that has been around for a very long time.
On the other hand, new blockchain projects such as DAOs and Defis use less centralized and more transparent governance methods. There are different components that create this decentralized governance, and on top of them, we have governance tokens that work as regular cryptocurrencies that have governance rights. These tokens can vary from each other and have different rights, but in essence, they are the same. If you want to learn more about them, follow this governance tokens guide, where we tell you everything you need to know.
Governance tokens work somewhat similarly to stocks, as they represent ownership in decentralized protocols. These tokens give owners the ability to influence different aspects of the protocol. These influences can dictate the direction that the project goes, how to spend the budget, what new developments and products the company should introduce, and more.
When using the power granted by governance tokens, there are two steps that holders can take. Governance token holders can make a suggestion regarding the change they want to implement to the project. After this suggestion, there are some criteria that need to be met for the suggestion to advance to the next stage, and these criteria differ from project to project. Once the suggestion gets approved it moves to the voting stage, where everyone who holds a governance token can vote on these suggestions. These voting processes also differ from project to project.
Now let's take a look at exactly how these tokens work. Governance tokens are classified as utility tokens, which are a type of tokens that hold some sort of utility associated with the protocol. On top of having voting rights, there are utility tokens that might give holders access to different products, services, or the ability to exercise other rights. One DAO project might have multiple utility tokens which are different from one another, but every project will have these governance tokens.
When you own a governance token, it practically means that you own part of the protocol and the amount of governance tokens you hold represents what percentage of the protocol you own. So if there are 10,000 governance tokens for one protocol, and you own 100 tokens, it means that you own 1% of the protocol. The amount of tokens you own also represents the weight of your voting power. So let's say you own 100 tokens, while someone else has 200 governance tokens. When the time comes to vote on something, your vote will hold half the weight compared to the person who holds 200 tokens. To explain it even more simply, imagine that 1 token = 1 vote. Meaning that the more tokens you own the more votes you can make.
Another thing when it comes to voting using governance tokens is that the changes that were voted on, might be implemented automatically or manually by developers. When we hold the governance token of a DAO project, the votes that pass get implemented automatically as DAOs are decentralized autonomous organizations, and everything is automated and operates autonomously. But there are also projects that don't implement DAO principles but still have their own governance tokens. In this case, when a vote passes, developers are then required to implement these changes themselves. Both of these systems have their advantages and disadvantages, and it comes down to the type of project we are dealing with and personal preferences to decide which of these two is the better system.
While taking a look at the governance tokens, we might think that this is a perfect system, where everything runs smoothly and fairly, with the whole project following the route decided on by users and not the developers. But while that might be true to some extent, there are still a few problems associated with governance tokens that we need to address.
Cryptocurrencies are notorious for being hard to regulate, and these governance tokens make it even harder. When we are dealing with cryptocurrencies, there is some level of anonymity, especially in DAO, Defi, and other similar decentralized projects. This makes regulating them really hard. Now combine this with governance tokens and things get even more challenging. As governance tokens represent ownership of the project, they can be seen as stocks of the company. Because of this, there are instances when projects need to get licenses or permission from regulatory bodies, in order to be able to release these governance tokens. These regulatory bodies also have their own problems, because they are unsure exactly how to approach cryptocurrencies, considering how new they are. There are instances when regulatory bodies fight with each other, as they might have different views regarding cryptos and want to implement different regulations over them. This makes governance tokens somewhat tricky, and we need to take many different things into consideration before getting our hands on them.
Another problem associated with governance tokens is the unfair distribution of tokens. Just like regular cryptocurrencies, governance tokens are minted by developers and then distributed among people. Because of this, there are instances where developers distribute the majority of these tokens among themselves and major investors. When this happens it removes the whole concept of governance tokens, as the decision-making still remains in hands of a few select people and not the users themselves. But not every project does this unfair distribution of tokens, and some projects distribute these tokens fairly among users of the platform. But even in this case, there is a possibility of whales acquiring the majority of tokens.
When looking at governance tokens and thinking about their future, there is one thing we must remember, and that is that they are still cryptocurrencies. Because of this, the future of governance tokens, just like the whole crypto industry is uncertain. Whether they will succeed and become standardized, or they become another failed crypto concept will depend on multiple factors. One of these factors is regulations. How will regulatory bodies look at these governance tokens in the future and will there be any limitations placed on them? Another important thing to consider is the adaptation of the DAO operation model, and what type of adaptation it will find in the future.
But for now, governance tokens are helping the development of cryptocurrencies, and other blockchain technologies. They have introduced a truly decentralized operating system, regardless of the fact that there are still some projects where, despite the presence of governance tokens, full decentralization is still not achieved. So for now, we need to wait and see how this system will develop as it is too early to make certain statements regarding it.
Now let's take a look at a few projects that use governance tokens to operate their projects. These are a few of the best projects that have managed to smoothly adopt governance tokens into their operation.
One of the first projects that have implemented governance tokens into their system is MakerDAO. This is an Ethereum-based DAO that introduced its own, crypto-backed stablecoin called DAI. They have managed to gain huge popularity and currently, their stablecoin holds the #14 spot among cryptocurrencies by market capitalization. When it comes to their governance token MKR, it currently is valued at around $1,000 and is close to hitting its max supply of 1,005,577 tokens with 901,310 tokens already in circulation.
Uniswap is a decentralized crypto exchange where traders can exchange cryptocurrencies without the need of passing KYC verifications that are required by centralized exchanges. This is one of the largest decentralized exchanges on the market, and its governance token UNI is certainly the largest governance token when it comes to market capitalization. Currently, UNI trades for $6 with a circulating supply of 753 million tokens. This gives UNI a market capitalization of $4.6 billion and the #19 spot among all cryptocurrencies.
Lastly, we want to mention the Compound Protocol, which is the protocol designed for the lending and borrowing of cryptocurrencies. Everyone who owns crypto can lend out their holding using a Compound, or they can borrow funds from someone else. Their Governance token COMP currently trades for $55 with a circulating supply of 6.8 million tokens. This gives this token a market capitalization of $382 million and puts it just shy of the top 100 cryptos at #105.
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Absolutely. Governance tokens represent the ownership share of the project and this gives them their value. This value also depends on the number of tokens that have been minted.
It depends on the project. Some projects such as Uniswap give governance tokens to those who provide liquidity to the exchange. There are also governance tokens that are given to active community members, and some can even be purchased on different crypto exchanges.
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