The crypto world has an answer to hawkish regulation — it’s called a DAO – Financial Post

Article content

In the cryptocurrency world, this past weekend was anything but a break. The house was on fire, drums were pounded and the tension was so thick, you could stuff a mattress with it.

Article content

At issue was the cryptocurrency tax reporting provision in the U.S. government’s new US$3.5 trillion infrastructure bill. All throughout the weekend, lawmakers wrestled over it as the industry lobbied and bit its nails.

And that drama is just a fleck of paint in a bigger backdrop. Binance’s international troubles, China’s clampdown, the hawkish tone of the new U.S. Securities and Exchange chair Gary Gensler — the big R-word has been looming large.

All of that gives some telling context to a move by the veteran crypto exchange ShapeShift in July to dissolve its legal corporation and embrace a uniquely blockchain structure: the decentralized autonomous organization, or DAO. ShapeShift’s libertarian founder Erik Voorhees told an industry publication such a move “removes some of the ability of regulations to apply.”

Article content

There is a lot to unpack there, but it marks a major move, and not only for ShapeShift. It also reflects the Newtonian adage that for every action, there will be an equal and opposite reaction. Between regulators and the crypto industry, the idea of the DAO will surely form part of the next big clash.

The Swiss-based ShapeShift was founded in 2014, which in crypto time might as well have been 1842. It facilitates anonymous trades, but for more than two years it had required customers’ personal information, being “under duress” from regulators. ShapeShift’s ethos of “financial sovereignty” has long faced constant resistance. No more.

A DAO, made possible by networks such as Ethereum, is essentially a self-running, leaderless entity on the blockchain, making its moves based on how users interact under ironclad, predefined rules. The idea behind ShapeShift’s move is that there would theoretically be nothing the law can do about such an entity. ShapeShift would no longer control the platform, for there would be no more ShapeShift, like how Bitcoin exists without a central body running it.

Article content

That general concept is nothing new. Since the beginning of the year, ShapeShift has been running what is known as a “decentralized exchange,” kind of like a smaller version of its current vision. In an industry that exists only virtually, creative corporate structures are also well known. The embattled Binance has a byzantine global network of legal entities, almost becoming a Ship of Theseus case study — to whom or what does the term “Binance” refer? No major company, though, has gone at it in quite the same way as ShapeShift.

In that unprecedentedness, though, also lies a drawback. The name DAO might sound familiar. An early such entity, called “The DAO,” had collapsed in 2016 after an infamous hack. Controversially, developers then rewrote Ethereum to recoup the millions lost, essentially shaping the network we know today. That affair reveals two relevant issues.

Article content

The hack shows that a leaderless organization run by predefined rules works only when those rules are perfectly crafted. And Ethereum developers’ ability to rewrite the blockchain shows that true decentralization is rare. How successful ShapeShift will be as a DAO remains to be seen. Just Tuesday, the decentralized Poly Network said hackers had stolen coins worth US$600 million.

But ShapeShift’s Voorhees has evidently taken all that into account. In making the first steps toward it this year by starting a decentralized exchange, he had given his reason for choosing this time: Like the director James Cameron when he made Avatar, Voorhees had long wanted to do it, but the technology had not been developed enough. Voorhees is depicted in Ben Mezrich’s Bitcoin Billionaires as pragmatic, and this new move is not born from an ideological impulse but calculated and planned.

Article content

Already, the stage is set for a clash. The new SEC chair, Gensler, spoke out last week against the broader DeFi (decentralized-finance) movement — blockchain-based banking-like services without the middlemen — in which the DAO is an important pillar. “We need additional congressional authorities,” Gensler told a global conference, asking for more power from lawmakers.

The bottom line is that this will be about more than just ShapeShift’s facilitation of anonymous trades. Facebook’s cryptocurrency failed where Bitcoin succeeded because one has a company behind it subject to regulations, while the other comprises just a faceless horde. Centralized music piracy by Napster survived for only two years, but the truly peer-to-peer BitTorrent endures to this today.

Article content

A successful ShapeShift (the new decentralized entity, not the company that will no longer exist) would be a pioneer, leading the way for a potential flood of similarly oriented DAOs that would be difficult to rein in, pursuing all manner of different goals. Whether that is good or bad depends on whom you ask. The government’s answer will certainly be forceful.

Ethan Lou is a journalist and author of Once a Bitcoin Miner, to be released this fall.

_____________________________________________________________