Around the Block #13: On the value and risks of governance tokens

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Around the Block sheds light on key issues in the crypto space. In this edition Justin Mart and Ryan Yi analyze the potential value drivers and risks of governance tokens in the Ethereum ecosystem.

Context

DeFi has seen tremendous growth over the past 12 months. All metrics — value locked, users, transactions, valuations, etc, — have precipitously risen. But while some of these metrics are easy to track and digest, others are more nebulous. One sneakily challenging metric is valuation.

In traditional equities, valuation is tied to equity itself — or direct fractional ownership in a company. This equity equates to practical control over a corporation, and confers certain benefits to equity holders such as a pro-rata share of profits (dividends).

So what are governance tokens?

In decentralized protocols, the code is the law, so practical control comes down to whatever the code says. In this sense, each DeFi application will have a different sense of ownership, as each protocol will have codified a different set of rules that define what ownership means. Some protocols were coded to have no concept of external ownership — they will simply operate according to their initial internal rules and never change! However most teams who create these protocols recognize the need to adapt, upgrade, and change, and thus code in a concept of ownership that enables select parameters to be adjusted and changed.

Enter “governance tokens.” Simply put, these are ERC-20 tokens tied to a specific project, where a quorum of votes from…

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