In past lessons, we talked a lot about the potential of decentralization. But what is exactly what labels an application as decentralized? Different developers may differ in their opinion. Understanding decentralized applications and their true potential requires a clear definition of exactly they are. Any application must meet four criteria to achieve a decentralized status. First of all, the application has to be open source and autonomous. That means that no single body holds a majority of the tokens within the system, causing all changes to require consensus before being executed. Secondly, the data and the protocols governing the application have to be cryptographically stored and secured in a blockchain.
In third place, cryptocurrencies or tokens are used to reward the users supporting the network, and to pay for application access. We find clear examples in miners for Bitcoin and Ethereum. Finally, in fourth place, new tokens are only generated following an algorithm that incentivizes user contribution to the system. Failure to achieve all four of these guidelines could prove fatal for a decentralized application adoption. Additionally, there is another classification that can be used in order to understand the degree of decentralization that an application has achieved, analyzing the Architectural, the Political, and the Logical components of the application.
On the architectural side, we must identify how many nodes of the system, physical computers, comprise a system and how many of those computers can the system tolerate breaking down? On the political side, we must identify how many individuals or organizations control these computers that form the system. Finally, on the logical side, we have to discriminate whether the date is organized on a single structure or is it split up into independent units. Answering these questions, we can determine what degree of decentralization has achieved each application.
However, as Ethereum founder Vitalik Buterin pointed out, “The highest degree is not always necessarily the most convenient for every case, and some applications may benefit for using a slightly more centralized approach.” Decentralization offers a huge number of benefits to users. Their fault tolerance makes attacking decentralized networks unfeasible and expensive. Unlike with centralized networks, to carry out a successful attack on blockchains requires enormous computing potential, and most of the time the sole cost will be economically disincentivizing for attackers. Finally, decentralization acts as a barrier to collusion, which traditionally has allowed centralized corporations and governments to conduct operations and businesses in a non-transparent way.
The possibilities that decentralization brings are endless, one example of it was the DAO an initiative that saw the light in August 2016. DAO stands for Decentralized Autonomous Organization. Its core value proposition is to code the set of rules and decision-making apparatus of an organization, eliminating the need for documents and people governing it, creating a structure with decentralized control.
Here’s how it works: A group of people writes the smart contracts that will run the organization. These contracts are public, so all the future investors can check and understand the patterns in which the organization will operate. There is an initial funding period in which people add funds to the DAO by purchasing tokens that represent ownership. An ICO. Once the funding period is over, the DAO begins to operate. People can present proposals to the DAO on how to spend the money raised, and the investors that acquired tokens can vote whether they accept it or not. As we commented before, it’s very important to differentiate these tokens from equity shares.
Most DAO’s are not own by anyone, and tokens just grant voting rights. Operating as a kind of venture capital firm, the gains for the investors were to derive from the profits of the organization through its investments. The most notorious DAO was an initiative launched on April, 2016, with a 28-day funding window. It quickly gained in popularity, raising over $150m and becoming the most successful ICO ever held. Once the crowd sale was over, there was much discussion of first addressing the vulnerabilities before starting to fund proposals. At the time, more than 50 project proposals were waiting for the DAO’s token holders to vote on them.
Vulnerabilities in the code led the DAO project to be abandoned after part of the raised funds got compromised after an attack. However, the massive acceptation that the project arose at first, validated the concept and the willingness of users to invest in decentralized organizations without more governance than pure lines of code accessible at every moment for everyone. By now, we learnt the basics of blockchain technology. It’s time to move forward and discover what comes next.