Detailed Explanation of DeFi Protocol Governance Processes: Taking Maker, Compound, Aave, Uniswap, Curve, and Snapshot as Examples

Original Title: "DeGo in DeFi"
Author: Rajeev Gopalakrishna
Translation: DRD, DAOSquare

Governance can be defined as "the act or process of managing or overseeing the development direction of something (such as a country or an organization)." In the blockchain space, governance typically refers to how to guide current and improve future actions within contract protocols.

How governance is conducted in the blockchain space has been a hot topic and a controversial issue, especially in the blockchain community where discussions are frequent. It can essentially be divided into two categories: on-chain governance and off-chain governance. On-chain governance can be understood as algorithms embedded within the blockchain protocol itself, while off-chain governance refers to guidance and oversight conducted outside of formal blockchain protocols. Tezos is an example of the former, while Bitcoin and Ethereum belong to the latter. However, this article is not about discussing blockchain governance. Vlad Zamfir, Fred Ehrsam, and Vitalik Buterin, among others, have published some opinion pieces on this topic.

This article primarily introduces the technical processes behind decentralized governance (DeGo) in DeFi protocols on Ethereum. We first outline the broad prospects of leading DeFi protocols on Ethereum and summarize some key points of their current governance processes. In this context, we introduce the basic principles of gasless voting and describe projects that have pioneered the use of Snapshot in this field. We will further discuss the decentralization challenges currently faced by Snapshot's implementation, as well as the potential of using Aragon for on-chain execution of off-chain voting, and how to enhance protocol communication's censorship resistance through Snapshot on Waku.

1. Protocols and Governance

DeFi is an ecosystem of financial applications built on decentralized blockchain protocols. This includes financial instruments such as savings, trading, credit (loans/borrowing), derivatives, and insurance. Unlike traditional finance, DeFi has three key factors: (1) adherence to smart contract coding rules and execution operations to reduce human intervention, (2) transparent open-source auditing of smart contracts and transactions on the blockchain, and (3) participation without entry barriers in creating, using, modifying, or combining various projects.

Maker is a DeFi project that created the most famous Dai stablecoin. Compound and Aave are currently the hottest DeFi lending platforms. Uniswap, Curve, and Balancer are the most widely used decentralized exchanges. Synthetix is a DeFi project used to track the value of real-world assets. Yearn is a suite of DeFi projects that integrates lending aggregation, yield aggregation, and insurance. Nexus Mutual is a community-based insurance platform that allows members to insure against risks of vulnerabilities in smart contracts. Aragon is a platform for launching and managing decentralized organizations (DAOs), with typical applications like Aave and Curve.

These DeFi projects all have corresponding governance mechanisms to collaboratively decide on the operational direction and protocol adjustment strategies of the projects. Only holders of project-specific governance tokens are allowed to vote in these governance processes. The tokens for the aforementioned 10 DeFi projects are MKR, COMP, AAVE, UNI, CRV, BAL, SNX, YFI, NXM, and ANT.

1) Maker's Governance Model:

"MKR holders are responsible for governing the Maker protocol, which includes adjusting the Dai stablecoin policy, selecting new collateral types, and improving the governance model itself."

The community discusses on Discourse. Voters need to hold Maker (MKR) tokens and participate on a dedicated governance platform.

Governance requires voting on technical changes to the protocol, such as modifying collateral/warehouse types, parameters, and smart contracts. Typically, a round of surveys is conducted before voting to roughly gauge the overall intentions of voters. All these operations occur on-chain. MKR voters are locked into the voting contract, and the voting results are measured by the number of votes for the proposal.

Maker actually has an informal off-chain governance mechanism. They conduct informal polls using Signal Threads and Informal Polls on Discourse, giving everyone the opportunity to express their stance on relevant topics and evaluate opinions within the community before deciding whether to move it on-chain. None of this requires participants to hold MKR tokens or interact with the Ethereum blockchain.

Once the topic creator confirms informal support from community supporters, they issue a request to create a corresponding on-chain governance poll, thus achieving the migration of governance from off-chain to on-chain.

2) Compound Governance Model:

The Compound contract protocol is managed and upgraded by COMP token holders through three different components: the COMP token, the governance module (GovernorAlpha), and Timelock. Overall, these contracts allow the community to propose and vote on changes through cToken or Comptroller. The changes can include adjustments to interest rate models, adding new assets, and more. Any participant holding more than 100,000 COMP tokens can propose governance through executable code. When a proposal is created, the community typically has a 3-day voting period. If the proposal receives a majority vote and at least 400,000 votes in support, it will queue in Timelock and be executed two days later.

Although in the genesis phase, the Compound core team had management privileges over contract changes without using governance tokens, they introduced the COMP governance token in February 2020 to transition to a model of decentralized governance by token holders in the future.

Community discussions also take place on Discourse. Voting requires holding COMP tokens and occurs on their dedicated governance portal.

Compound explicitly supports gasless voting and delegation using EIP-712 signatures. The benefit of this is that voters or their representatives can sign their voting information off-chain and then have a trusted third party spend ETH to pay for gas fees to ultimately complete the on-chain voting.

3) Aave Governance Model:

"The contract governance consists of different decision-making processes regarding risk parameters, improvement suggestions, and triggering mechanisms. Various decisions about contracts in Aave's future will be made through this process. AAVE tokens grant holders the power to vote on proposals and act in unison as contract managers."

Aave implements a four-stage governance process: 1. Motion, where community members can initiate proposals and discuss them on Discourse, submitting feasible suggestions for the next stage. 2. Discussion and information gathering, where further discussions on the motion take place, followed by an assessment of community feedback on the governance proposal. 3. The genesis team approves the necessary smart contracts and submits proposals or allows AAVE token holders to vote. 4. Voting passes the implementation plan, while voting failures reject the proposal.

Aave's governance model was launched on the Ethereum mainnet in September 2020. The first proposal was to migrate from the old LEND token to the new AAVE token, executed off-chain on the Snapshot platform (which will be introduced later in this article). The contract management keys were transferred to the governance contract in October, thereby transferring ownership to the token holder community.

4) Uniswap Governance Model:

"The Uniswap contract is managed and upgraded by UNI token holders, using three different components: the UNI token, the governance module, and Timelock. These contracts allow the community to propose, vote, and change the Uniswap contract. Any participant holding more than 100,000 UNI tokens can propose governance through executable code. When a proposal is created, the community typically has a 3-day voting period. If the proposal receives a majority vote and at least 4 million votes in support, it will queue in Timelock and be executed two days later."

Uniswap implements a three-stage governance process: 1. Temperature check, where community members initiate proposal discussions on the Discourse forum and then evaluate votes in Uniswap's Snapshot space. If the proposal receives 25,000 UNI votes in favor within 3 days, it is considered to have sufficient support to enter the next stage. 2. Consensus check, where formal discussions on potential proposals occur on Discourse, followed by another Snapshot vote on specific options (including a make-no-change option). If a specific proposal receives 50,000 UNI votes in favor within 5 days, it is considered to proceed to the next stage. 3. Governance proposal, where the winning proposal from the previous stage is edited, audited, proposed (requiring 1% support from all UNI token holders, i.e., 10M UNI), and then submitted to the governance portal for on-chain voting. After a 7-day voting period, the proposal code that passes the test (requiring 4% of UNI, i.e., 40 million UNI) will queue in Timelock and be executed two days later.

Uniswap supports offline signatures based on EIP-712. It also supports "soft governance" for matters that do not require on-chain voting through community discussions and other means.

5) Curve Governance Model:

"The Curve DAO officially launched on August 13, 2020. Its DAO allows liquidity providers to make decisions on adding new pools, changing pool parameters, adding CRV incentives, and many aspects of the Curve contract protocol. The primary purpose of issuing Curve DAO tokens is to incentivize liquidity providers on the Curve financial platform and to involve as many users as possible in the governance of the contract protocol. Currently, CRV tokens have three main uses: voting, staking, and boosting. All three require you to lock your CRV tokens to obtain veCRV tokens for voting."

CRV is a multi-purpose governance token on the Curve platform, featuring time-weighted voting and value accumulation mechanisms. CRV holders can lock their CRV into the Curve DAO to obtain veCRV (voting escrowed CRV) tokens needed for voting. The longer the lock-up period, the greater the voting power, with a minimum lock-up period of one week and a maximum of four years. The weight of veCRV gradually decreases as the lock-up period approaches expiration.

Participants can also create informal proposals on the governance forum and evaluate them on Snapshot. Modifying the Curve contract protocol requires official proposal suggestions, which are divided into two types: parameter and text. Parameter suggestions are automatically submitted to the DAO three days after successful voting, while text suggestions usually require participation from the Curve team. Creating a new DAO proposal requires holding at least 2,500 veCRV.

Summary: The governance processes outlined above typically involve three technologies: 1. Discussion forums (e.g., Discourse), where community members informally propose and discuss ideas, 2. Signal forums (e.g., Snapshot), where token-holding community members vote off-chain to express their stance on proposals, and 3. Voting forums, where token-holding community members vote on-chain to formally approve or reject the execution of suggestions.

Not limited to the blockchain space, many communities are using information platforms such as Discourse, Discord, Gitter, Telegram, or Slack for discussion and communication. Voting forums are currently standard Dapps that require users to link their crypto wallets (to access their governance tokens) and the smart contract interface on the blockchain. For the DeFi governance process, a relatively novel and unique tool has actually emerged in the information forum space, with Snapshot being a typical example.

2. Snapshot

Snapshot is described as: "a gasless off-chain multi-governance client that is easy to verify and protects results." It is an open-source project driven by Fabien Marino of Balancer Labs, allowing token-based projects to publish proposals there, enabling token holders to vote off-chain without needing to conduct blockchain transactions, thus avoiding gas and transaction fees. Proposals and votes are stored as signed information on IPFS.

The driving force: Ethereum gas prices reached an all-time high in 2020, largely due to DeFi applications. While large fund users or major token holders may not worry much about rising gas fees, this could have a real impact on small token holders' futures. They may thus abandon DeFi governance conducted on the blockchain, especially when many decisions require holding tokens to process. It can be argued that this limitation of Ethereum weakens the political decentralization process of contract protocols.

While key voting phases may inevitably need to occur on the Ethereum blockchain today to ensure decentralization and resist censorship oversight, relatively less critical yet still important information transmission phases need to be conducted off-chain without gas fees. Snapshot aims to meet this current demand.

In addition to the previously mentioned projects, other leading DeFi projects in the industry are also using Snapshot, including Yam, Yearn, Balancer, Sushi, Swerve, Pickle, Aragon, mStable, and Cream. Maker and Compound also seem to be considering using Snapshot for information transmission.

Architecture: Snapshot has a web client connected to a Hub server. It displays different project spaces through the web interface. A Snapshot space is a place for a single project to list token-based voting proposals. Snapshot spaces are created on the web interface through ENS domains.

In a space connected to a wallet (specific project tokens), we can create proposals that include: title, proposal content, voting options, start/end times, and the number of tokens held, and submit signed information from the wallet (with plans to transition to eip-712 soon).

Voting on proposals needs to occur in the designated project's space, first connecting to a wallet (holding that project's tokens), then selecting the desired voting option, and submitting signed information from the wallet.

The signed proposal and voting information are sent to the Snapshot center, which then uploads them to IPFS for distributed storage. Additionally, the center stores all proposals and their voting IPFS index information in a database to meet client requests for quick loading.

The method used to calculate proposal voting results is called strategies. Strategies are JavaScript functions in the web interface that return scores for a set of addresses. The default strategy calculates the proposal project's ERC20 token balance on the blockchain for voters. Executing these calculations off-chain actually provides greater flexibility for experimenting with different governance models, as iterating using JavaScript strategies is faster than using on-chain smart contracts.

Decentralization Challenges

In the DeFi governance process, off-chain information transmission is becoming a prerequisite for on-chain voting. On-chain voting is increasingly untrustworthy, more decentralized, expensive, and less efficient. Information transmission is an effective off-chain voting method that is free and fast. However, due to the intermediary nature of off-chain transactions, this operation inevitably weakens decentralization.

If these challenges can be adequately addressed, we can significantly benefit from free, fast, and increasingly lower transaction friction off-chain voting without compromising the decentralized characteristics of on-chain execution. We can currently study this based on Snapshot.

As for the current Snapshot, if proposals and votes must be converted into binding on-chain governance, they will rely on two intermediaries:

Trusted Multi-signature: Recall that multi-signature wallets initially appeared in smart contract wallet accounts on Ethereum, executing wallet transactions by enforcing a minimum number of signatures (m-of-n). In the context of DeFi projects, trusted multi-signatures often come from a group of respected members within the community who are entrusted to execute project decisions (voting) by signing on-chain governance transactions corresponding to the votes on proposals. These decisions may pertain to finances, transactions, or modifications to contract protocols.

From a social technology perspective, trusted multi-signatures carry centralization risks. Although holders of multi-signature power are unlikely to make decisions that deviate from the community's main direction, theoretically, they could overturn and abuse their power. The probability of m-of-n collusion is low (if m is sufficiently large, e.g., 6-of-9), but not zero. In contrast, depending on the size of the project community and token distribution, a magnitude can be set (e.g., 100) requiring holders of a specific number of tokens to jointly decide the outcome of proposals.

In summary, if we can explore a non-trust-based way to transfer approval rights from off-chain voting to on-chain, we can prevent this dilution of decentralization.

Centralized Hub: The Snapshot Hub is a server whose web interface is used to store and retrieve IPFS signed information corresponding to proposals and votes. This clearly poses a centralization risk, although it may be mitigated. For example, by running a server alliance managed by participating projects, the client-server paradigm inherently weakens decentralization and increases oversight potential compared to a peer-to-peer (p2p) network.

This might be resolved by completely removing the storage/retrieval of proposals directly from IPFS using a p2p network or some method. The latter option is currently considered more feasible, connecting the relevant IPFS hash values together, but doing so may make the retrieval's sequentiality slow and impractical.

Next, we will discuss potential solutions to the two challenges mentioned above.

Snapshot + Aragon

Aragon is a leading provider of DAO-related governance products and infrastructure services. In October 2020, Aragon and Balancer Labs announced a collaboration plan to optimize the off-chain voting capabilities of Snapshot with the on-chain execution capabilities of Aragon DAO.

Optimized execution is an on-chain feature that allows (without on-chain verification) the execution of previously submitted results through collateral bonds. If no one challenges the result during the dispute window, it will be considered a binding final ruling. If someone challenges during the dispute window, it will be executed or verified on-chain. If there are any violations, penalties will be imposed. (Note that this conceptually resembles optimistic rollups.)

In the Optimistic Snapshot proposal, trusted multi-signatures are replaced by the DAO of project token holders. After Snapshot voting concludes, anyone can submit the voted-approved operation to the on-chain DAO. The DAO sets a fixed deadline for disputes before executing through the Aragon Agent.

It will be very interesting to see how DeFi protocols evaluate this proposal.

Snapshot + Waku

The Status app combines privacy-based communication with wallet functionality and a Ðapp browser. This communication software is supported by a decentralized p2p network designed to eliminate centralized rent-seeking intermediaries and single points of failure, enhancing resistance to censorship. This communication software does not merely have two endpoints— from the information source to the server and then to the target client in a "client-server" architecture. This communication model effectively hops information across all clients, where each endpoint receives the information, but only the actual information recipient knows what the information is, achieving decentralized communication.

The protocol transport layer of this communication software is implemented by Waku, the successor to Whisper, providing routing, metadata protection, topic-based propagation, and encryption algorithms. Waku uses the concept of topics to segment information, where topics are strings derived using specified algorithms and are used in "envelopes" that encapsulate encrypted messages along with the topic and TTL (time-to-live).

Waku v2 is developing a universal messaging layer that any project (besides Status) can adopt to implement a complete, scalable, encryption-centered, and user-driven p2p routing protocol. One of the initial goals of the Whisper protocol was to facilitate M2M (machine-to-machine) applications in Ethereum, such as wallets, Dapp applications, and layer-two scaling, to achieve multi-signature technology and DAO voting at the communication layer. Waku's goal is to realize this M2M layer communication.

Using Waku, the Snapshot center can be replaced by nodes of the p2p network, through which signed proposals and voting information are forwarded to IPFS. In the future, a user node network can be deployed to store votes, thus eliminating reliance on IPFS. This is similar to how the Status communication software uses historical nodes to store information for offline clients.

This approach can prevent a central server from censoring proposals or votes by selectively deleting them. Additionally, any node can independently verify proposal results through independent counting and influence any opinions submitted on-chain if necessary.

Recall that the first phase of governance is often discussion. Waku has already provided support for public channels (in addition to private chats and 1:1 chats) in the Status communication software. The Status communication software has also added community-oriented features such as read-only channels and audit capabilities. Combining the Status wallet, it would be interesting to bundle discussion and information forums together, driven by token holders and the privacy-protecting Waku protocol. Community members can discuss governance issues in the communication forum, resolve priorities with tokens in their wallets, and finally vote on the Dapp chain. Today, the Status application already has these three functionalities.

3. Conclusion

The governance of decentralized finance (DeFi) protocols encompasses every aspect of the protocol, such as deploying treasury funds to different working boards, enhancing design and development, adjusting parameters that affect fees and yields, integrating with other contract protocols, and even improving governance itself. As DeFi protocols gain more attention, their governance has become increasingly critical, whether to stand out in the industry and field or to survive.

In this article, we introduced some industry-leading DeFi protocols and summarized the key points of governance processes in Maker, Compound, Aave, Uniswap, and Curve. In this context, we briefly introduced the basic principles of gasless voting and Snapshot and its architecture. Finally, we discussed the decentralization challenges currently faced by Snapshot's implementation and how to use Aragon and Waku to address these challenges.

An effective governance system aimed at inclusive participation by community members holding tokens must feature a good user experience, low friction, and be based on decentralization and anti-censorship.

The foundation of decentralized governance (DeGo) meets this demand in the DeFi space. The DeFi world needs to embrace DeGo.

Thanks to Barry Gitarts, Fabien Marino, and Corey Petty from Balancer Labs for reviewing the draft of this article and providing useful feedback. Thanks to Alex Howell for the thoughtful illustrations.