The scale leverage and power system of DAO

Original Title: 《Scale and the levers that provide DAOs their power》

Author: Rowan Yeoman

Translation: Johnny J, SeeDAO Translation Guild

Goodbye "Business Model", Hello "Network Economy"

As described in our recent article "DAOs are not objects, but 'flows'", Web3 offers a new paradigm that provides the possibility to replace the company-centric old paradigm that has been evolving for 400 years.

If we can break free from the paradigm of "viewing companies as centralized entities" and stop seeing DAOs as entities, but rather as decentralized networks coordinating the flow of resources, we will have a whole new perspective on business and economics.

DAOs and companies are fundamentally two different systems. Companies operate on business models, while DAOs represent a network economy. This essential difference is key to the potential of DAOs to lead a new paradigm.

To clarify what a network economy is, how it differs from business models, and why it is said to be more powerful, we need to use some conceptual frameworks. The concept of "scale" is our tool for understanding this; to explain scale, I will focus on Geffrey West's research on the dynamics of system scaling.

We can see a more complete explanation of this dynamics here, but we need to understand two fundamental drivers at a higher level:

This article will first introduce these two drivers, and if I summarize it well, I hope to make it clear that these two systems are key to unlocking the energy of DAOs.

"Biological systems scale sublinearly," West's research began with this understanding. This means that as the size of biological entities (mammals, insects, trees, etc.) increases, their internal systems become more efficient. For example, if a mouse's size doubles, it only needs to increase its intake of food, oxygen, water, etc., by 75%; because its heartbeat slows down, it also lives longer. From mice to elephants to blue whales, this prediction has held true; for every doubling in size, efficiency increases by 25%. The mechanism behind this phenomenon is related to a concept known as fractal scaling hierarchy.

Biological systems are a fractal hierarchical structure (somewhat similar to a branching structure), where each additional layer increases efficiency. A good example is the cardiovascular system of mammals. All mammals have a heart and pump blood throughout their bodies in the same way. The heart pumps blood into the aorta under pressure, which then branches into two arteries, and these arteries further branch into more arteries, and so on, increasingly. This system has a rule: the more layers there are, the higher the efficiency of the system (as you grow, the workload required for the heart to deliver oxygenated blood to body cells decreases). This is why a 220-ton blue whale only needs to beat its heart 11 times per minute to circulate blood to every cell in its body, while a mouse needs to beat its heart 500 times per minute to achieve the same. All mammals in between exhibit the same heart rate to body size ratio.

While this is fascinating, what is even more incredible is that this dynamic system also applies to artificial systems. This scaling effect is the fundamental driver of how companies operate. The essence of business development is to establish a fractal hierarchy to create economies of scale, sharing the same mathematical principles as the growth of mammals, insects, and trees. As a company grows in size and increases its hierarchical structure, each level gains higher efficiency, and the production cost per unit of goods decreases with scale. This is known as sublinear scaling, meaning that as the scale of the system grows, the efficiency of resource utilization becomes increasingly higher.

Fractal Hierarchies are Limited

Systems that rely on fractal hierarchies for scaling effects have astonishingly high scaling efficiency. However, the downside is that these systems visibly decline and perish. The lifespan of all animals can almost perfectly be predicted by their body size (for mammals, the lifespan ranges from 1-1.5 years for mice, to 60-70 years for elephants, to 80-90 years for blue whales). The larger the size, the longer the lifespan—yet ultimately, they all die.

This is because fractal (hierarchical) structures are rigid. Their advantages come from the underlying structure that allows for economies of scale, but over time, this structure deteriorates, requiring increasingly more resources to maintain operations. Meanwhile, due to the inability to change their structural rigidity, they ultimately cannot survive.

It is worth noting that humans are the only animals capable of defying this trend; our current lifespan is about twice the originally predicted lifespan based on body size. This has only occurred in the past few hundred years, thanks to breakthroughs in medicine, sanitation, nutrition, and more. Until the 19th century, our average lifespan was between 20-40 years, which was consistent with our body size.

Companies are Masters of Fractal Structures

It is this dynamic that has supported the success of "companies" for 400 years. The establishment of limited liability companies has given us an efficient system to operate this dynamic—allocating funds, building infrastructure, expanding business models… and so on, in a continuous cycle.

However, similar to fractal hierarchies in biology, companies are also limited. They continuously expand their business models, but over time, they will be unable to continue developing. This underlying structure requires increasingly more resources to sustain itself, ultimately leading to decline.

This decline is often not obvious; companies will do everything possible to survive. For example, they may engage in anti-competitive behavior—acquiring or merging with other companies that are still scaling, or they themselves may be acquired by another company (even if the company has essentially ceased to exist, the brand may continue). However, a widely circulated analysis indicates that even with all these strategies to avoid decline, almost all companies ultimately face visible decline and demise.

Another powerful driver pointed out by West is social networks and the superlinear social output they generate. The social networks we refer to here are purely networks of human interaction, such as friend circles, business relationships, religious communities, membership clubs, etc.—any collection of social relationships.

The superlinear scaling of social networks is based on a set of predictable network dynamics, including Metcalfe's Law. This is how mechanisms like markets operate. The more participants there are in the market network, the greater the likelihood of valuable exchanges of goods and services (as transactions of social output), and the greater the value of the network.

This means that as the scale of social networks expands, their social output grows at an increasingly higher rate. Research shows that if the scale of a social network doubles, the social output will increase by more than double: specifically, by 115%.

This dynamic principle applies to all types of social output, but we are particularly interested in the generation of creativity and innovation. The conclusion from West's team is clear: the expansion of social network scale leads to superlinear growth in creativity and innovation. This is a direct result of the exchange of ideas, knowledge, capital, and creative collaboration on a larger scale.

The problem companies face is that once they mature, it becomes nearly impossible to successfully leverage this driver of social networks. They must commit to building scalable hierarchical structures to capture the benefits of economies of scale, which often results in a highly rigid underlying architecture that makes true innovation nearly impossible. Although they may attempt innovation, it is not something that the organizational form of a company excels at.

Some companies do engage in R&D to drive product line expansion, but this rarely leads to true innovation; most companies end up purchasing innovations produced by others rather than innovating themselves. As hierarchies become increasingly rigid and inflexible, they are more likely to do this in an attempt to stay relevant and prevent inevitable decline.

But Cities Do Not Perish

This is where West's analysis becomes truly interesting. While the demise of animals, plants, and companies is predictable, throughout history, there are almost no examples of cities perishing.

It turns out that cities can survive (and thrive) because they can leverage both of these dynamics—sublinear hierarchical scaling and superlinear social networks driving innovation.

Cities, on one hand, utilize expanding hierarchies to build roads, power grids, water supply systems, hospitals, emergency services, communication networks, schools, and more. This means that the larger the city, the more efficient the construction of all this infrastructure becomes, leading to more amenities and a better standard of living.

On the other hand, as cities develop, they also possess increasingly larger social networks, which foster more creativity and innovation (as well as all other forms of social output). If the scale of a city doubles, the number of research papers, patents, startups, etc., it produces will increase by 115%.

This dynamic system creates a virtuous cycle of innovation and improvement for cities. The innovative capacity of cities generates a continuous stream of new businesses, replacing those that have died out, bringing in new capital; income increases, infrastructure is invested in and improved, and the city is revitalized. This, in turn, creates another virtuous cycle—the improvement of residents' lifestyles and future expectations attracts new residents, which enhances the efficiency of the dynamics related to infrastructure construction while also boosting the efficiency of the dynamics related to creativity and innovation.

So What About DAOs?

You may already know where this is going. As a network economy, DAOs have the potential to fully leverage both drivers. After all, cities are not objects… they are networks!

Fundamentally, companies are organizations built around constructing fractal scaling structures; everything they do revolves around this. Steve Blank, a professor of entrepreneurship at Stanford and Berkeley, distinguishes between startups and mature companies in this way: In this framework, we can see that startups operate like a social network—a group of founders who are well-connected, exhibiting high levels of creativity and innovation as they experiment, iterate, and adjust direction in hopes of discovering a repeatable and scalable business model.

Once they find a repeatable and scalable business model, they then focus on building and solidifying the infrastructure to scale that business model. They position their strategies and business departments to achieve this structure. After this point, making changes becomes very difficult.

DAOs, on the other hand, are network economies that do not chase a specific business model like companies do. As network economies, DAOs resemble cities, allowing them to escape the rigidity and limitations of companies. Because of the nature of network economies, DAOs can leverage both of the aforementioned dynamics; they can become engines of new experiments and discoveries, led by communities formed around a common goal. They can also scale these innovations, bringing benefits to the world.

This is entirely possible because network economies can coordinate in more complex and effective ways than companies can. A DAO network can encompass multiple sub-networks. It is not a single centralized entity but consists of many autonomous self-organizing groups—within this more flexible organizational structure, all these groups work towards its overall goals; some groups build for scaling hierarchies, while others strive for exploration and creation.

Like cities, with the help of both drivers, DAO networks benefit from the same positive feedback loops as they develop. The continuously growing economic scale makes them powerful, while ongoing creativity, innovation, and responsiveness keep them vibrant and connected to the ever-changing world. Because of this, they attract more and more talent seeking opportunities to do valuable things, which in turn supports and strengthens the DAO network.

This is the promise of web3 to us! This is the promise of DAOs to us! It is a network composed of inspired individuals who can collectively challenge our entrenched economic systems, the trillion-dollar incumbent enterprises, and the inertia caused by 400 years of history.

To achieve this, DAOs must be able to leverage both drivers simultaneously.