In-depth Discussion on Lido Governance: Checks and Balances in the Power Structure

Original Title: 《Ambition Made to Counteract Ambition: DAO Governance and Bicameralism》

Author: Michael Li

Translated by: Kxp, BlockBeats

Introduction

Lido's recent innovative governance proposal, an outstanding liquid staking protocol, has largely gone unnoticed. The core claim of this proposal is to support a "dual governance model," which grants governance rights over the Lido protocol not only to LDO holders but also to stETH holders.

As we delve into the details of this proposal, we find that despite the DAO's novel features such as "self-executing smart contracts" and "governance tokens based on permissionless blockchains," the core governance issue ultimately boils down to building effective mechanisms.

Just like the intricate art of nation-building, DAOs also require a shared sense of purpose, collaboration, and a robust decision-making framework. These involve managing complex power dynamics and balancing different interests in the pursuit of common goals. In this article, we will compare the dual governance model with the bicameral structure of the U.S. Congress, analyzing their shared checks and balances while exploring their unique aspects.

Lido's Dual Governance Proposal

Lido is a decentralized autonomous organization providing liquid staking solutions for Ethereum. The Lido ecosystem is currently governed by its protocol token LDO, which empowers users to vote on activities, upgrades, and changes on the platform. Lido's stETH derivative token maintains a 1:1 redemption ratio with ETH, representing the amount of ETH staked by users.

Given the enormous amount of staked ETH controlled by the protocol (6.17 million ETH, approximately $11.5 billion), Lido's core developers believe they must change the governance model of Lido DAO to mitigate moral hazards.

Thus, the dual governance proposal aims to address the agency problem that arises in the current governance state, where LDO holders (agents) may act in their own interests without considering the interests of stETH holders (principals).

In this scenario, stakers are more concerned about the interests of the Ethereum network, while the interests of LDO holders may not align with them. In the worst-case scenario, LDO holders could even orchestrate a heist and steal the staked ETH in the smart contract, abusing their control over the liquid staking code. This is because Lido DAO has the capability to upgrade the stETH contract, allowing it to destroy stETH from any address and mint it to other addresses. This means that although the DAO does not directly control the ETH backing stETH, it can steal funds from users by modifying the code, destroying their stETH, and minting it elsewhere.

The dual governance proposal aims to better align the incentive mechanisms of both parties, ensuring that such events do not occur. Under this model, LDO holders can still propose changes to the protocol, but stakers also gain veto power, allowing them to reject proposals deemed "critical governance decisions." This is crucial for protecting the interests of stakers and preventing governance from being controlled or the protocol from becoming unbalanced.

The design of the dual governance mechanism aims to give active members of the stETH community time to respond to controversial decisions. First, all significant decisions are subject to a time lock, providing the community with the opportunity to express dissent through a Veto Escrow smart contract. If a small portion of the community (e.g., 5%) expresses disagreement, the governance mechanism will enter a temporary veto voting state.

If a majority of the overall stETH supply joins the upgrade process, governance will transition to a veto negotiation state, allowing stakers to negotiate with governance. Successful negotiations will restore normal governance operations. However, if negotiations fail or a majority of the stETH supply joins the upgrade process, a global settlement will be triggered, dissolving the protocol and returning ETH to stakers.

Veto Lift Voting is a mechanism that allows stETH holders to execute specific governance decisions when disagreements arise between LDO and stETH holders. When governance is in a veto negotiation state, stETH holders locked in Veto Escrow can initiate a vote, with two possible outcomes: to lift the veto or not.

Voting will last for a fixed period, with the initial two-thirds allowing votes for any outcome, while the final third only allows votes to not lift the veto. Successful voting requires a minimum quorum, and votes supporting the lifting of the veto must outnumber those against it. If successful, the veto will be lifted, and the decision can be executed; otherwise, the decision will remain in an unenforceable state. This two-stage mechanism ensures fairness and prevents sudden votes from overturning decisions without an opportunity to respond.

Bicameralism ------ A Bicameral Legislative Body

The design of Lido's dual governance proposal emulates the principles of bicameralism, which refers to a legislative body composed of two chambers or institutions.

The U.S. Congress is a typical example, consisting of the House of Representatives and the Senate. When designing the structure of Congress, the framers also faced the agency problem between elected officials (agents) and citizens (principals). The design of bicameralism aims to prevent authority from being controlled by populist "mob rule" through the Senate while also preventing authority from becoming detached from public opinion and the general sentiments of voters.

Of course, such constitutional arrangements are both a result of deliberate design and a historical inevitability, deeply rooted in the tug-of-war between populous and less populous states. However, the Great Compromise of 1787 ultimately allowed representatives in the lower house to be apportioned based on population, while representatives in the upper house were apportioned equally among the states.

During the drafting of the U.S. Constitution, the framers intentionally designed the membership and governance scope of the two chambers, incorporating the principle of checks and balances to prevent the abuse of power and protect citizens' freedoms.

For example, the number of representatives in the House is directly related to each state's population, with representatives elected every two years. In contrast, Senate members are appointed by state legislatures for six-year terms, with staggered terms so that one-third of senators are re-elected every two years. Additionally, each state enjoys equal representation in the Senate, with two senators per state, regardless of population.

The Constitution grants each chamber unique functions and powers. The Senate has the authority to approve treaties and presidential appointments, while the House exclusively holds the power to initiate revenue bills (tax laws). Ultimately, the enactment of laws requires the approval of both legislative bodies.

Dual Governance and Bicameralism

We can observe that there are many similarities between the dual governance mechanism and bicameralism. At a higher level, both alleviate the agency problem through the coordination of interests and limit the power of governing bodies by introducing checks and balances. Further examination reveals four main characteristics in the design of bicameralism and the dual governance model: 1) diversity of representation, 2) reasonable delays, 3) professionalism, and 4) stability and predictability.

1. Diversity of Representation: In the U.S. Congress, the Senate can limit the reckless actions of the populace, thereby checking the tyranny of the majority in the House. In Lido, dual governance expands representation diversity by combining the interests of stETH holders with those of LDO holders. Here, stETH holders serve as a safeguard to ensure that large LDO holders cannot dominate governance, thus ensuring a more balanced decision-making process.

2. Reasonable Delays: Both bicameralism and the dual governance model add complexity to the governance process. In Congress, both chambers often need to negotiate on a bill; in Lido's case, the introduction of time locks reduces the likelihood of arbitrary changes, curbing the impulse of the ruling party to adopt quick fixes when dealing with complex issues. Of course, on the other hand, such designs may also lead to more deadlocks, where no bills can be passed.

3. Professionalism: Hamilton and Madison articulated the following in Federalist No. 62:

"A group called together by a majority from private pursuits, with a short term of service, and without a lasting incentive to devote their leisure time to the study of the laws, affairs, and general interests of the nation, if left to themselves, would find it difficult to avoid committing various significant errors in the exercise of legislative duties." (Federalist No. 62).

In contrast, senators, due to their longer terms, are better positioned to accumulate expertise and networks related to governance. In fact, one of the Senate's important responsibilities is to review and refine matters originating from the House. House members are closer to their constituents and can more accurately represent public opinion. For Lido's dual governance model, we can reasonably assume that LDO holders are more adept at deciding protocol parameters and maintenance, while stETH holders are better suited to evaluate proposals from the perspective of Ethereum network security.

4. Stability and Predictability: In Federalist No. 62, Madison also noted, "Authority, like individuals, will not endure if it does not earn genuine respect; but neither will either be truly respected without a certain degree of order and stability." Bicameralism limits the capriciousness of policymakers, while Lido's dual governance enhances the sense of security for stakers, which is crucial for the protocol's development.

Constitutional Engineering and DAO Design

Bicameralism is certainly not exclusive to the United States; its historical roots can be traced back to ancient Greek and Roman societies. Modern bicameralism originated in Britain and has been adopted in many other countries, although their specific designs vary.

The above comparison of the U.S. Congress and Lido's dual governance proposal is conducted on a micro level. From a broader perspective, designing a DAO is akin to conceptualizing a constitution. Essentially, both are institutional arrangements composed of systems, processes, and policies aimed at efficiently coordinating activities to achieve common goals. The study of constitutional engineering has a long history and can serve as an important reference for emerging DAO designs.

One perspective for comparing constitutional structures is the evaluation of veto gates and veto players. Veto gates refer to formal institutions that can block proposals during the legislative process, while veto players are any individuals or groups capable of preventing proposals.

For instance, the U.S. presidential system and bicameral legislative body have three veto gates: the presidential veto, the two chambers, and the Supreme Court. However, the number of veto players depends on the ruling party's dominance; a party's relative dominance may allow one veto player to control all three veto gates.

Lido's dual governance proposal may be the first DAO to attempt to establish veto gates within its institutional design. However, whether this proposal can successfully achieve its intended goals remains uncertain and will depend on the interactions among veto players. For example, whether stETH holders will act as a unified group with common interests is yet to be seen. As Lido also provides liquid staking on several other chains (such as Polygon, Solana, and Avalanche), whether non-ETH stakers are included (or excluded) in Lido DAO's governance will further complicate the relationship between LDO holders and stakers.

Optimism Collective: Token House and Citizens' House

After detailing Lido's dual governance approach, it is worth noting that other projects are also exploring innovative governance structures. A typical example is Optimism, an Optimistic Layer 2 Rollup on Ethereum, which employs a unique bicameral approach to meet the diverse needs of its community members.

The Optimism Collective consists of two parts: Token House and Citizens' House. Token House is composed of OP Token holders who vote on various governance proposals, while Citizens' House is responsible for retroactive public goods funding (RetroPGF).

RetroPGF encompasses a series of experiments where Citizens' House members allocate a portion of protocol profits or token reserves to projects that have made significant contributions to public goods based on specific criteria. The fundamental concept of RetroPGF is that retroactively identifying and rewarding projects that have proven their value is more effective than pre-allocating funds for potential future benefits.

In each round of RetroPGF, Citizens vote to allocate funds to deserving projects based on their contributions during a designated time period. This approach establishes a strong incentive mechanism for the community to develop public goods that positively impact the Optimism Collective. As a result, the ecosystem becomes more conducive to building, learning, and connecting, ultimately driving increased usage and demand for block space.

The identity-based membership system of Citizens' House will promote diversity, prevent oligarchy, and encourage long-term commitment, aligning with the Optimism Collective's goal of supporting public goods. By separating membership from token holdings, Citizens' House can maintain a more inclusive and balanced decision-making process, reducing the risks of manipulation and collusion. This approach ensures that the governance of public goods funding prioritizes the well-being and sustainable growth of the entire community, rather than merely focusing on the growth of token value.

Conclusion ------ Checks and Balances in Power Structures

In his book "Post-Capitalist Society" (1993), Peter Drucker, the father of modern management theory, proposed the hypothesis of an autonomous community organization that lies between the private and public sectors.

"Every developed country needs a self-governing, self-managed community organization sector that provides the community services people need. Most importantly, it will establish community ties and revitalize civic consciousness. Historically, people's destinies have been closely linked to the communities they belong to. In post-capitalist societies and regimes, individuals must take responsibility for their communities and actively contribute to their development and prosperity."

The core innovation of blockchain lies in governance ------ a new model of distributing trust. Blockchain-driven DAOs have become the foundation for many organic communities, and they undoubtedly have the potential to realize Drucker's vision of nurturing a "new type of civic center." However, the path to achieving this goal is complex and fraught with challenges.

"Ambition must be used to counteract ambition." ------ Federalist No. 51

The spirit of checks and balances proposed by James Madison is not only an eternal political principle but also a principle that any populous community organization should follow when balancing various interests. Therefore, it is encouraging to see organizations like Lido DAO and Optimism Collective actively adopting more complex institutional arrangements in their governance processes.

To realize the vision of DAOs as new forms of social organization and to break free from the interference of centralized institutions, innovation must be achieved not only at the technical level but also in institutional design. To truly unleash their potential, DAOs should boldly explore the diverse fields of constitutional engineering and draw valuable lessons from the rise and fall of past political structures.