What are governance tokens?

Mar 15, 2023
If you understand the corporate world, you might have seen how companies are governed by the board of directors. Companies have a set of boards of directors that hold the major powers of the company. They can make or break any rules and regulations of the company and have a major part in decision-making. Usually, the board of directors is the main governing body that is the centralized body of the company. They can hire or fire any key member of the company such as the CEO- Chief executive officer, CFO, and more. These governance tokens provide another way of managing and handling things in centralized authority. What exactly is governance token and how do they work, let's find out:   

What do you mean by governance tokens? 

  Governance tokens are a way to represent ownership in a decentralized protocol or system. These tokens provide a new way to govern any organization, especially DAO- decentralized Autonomous organizations, Defi - Decentralized finance. In most cases, one token represents a known vote in the organization.    In simple words, Governance tokens build a voting system that is based on blockchain, and a person having the token will hold a vote and has a say on the future of the organization. The more number I'd token one individual has, the more say or authority they will have in the protocol.    Generally, governance token holders will present a proposal on the decision for the organization, if the criteria are met, it will go into voting. Members having governance tokens can use their tokens as votes.   

How do they work? 

  Earlier, the governance tokens were issued by Maker DAO, it's an Ethereum-based DAO that helps crypto centralized Stablecoin, DAI. These tokens are one of the key methods to run decentralized governance in Defi, DAO, and DApp.    The members of the organization that are most active members are awarded these tokens for their loyalty and commitment to the community and the organization. These members can either propose or vote on important issues.   These tokens are used in decentralized organizations because unlike most corporate companies decentralized organizations like DAO do not have a centralized authority that makes decisions. However, they have to make decisions for the future of the organization, so these governance tokens are used.    The governance tokens are a part of utility tokens that can be used to exercise certain rights offered by the decentralized protocol. Examples of Defi protocols include Compound( COMP), and Uniswap(UNI). Compounds allow users to borrow and lend cryptocurrencies. Defi issues a governance token called COMP that allows the user community to vote for key decisions. These tokens are allocated to users based on their proportion of on-chain activity.   

What are the major challenges, merits, and demerits of governance tokens? 

  One of the major benefits offered by using governance tokens in any organization is the protection of the trust. Unlike centralized governance, governance tokens in decentralized organizations eliminate any hampered trust issues or corruption. The governance tokens allow the power of stakeholders to align with the organization and users. Moreover, it can build a stronger, more active community.   However, apart from benefits, governance tokens also face challenges or have demerits such as unorganized allocation of tokens. Large allocation is offered to founders and investors which provides them the most power. This unorganized or most of the power offered to certain sets of people reduces the significance of using governance tokens.   

The future of Governance tokens

  Similar to other cryptocurrencies Governance tokens are subjected to uncertainty and opportunities both. The major factors that will determine the Governance tokens are regulations, adoption of DAO operating models, and new innovations. The lack of adoption and uncertainty in regulations regarding cryptocurrencies in the world are crucial factors.    Final Thoughts: Governance tokens are highly useful in the decentralized organization.are decisions for the betterment of the users and the organization. Moreover, if the major demerit is removed, it would become an effective way to manage and take decisions for the decentralized organization.    However, similar to other cryptocurrencies its future is uncertain and mostly depends on regulations.  But that doesn't hide the fact that they offer better opportunities. If used in the right way and better regulations are offered along with the DAO operation model, governance tokens can be successful.