How to understand the governance tokens in DeFi projects?

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On June 16, Compound launched the governance token COMP distribution mechanism, and all users who use Compound deposits and loans can be allocated COMP according to the rules.

Coincidentally, the official decentralized stablecoin platform Curve also stated that governance tokens will be launched soon, and all users who provide liquidity for Curve from January 2020 are likely to receive the issuance of Curve governance tokens.

Why have DeFi projects recently announced the launch of governance tokens? What is the role of governance tokens in the DeFi ecosystem? Is DeFi governance token a good investment target?

 The role of governance tokens?

 Each token of a blockchain project has its own purpose. Some are value storage directions, such as Bitcoin, which can be used to store value and circulation value.

In addition to Bitcoin, some tokens can be used to pay transaction fees, and ETH is used to pay gas fees; some are used as work rights. Only a certain amount of tokens can participate in the network's block production, such as various PoS tokens (such as EOS, Harmony, etc.); some can capture transaction fees, such as kyber, etc. by destroying tokens to capture value; some tokens are mainly governance, such as MKR, 0x and other tokens. Of course, most tokens have more than one purpose. Some tokens can not only capture fees, but also can be used for governance, such as MKR and Kyber.

The fundamentals of the value of tokens that capture transaction costs often come from their business volume, such as the scale of transactions, and their premium comes from people's expectations of their future business volume growth. This is easier for everyone to understand. Today we are going to talk about the governance value capture of DeFi governance tokens. Its game value is not as obvious as transaction costs, so it is easy to be ignored by people.

The premium of DeFi governance tokens mainly stems from the scale of assets locked in the project itself, which is also related to security. With the increase in the scale of locked assets, the game demand for governance also increases.

 MakerDAO VS. Compound token governance mechanism 

The governance token of MakerDAO is MKR.

MKR is a voting right. Analogous to the DPOS head project EOS, EOS holders can participate in the election of 21 super nodes, and the super nodes initiate proposals and votes on behalf of the community. MKR has similar functions. MKR holders vote to determine the risk parameters in the system, such as collateral selection, liquidation ratio, stable fee rate, etc. If you think about it for a moment, you will know that the voting rights of retail investors are basically useless, and large investors have the right to decide.

MKR enjoys project dividends. When users redeem their mortgaged assets, they need to use MKR to pay interest, and this MKR will be destroyed. If the MakerDAO project works well, the destruction speed of MKR will help increase the unit price of MKR.

The "3.12" black swan event caused MakerDAO to generate about US$5 million in bad system debts, and the price of maker once dropped to US$200. For this reason, it was necessary to auction more platform currency maker to make up for platform losses. These MKRs are sold in exchange for DAI, and these DAIs are destroyed until the system disposes of bad debts. Bidders bid a fixed amount of DAI, and will buy less and less MKR until the bidder with the highest bid wins and the system's debt is repaid.

However, it is bold to imagine that if the black swan's influence continues and the system's bad debts continue to increase, then the MKR decline will continue, and a vicious cycle will follow. In addition, in terms of liquidity, there is a shortage of DAI in the market to participate in MKR auctions, so Maker quickly opened the USDC over-collateralization channel to make up for the lack of liquidity of DAI in the market.

Next, let's take a look at how Compound's governance token is designed?

Data on the chain shows that the total number of COMP tokens is 10 million, and they are ready for public review.

According to the news released by Compound, new COMP will be rewarded to the agreement users every day based on usage. 4.23 million COMP tokens (42.3% of the total) will be placed in a "Reservoir" smart contract, and each Ethereum block will transfer 0.5 COMP (that is, about 2880 COMP per day). This means that 4.23 million COMP needs 4 years to distribute), waiting for the agreement to be distributed.

Half of the daily COMP is allocated to the asset supplier, and the other half is given to the borrower. The most active assets will also receive the most COMP per day, so the configuration will change as the market changes.

Compound founder Robert Leshner said that Compound governance is ready to expand from the core team and shareholders to the entire ecosystem. Any community member can propose changes to the Compound protocol. Changes may include adding new assets, changing the model used to set interest rates on a given asset, or removing assets.

Only when 1% of COMP tokens indicate that a vote should be taken, will the proposed governance change be voted on. The entire process from voting to modifying the code takes several days. It is said that all these measures have recently been tried in a closed test of the governance platform.

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