Fees for the good of DAO and Protocol

Writing this post quickly to provide something more permanent in response to a Twitter discussion. Caveat that I don’t mean to position this against Jacob, just that his pieces provides the best context to discuss. Perhaps what I am saying fits into his ideas.

Jacob of Zora wrote a great piece, “Hyperstructures,” which has inspired a lot of praise and discussion. In it, Jacob lays out the attributes of “a new type of infrastructure” in the form of protocols running on blockchains: protocols which have a specific set of characteristics. I won’t go through all of them. Of interest right now, Jacob says that Hyperstructures are free: “there is a 0% protocol wide fee and runs exactly at gas cost.”

Now that we've established unstoppability as a net new feature, I’ll make my most speculative and contentious proposition: Hyperstructures can be simultaneously free forever to utilize and extremely valuable to own. This is possible because of their unstoppability. There is no cost to maintain and keep the protocol operational forever. Once deployed, it will work exactly as it’s designed with no degradation. For example, if the Uniswap team and website disappeared today the protocol will run in perpetuity. This is something that simply hasn't been possible before.

It is worth stating while the Hyperstructure runs exactly at cost, someone still has to pay the gas cost to operate it at that point in time.

Later, Jacob says that Hyperstructures are also “expansive: there are built-in incentives for participants in the protocol.” The examples given here are of fees paid peer to peer in order to make a protocol work.

A great example of an Expansive fee is the Uniswap LP fee. LP fees incentivize participants to provide the key resource—liquidity. This fee is paid to anyone who is providing liquidity to a pool, it is not paid to Uniswap. LP’s expand the utility of Uniswap, they do not have a monopoly on providing that utility and an LP only captures value on what they’re creating.

Jacob’s piece didn’t sit quite right with me: I don’t think that protocols can just run forever on their own. Sure, the code will keep running. But the world will change and decisions will need to be made, new versions released, etc. Jacob’s idea, explained under the “valuable” attribute of hyperstructures, is that these protocols are valuable because of the threat of fees.

But what does ownership mean in this context? The presence (and control) of a fee switch that can be turned on across the protocol. This creates a dynamic called the "threat of the fee". This means that owners of the Hyperstructure have the right to turn that fee on across the protocol at the base level at any time via a vote. It’s the threat of the fee, because it’s long term value-destructive to ever turn it on. Turning the fee on is a value destructive action because it would immediately lead to an incentivized fork, since there’s now a clear reason for new entrants to do it themselves.

I do not like the idea that protocols can only stay valuable because of the threat of the fee. It seems to imply that any ongoing protocol work will need to come from a treasury of threat-of-fee-controlling tokens, and to me this does not seem healthy or sustainable. There must be some kind of fee that is not long term value-destructive, right?

I didn’t have clear thoughts on this until recently when I was discussing something with Moody. Moody made the case that protocols should not take extractive fees, but should take fees for themselves (the DAO) in a place where (1) it makes the protocol better to have a fee and (2) there is no counter party that it is efficient or sensical to pay (other than the DAO).

If you can find such a use for fees, then your protocol and its funding are extremely robust: the protocol is worse without the fees! Safe from fork 🤞, and the DAO has funding.

Here are some examples I have been thinking of that I think fit into this category of fees.

  • ETH burn, post EIP 1559.
    • This a protocol level change that determined it is more optimal to burn ETH then to pay all transaction fees to miners. In this case, the ETH does not go to a DAO but it does benefit all ETH holders.
  • Optimism auctioning sequencer rights
    • Optimism plans to auction the rights to be the sequencer of Optimism for a period of time. This will be an ETH earning position. Optimism could have chosen Sequencers in many ways, but I am glad they are accruing value to the DAO and the network will be better for it.
  • Uniswap just-in-time liquidity fees
    • This does not exist, but the Uniswap team has told us it almost did! The idea is to charge some fee to LPs who hop in and out, providing liquidity for just one transaction.
    • Uniswap could have taken a fee to the DAO here and it would have (maybe)
      • Made the protocol more attractive to LPs, in general: by discouraging flash LPs you are helping the long term LPs.
      • Would have had a less extractive way to accrue value to the DAO than the fee switch.
  • ENS name auctions
    • There is no other counter party that it makes sense to pay.
    • Auctions are good for the protocol, enable people to pay more for what they want.

(Will add more as I think of them! There must be some liquidation penalties or something that go to a DAO?)

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