The Challenges Facing Decentralized Autonomous Organizations (DAOs)

DAOs were once hailed as the future of governance, structures that could operate without centralized control, guided purely by code and community consensus.

As Web3 continues to gain traction, decentralized autonomous organizations (DAOs) have emerged as a promising alternative to traditional governance structures. These organizations are designed to operate without centralized control, with governance decisions made collectively by members through code-based mechanisms.

However, as DAOs grow beyond theoretical governance experiments, they encounter significant hurdles that hinder effective leadership. BeInCrypto spoke with Danny Cooper, Venus Protocol’s Vanguard Team Lead, to understand how low voter turnout, large token holders, and decision paralysis can pose challenges in these organizations.

A New Governance Model

DAOs were once hailed as the future of governance, promising to revolutionize the way organizations are structured and operated. These entities would function autonomously, guided solely by code and community consensus, without the need for centralized authority.

The vision was simple: a transparent, democratic system where every participant has a voice and decisions are made collectively through token-based voting. These organizations typically leverage a blockchain to facilitate self-enforcing rules or protocols, with smart contracts on the blockchain storing the rules and the network’s tokens used to incentivize users to safeguard the network and vote on regulations.

Since the first DAO was launched on Ethereum in 2016, these organizations have entered the realms of venture capital, social initiatives, and public goods funding. But with their philosophy now implemented, their flaws have begun to surface.

DAOs often struggle to balance decentralization and the need for effective leadership, raising questions about whether they are genuinely the ideal governance model or simply a stepping stone toward something more refined.

Lowered Voter Turnout

Unlike traditional organizations with hierarchical structures and centralized decision-making, DAOs distribute governance decisions among their members through code-based mechanisms. This decentralized approach aims to empower members to participate actively in decision-making processes through token voting mechanisms.

However, there have been many instances where equally distributed voting power did not yield the expected results. Frequent voting on every issue can discourage participation.

“As DAOs grow, decision-making can indeed become cumbersome,” said Cooper.

Since many DAOs use referendum-style voting, they assume members will thoroughly research proposals. However, time constraints, lack of information, or simple disinterest can lead to low voter turnout or uninformed voting decisions.

Waiting for every DAO member to vote on a proposal can also slow the decision-making process, especially when an urgent solution is needed.

Segmenting voting matters by priority and topic and assigning them to specific delegates can solve this issue.

“Decentralized decision-making can scale with the implementation of sub-DAOs and layered governance systems, which delegate decision-making to smaller, focused groups. This approach reduces operational complexity while empowering specialized teams to act autonomously within defined boundaries. Advanced governance tooling and clear, codified processes ensure efficiency and coherence across a growing, decentralized community,” Cooper added.

Other options can remedy decreased participation, though they also come with risks.

Increased Centralization Among Major Players

To address low voter turnout, some DAOs allow less active participants to entrust their voting power to more informed members to increase overall engagement.

However, this system does not eliminate the risk of influence by the original owners. They could still acquire a majority of transferable voting tokens, allowing them to manipulate decisions that may not align with the DAO’s best interests.

Consequently, centralization risks also rise. In December 2024, the Cambridge Centre for Alternative Finance, a research institute based at the University of Cambridge, published a study examining the centralization level among decentralized finance (DeFi) projects.

The analysis focused on the following DAOs: AAVE, Compound Finance, Convex Finance, Curve Finance, Frax Finance, Instadapp, Lido, MakerDao, Rocket Pool, and Uniswap.

The study revealed that power within several leading DeFi DAOs is highly concentrated, with governance often dominated by a few influential players.

Researchers used the Gini coefficient to measure the DAOs’ governance token distribution and voting. This coefficient measures the inequality of governance token distribution within these protocols, with 1 representing maximum inequality and 0 representing perfect equality.

The Cambridge study found that these 10 DAOs had Gini coefficients ranging from 0.97 to 0.99 as of October 2024. For comparison, South Africa, the most income-unequal country in the world, had a Gini coefficient of 0.63 in 2024, according to Statista data.

MakerDAO had the highest coefficient of 0.99, while Rocket Pool had a coefficient of 0.97.

Whale Activity Compromises DAO GovernanceThe concentration of voting power among high-net-worth individuals can also marginalize smaller token holders, potentially leading to a situation in which a small group of influential actors effectively controls governance decisions.

“Whale influence in DAOs can skew governance outcomes,” said Cooper.

The concentration of power within some DAOs also raises concerns about potential rent-seeking behavior