Cryptoeconomic Systems as Institutions with Social and Algorithmic Governance Feedback Loops

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Shermin Voshmgir and Michael Zargham:

"The Internet is an institution, and a piece of cultural infrastructure from which many distributed Internet tribes have formed over time [Phillips 2000], first around the infrastructural layer of the Internet [Mueller 2010], and then on the application layer such as e-commerce platforms [Re 1997], [Zhu and Thatcher 2010], [Schmitz et al. 2002], knowledge platforms [Adams and Gordon 1989], or social media platforms. The institutional nature of the internet is underscored by the emergence of recognizable forms in self-organising communities as social activities migrate into digital spaces [Frey and Sumner 2019]. Though platform economies and associated network effects have driven the internet toward more centralized power structures, platform cooperativism demonstrates that digitalization, when wielded by communities, can be a force for democracy [Scholz and Schneider 2017].

Cryptoeconomic networks enable more fluid organizations to formalize over the Internet - around a specific economic, political, or social purpose - commonly referred to as a “Decentralized Autonomous Organizations” or “DAOs” by the crypto-community [Buterin 2014], [Wright and De Filippi 2015]. They reinvent the institutional composition of the Internet, allowing distributed Internet tribes to self-organize and coordinate in a more autonomous way - steered by purpose-driven tokens (read more on purpose-driven tokens in section 10.1). The network protocol and/or the smart contract code formalize the governance rules of the network, regulating and enforcing the behavior of all network participants.

As institutional infrastructure, cryptoeconomic networks resemble nation states much more than they resemble companies. Their protocols are comparable to the constitution and the governing laws of a nation state [Lessig 2009], in a combination of formal (on-chain) and informal (off-chain) rule sets. The network protocols and smart contract represent the computational constitution, while the adaptive social decision processes represent a body of values and rules which govern the collective decision-making process [Zargham et al. 2020], [Voshmgir 2020]. Cryptoeconomic networks provide an infrastructure that can change the composition and dynamics of existing institutions, since the use of such infrastructure can (i) reduce the principal-agent dilemma of organizations providing more transparency, (ii) disintermediate by reducing bureaucracy, and (iii) replace the reactive procedural security of the current legal system, with proactive and automated mechanisms that make a potential breach of contract expensive and therefore infeasible [Davidson, De Filippi and Potts 2016], [Voshmgir 2017], [Allen et al. 2020]. Contract theory and the notion of incomplete contracts are an important institutional aspect in this context and will be discussed in section 10.3 of this paper.

The institutional economist Thorstein Veblen described socioeconomic institutions as complex adaptive systems, stating that they ”are products of the past process, are adapted to past circumstances, and are therefore never in full accord with the requirements of the present” [Veblen 1973] and pointed out the need for a feedback mechanism to maintain an institutional integrity in the light of their complex adaptive nature. Walter [Hamilton 1919] also pointed out the complex nature of economic systems and ”claimed that institutional economics alone could unify economic science by showing how parts of the economic system related to the whole” [Hodgson 2000] and that ”economic theory must be based on an acceptable theory of human behaviour.”