An updated approach to Terra’s governance

Governance and Community Fund management in an interchain and decentralized ecosystem

Terra is a burgeoning ecosystem who has introduced two successful protocols, Mirror and Anchor, over the last year and is about to unveil many more in the upcoming weeks and months through the work of Terraform Labs (TFL) as well as the ecosystem’s growing developer community.

It has become deeply integrated with the Ethereum chain through the Shuttle bridge, with a growing Mirror user base gaining access to their ERC20 token version, as well as mAssets/wrappedUST pools on Uniswap V2 and millions in daily volume on the UST+3CRV pool on Curve. Terra assets can also be bridged to the BSC and a bridge with Solana called Wormhole is being developed by Certus One.

Even more importantly, Terra should soon be integrated with many other Cosmos/Tendermint chains once it enables IBC, gaining access to the growing Cosmos ecosystem, with its Hub’s Gravity Dex AMM and other native chains like Osmosis, THORChain, Secret Network and many more.

As Terra keeps growing and integrating with other ecosystems, the community should start thinking about a true vision for its future governance as the stakeholders of this blockchain.

Governance in an interchain world: Protocol wars and Strategic positioning

As different Defi protocols become more integrated, they are also bound to become more interdependent. Even competing protocols can easily become embedded and the extent to which they benefit or compete with each other is becoming less and less clear cut. As seen recently on Ethereum, where the fight for veCRV between yield aggregators Yearn and Convex highlights how the two protocols are both complementary and competitive.

Another governance dispute has recently emerged involving Yearn, after Curve proposed to remove CRV rewards from Alchemix’s pool in the protocol. Due to their deep integration with Alchemix, Yearn indicated its opposition to the Curve DAO’s proposal, a significant declaration for a protocol which holds 8% of all locked CRV (Read more here).

As Terra becomes more integrated and interdependent with other blockchains, it should ensure that its ecosystem is safe from any unwanted governance changes they might make or that it is not completely dependent on the security of systems it cannot control. For example, as a protocol which relies real world data, Mirror should diversify so that it does not rely solely on Band Protocol oracles for asset prices (I believe a partnership with Chainlink is being discussed, good!).

Furthermore, Anchor is a savings protocol which relies on Lido for its staked assets and their yield. As DeFi protocols begin to incorporate increasingly important amounts of liquid staking derivatives, the competition for those assets is bound to increase as well. As the protocol which manages the use of staked assets like bEth and bSol, Lido possesses great influence over the success of Anchor. Yet, Anchor has no say in the Lido DAO’s governance decisions and can be vulnerable to configuration changes, modifications of node operators and oracles, and the centralization of bAsset validators.

These composability issues highlight the need for strategic positioning so that Terra not only secures itself from competition by protocols it has become integrated with but has a say in their future, as an interdependent contributor to their success.

Governance in a decentralized world: DAOs and Community Spend

Luna is not only a utility token that serves as the backbone of Terra’s algorithmically achieved price stabilization, it is also the chain’s governance token that can be staked to secure the blockchain and participate in its governance. As a governance token, Luna needs to be relatively illiquid and highly priced to prevent accumulation by a malicious or self-interested party, which is why staking incentives and the 21-days locked period are fundamental for the security of the ecosystem. Still, to achieve optimal decentralization, the Luna token must also continue to spread across many users and validators so that eventually an organic and decentralized governance system can form around Terra.

Terra’s governance remains very centralized with the core TFL team maintaining control of most of the protocols through their influence and majority stake. Here, this centralization is undoubtedly a good thing for such a young ecosystem. As Michael Dempsey explains here:

It is my belief that in the near-term, we likely will see more forms of cementing closer-knit, concentrated governance power with the illusion of democracy because of the ease of doing so. The argument often being that these core members of a project have and will know best, and in the fast moving world of DeFi (and really crypto broadly), it will be deemed necessary to the survival of these projects over time. The debate that the world enters over the next few decades of whether authoritarian regimes are actually optimal in a global landscape, or if democracy will survive, will likely be waged in a similar way on-chain, with strong proponents on each side.

Yet, if Terra’s future is to move towards a DAO, as has been frequently evoked by TFL’s CEO Do Kwon, then the work to prepare such a goal could start now:

Responsible DAOs with a core team that claim to truly want what’s best for the project and not just themselves should make it a point to begin to define what metrics of success and failure look like, as well as what milestones the members can hold them to, just as we do today at the board level of companies and at quarterly shareholder meetings. Without this type of structure, it is likely that because of a macro rise in crypto, the pseudonymity, or the high velocity of members moving between projects, we could see little long-term accountability built up, and thus even more opaque understanding of good and bad actors, and successful and unsuccessful leaders, contributors, and communities.

While all of these concerns do not necessary apply to TFL, it is rather from the 100s of upcoming protocols that are currently being developed on Terra by community members that we must ask for more transparency and accountability. Some of these teams have not been scrutinized to an extent that might be deemed necessary before allocating them >$100k grants from our community pool. Projects will apply for funding with no metrics of success or milestones that might help us determine the usefulness of grants if we do not enforce strong checks. While I make no claim that its team is not legit, a projects has already claimed to give itself a vesting schedule while making a Community Spend proposal that does not include it (see Price § ≠ on-chain prop). Such errors are bound to be reproduced as more projects evolve and seek funding from the community pool.

In the very long term, Terra will need to strive for governance minimization, so that it promotes credible neutrality and continues to foster interchain integration while attracting a strong developer community.

Where do we go from here?

Lower governance deposit requirements

First, an on-chain proposal should be reinitiated to lower deposit requirements for Luna. Proposal 58, which was discussed here, proposed to do just that but was rejected after it didn’t reach quorum due to lack of participation (it was right after a text proposal about it passed, creating confusion regarding a double proposal).

This on-chain proposal must be introduced once again, as access to governance must be available to all for the system to be truly decentralized, with the understanding that greater access to such tools must also mean that the community is willing to veto useless and spam proposals if necessary to incentivize meaningful and efficient governance.

More validator governance transparency and accountability.

Validators have a very important role in the ecosystem’s governance and their vote have a lot of sway in proposals as they represent the interest of their delegators, a lot of which will not vote individually. This means that validators’ voting history / record should be easily accessible.

Terraform Labs currently delegates upwards of 64 million Luna through around 40 validators, and although they might leave the governance decisions to the underlying validators, it represents a significant amount of tokens that has an influence in the outcome of proposals (>15% of voting power). I believe that during the upcoming early days of governance, the TFL wallet should vote Abstain on every significant on-chain proposal so that it does not sway the decision (by giving certain validators unproportional voting power) while supporting efficient governance by helping proposals reach quorum. TFL could also choose to support or oppose certain proposals when needed, issuing a note on why it was necessary for them to take a position. Ultimately, TFL should reduce their staked position once the ecosystem matures and their presence is no longer needed for network stabilization.

Discussions about how to decentralize validator voting power should be encouraged, for eg. implementing quadratic rewards. Furthermore, incentives to spread delegations over a multitude of validators and to delegate to smaller validators or ones that contribute to the community could be considered.

Increase decentralization of TFL’s wallet

Right now, nearly half of Luna’s total supply is held in one TFL wallet, those funds should be separated in different multi-sig wallets for safety and clarity regarding allocations and spending.

Systems similar to Llama Community on Ethereum could be very useful.

Community Projects

As mentioned above, we are currently giving community pool grants with little to no checks, and no incentives to act in the interest of the ecosystem. As we welcome many more projects to Terra, we should ask ourselves necessary questions before allocating funds:

• Is the roadmap/timeline sustainable?
• Is some type of vesting schedule appropriate? (→ implement a token vesting escrow similar to this?)
• Are all the costs taken into account?
• Could the project apply for Terraform Capital funding (who covers launch and audit costs) before requesting from the community?
• If the team is anon, what kind of trustworthy guarantees can they provide?
• etc.

Diversify Terra’s Community Funds

In May 2021, the community rejected Proposal 82 and decided not to burn the funds in the Community Pool. While this decision to keep those funds and use them for the good of the Terra ecosystem is in the good direction, maybe the implied result from this decision that these funds should instead be used to bootstrap the Ozone insurance protocol has not been discussed enough.

In early June 2021, the Community Pool amounted to around 73M Luna (valued at $438M on 20/06). While we should use parts of those funds to bootstrap Ozone, we could also keep a significant part of the pool to do some strategic positioning and form a governance treasury with a long term focus.

In addition, the Anchor Community Fund also possesses around 100M ANC tokens (valued at $267M) while the Mirror Community Pool possesses around 36M MIR tokens (valued at $160M) and will reach 128M MIR over the span of four years. Although it’s necessary to keep in mind that these tokens are part of the supply distribution strategy and selling them too soon could have negative effects on tokenomics.

First of all, if we decide to keep part of the Terra Community Pool, slowly diversifying a minor part of those funds is necessary for the pool to keep some of its value during downturns, similar to the fund management and diversification needed for DAO treasuries:

Second, accumulating tokens such as LIDO, ATOM or CRV can serve as strategic positioning in an interchain environment where we will continue to become even more interdependent with other DeFi protocols.

The feasibility of such a plan remains to be discussed, especially for assets residing on the Ethereum blockchain like LIDO but creating a multi-sig wallet controlled by TFL or by governance through Shuttle if possible might be an option.