What are Governance Tokens And What is their Value?

Introduction

Governance tokens are an important part of today’s crypto industry. There is a lot of discussion around governance tokens, whether they are fungible or non-fungible tokens, or the utility of different types of tokens, such as applications, platforms, or even security tokens.

The numerous discussions about governance tokens actually reflect their significant value, as a key component of the decentralized network, and even if some platforms do not issue their own governance tokens, there are more or less other forms of alternatives to governance tokens.

Of course, there are projects in the market that lose their appeal completely from time to time, and the governance tokens issued by such projects are completely worthless in the eyes of many users.

This article, on the other hand, focuses on the value of governance tokens, as they have become one of the main narratives of Web3’s evolution. The exact value of governance tokens and their actual utility are still being debated, with the majority of opinions based solely on people’s trust and expectations of the project.

There are many obscure tokens in the crypto market that are referred to as “worthless governance tokens” and because the market has yet to find a clear regulatory strategy that covers all of them, the protocol for issuing governance tokens is frequently dependent on the issuer’s self-determined decision. However, in many cases, whether or not these governance tokens charge a fee or provide appropriate benefits to holders is determined by the market, project, and community to which the governance tokens belong as a whole. The discussion of governance tokens and their value is increasingly influenced by different factors. Especially as the crypto industry enters a phase where many different areas are bursting at the seams, the discussion of governance tokens and their value is increasingly influenced by various factors, necessitating a more rational examination of governance tokens themselves.

What is a Governance Token?

To begin with, the concept of “governance” has significant value in traditional financial markets, where stockholders can vote on executive compensation, board seats, and corporate resolutions, all of which have some meaning and imply that investors have the ability to influence corporate decisions on specific issues.

In Web3, it is undeniable that governance tokens are typically presented to users in the form of a cryptocurrency. To achieve a decentralized outcome, DeFi relies entirely on smart contracts and the granting of voting rights to the community, in this case allowing governance token holders to vote on the direction of the blockchain project, with the main goal of decentralizing decision-making and allowing holders to have a say in how the project runs.

The above organization is known as a DAO, and while it is sometimes simply referred to as a community for convenience, users of a DAO have the right to participate and vote on the project, and can influence the final decision on many aspects of the project.

Governance tokens are a form of decision-making power, and they have their own use and circulation value when they exist in the form of cryptocurrency. These are all superficial expressions, but the most important role of governance tokens is in power distribution.

The presentation of governance tokens, which in earlier Defi projects were mostly presented in cryptocurrency, is no longer the only form within the newly born fields, such as in the form of NFT or specific contracts. But its essence has not changed, and many GameFi take the form of NFT credentials + governance tokens + universal tokens to constitute the economic structure of the project, although cryptocurrency is still the dominant form today.

While the concept of governance comes from traditional finance, it has been explored in the Defi space to develop a clear definition of governance tokens. By assigning voting and participation rights to users in the form of tokens, governance token holders can propose new governance proposals or vote on proposals made by other community members. Community members can use tokens to exert direct influence on the future direction and characteristics of blockchain-based projects, which in many cases can be manifested in the various fees involved in transactions, the project’s external publicity, the brand image content, and the amount of money generated from transaction fees, brand image content, the allocation of rewards arising from transaction fees, the revision of the model for the liquidity pool, etc.

Due to the characteristics of governance tokens, users can participate in different forms of economic activities by using the governance tokens in their hands to obtain active and passive income.

So how do governance tokens work under such a set of models?

How do governance tokens work?

Governance tokens are the basis for establishing decentralized governance in DAO, DeFi projects, and DApps that incorporate elements of DeFi.

In general, governance tokens are more likely to be awarded for significant contributions to the community or for advanced users of a project, but this is a more traditional type of project, where the concept of governance in GameFi or SocialFi also includes NFT, and governance tokens exist more as accessible rewards in application scenarios.

In terms of power distribution, however, the different types of projects in the Web3 space are logically consistent in their use of governance tokens, with governance token holders voting on key issues to ensure the project moves forward effectively. Voting is typically done using smart contracts so that the results can be tabulated and formulated automatically.

Each project has its own set of governance rules. They are distributed to stakeholders including the founding team, investors, and users using various calculations, which naturally include users from different sources such as IDOs and IEOs.

Among the different projects, the criteria to determine whether the governance tokens are of value in the current project is simple, as the users themselves need to measure the extent to which the project itself meets the definition of decentralization, and if the various elements of the project are attributed to a centralized institution, especially if they are heavily artificial, it is prudent to participate, as smart contracts are the only ones that can enforce the various benefits and interests according to the established criteria. Smart contracts are the best way to enforce a reasonable distribution of benefits and interests according to established criteria.

However, this does not mean that governance tokens need to govern the project according to the principle of maximum universality, for example, some governance tokens are only open to voting on a limited number of issues, while others vote on everything from development updates to smart contract revisions. Similarly, some governance tokens have the option to generate financial returns, while others do not. Looking at these types of situations requires a specific analysis based on the smart contract criteria established at the beginning of the token’s issuance.

As an example, MakerDAO, an Ethereum-based DAO, was one of the first projects to issue governance tokens, and one governance token, MKR, is equivalent to one vote, with the decision that receives the most votes being adopted. The goal is to maintain the stability, transparency, and efficiency of the governance token.

However, extreme examples often arise, such as situations where the project owner gives up control of the project entirely and relies solely on DAO organization members to run the community around the contract.

The above has basically covered the definition of governance tokens and how they work in great detail, so let’s move on to another topic - what is the value of governance tokens?

The value of the Governance Token

The effectiveness of governance tokens in supporting the distribution of power in different projects has been proven in many cases and has become the norm for most projects in the Web3 space. The discussion of the value of governance tokens is more about the pursuit and validation of their deeper meaning.

In a decentralized ecosystem, governance tokens are a way to ensure that such a norm is enforced.

In addition, governance tokens can help project owners make effective decisions, and while the decision may not always be the right one at the moment, a decision voted on by all participants holding governance tokens can take into account the interests of all members to the greatest extent possible.

At the same time, the project owner can get feedback from the community through frequent interactions, so that they can get more accurate information about the deviations in the project implementation process, and thus more easily understand the rationale for making certain changes to the project or introducing new issues. That is, governance tokens can better help projects solve their own problems in the development process and take care of the legitimate interests of the majority of people to the greatest extent possible.

The value of governance tokens also depends on the fact that they are one of the key elements that make up various projects. In DeFi projects, where governance tokens are well used, there are no governance tokens that are not open to the public, but the decision-making process of the corresponding project to which the governance tokens belong is confidential. A governance token is an alternative form of stock in crypto projects, and participation in holding is a way to profit based on smart contracts.

The advantages and disadvantages of governance tokens

Governance tokens are a great way to decentralize a project and incentivize user participation, but they inherently exhibit complexity and vulnerability to abuse by their very nature. One of the main advantages of governance tokens is decentralization, in fact, it is the only real way for project owners to achieve decentralization in the Defi ecosystem. Without the participation of governance tokens, project users can’t really have a say in how the project is run, so governance tokens serve as an irreplaceable participation credential for most projects.

Another advantage of governance tokens is that they incentivize users to continue to participate in the project. The governance tokens themselves have both use and circulation characteristics, and because they have certain monetary properties, the additional value generated through circulation brings continuous participation benefits to the users. And as the overall scale increases, its related characteristics will be further strengthened to participate in the project, while also increasing the value of the project itself.

The governance model represented by governance tokens also provides more efficient benefits for project development, as community members can use the power granted by governance tokens to drive the development of desired features.

Of course, governance tokens also have some risks and drawbacks, such as the complexity and vulnerability of abuse mentioned above. Because of the complexity, it is easy to make it difficult for users to understand how it works, resulting in less willingness to participate in governance. Another disadvantage is that it is prone to abuse of power. If a small number of users hold a large number of governance tokens, it is easy to make the voting results unfavorable to the interests of the project as a whole, because not all governance models have perfect accountability, i.e. if a decision proves to be wrong, no one may be able to bear the serious consequences.

Conclusion

Overall, governance tokens are an important tool in the crypto world because they play a key role in the decision-making of projects, where project owners use cryptocurrencies to give power back to users, allowing them to decide on specific proposals for the future of the project, thus generating a consensus of value and sustaining the project’s longevity. It is for this reason that governance tokens have become an important part of crypto projects, and their own value is reflected in the changes in the relevant nodes involved in each project.