Why DAOs are the new firms?
Last year, DAOs hit an inflection point. Membership, the treasury, and activity exploded.
To many young entrepreneurs and crypto enthusiasts, DAOs may seem like a radical shift in organizational power structures.
No boss? Getting paid in native tokens? Voting on decisions? Could this actually work?
The History of the Firm and Where DAOs Are Taking Us
One of the less-known things about crypto is the Decentralized Autonomous Organization (DAO), which is a type of social organization built on blockchains and smart contracts.
Celebrity investor Mark Cuban heralded DAOs as a “combination of capitalism and progressivism”. In crypto quarters, DAOs have been called upon as the “most important innovation” and the “future of work”.
As of March 2022, about 215 DAOs are listed on DeepDAO, handling $9.5 billion across half a million active members. DAOs come in a variety of categories across DeFi, fundraising/investment, social communities, media, service (freelance), and more.
Today, I want to put DAOs in the context of the history of the modern capitalist firm so that we can better understand what these new social groups can do on a logistical and economic level.
The Nature of the Firm
The economist Ronald Coase poignantly argued that firms exist for reasons of efficiency. Firms are a mode of organization that helps capitalists reduce the transaction costs of doing business, i.e., using the market. If CEOs had to haggle over the terms and conditions for every task with a worker, they would spend all their time mired in bargaining and micromanagement instead of entrepreneurship. The efficient solution was to set up a hierarchical corporate structure and engage workers in long-term contracts within it so they could spend time on managerial duties.
Coase developed his theory of the firm from an inductive observation of large, centralized corporation structures such as General Motors, Standard Oil, and du Pont in the late 19th century to 1950s. These large corporations were set up in a U-shaped (unitary form) structure that came to be synonymous with modern industrial capitalism and the most common organizational structure for decades, even today.
This seems like an awfully commonsensical insight today. Yet, it’s hard to state how ground-breaking the Coasean explanation was in its time. Before Coase, economists treated the firm as a static black box that merely existed in the market economy. In Post-Coase, the analytical thinking of the firm evolved into a complex management structure that juggled transaction costs.
Innovation in the U-shaped to M-shaped firm
The Coasean theory of the firm was not without its critics. On theoretical grounds, it is unrealistic to suggest that one central planner at the top of a giant corporation could possibly oversee every aspect of the firm and instantaneously decide for every task whether to hire another employee internally or outsource it on the market.
The Coasean explanation was steeped in neoclassical economic thinking, where firm owners were assumed to be operating as rational calculators (homo economicus) responding strictly to market incentives and performing lightning-fast cost-benefit analyses.
By the 20th century, Coase’s theory of the firm was also being overturned by real-world experience. As globalization made the world’s economies more interconnected, more and more businesses tried to do more and more complicated things by diversifying into markets that were not close to home.
The centralized U-shaped structure grew to be inadequate to manage an ever-increasing scope of complex administrative decisions. The weakness of the traditional U-shaped firm stemmed from its concentration of decision-making power in the hands of a few top men, making it too slow and cumbersome to adapt as the firm grew. Managing the firm in one’s home market may have been easy, but proved too difficult in different regions due to different market conditions, supply chains, cultural phenomena, and more.
Over time, this led the U-shaped firm to spontaneously innovate and decentralize into the multidivisional M-shaped structure. This saw corporations entrusting decision-maki
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