Lecture 14: DAOs & Governance
Instructor: Yu Feng, UCSB
CS190: Blockchain Programming and Applications
Lecture 14 — Who decides when parameters need adjustment? Who fixes critical bugs? Who manages protocol treasuries? In traditional finance, these decisions rest with executives and boards. In DeFi, they belong to a revolutionary organizational structure: the Decentralized Autonomous Organization
The Brain of DeFi
We've explored the fundamental building blocks of decentralized finance—stablecoins, AMMs, lending protocols, perpetuals, and MEV. These components form powerful autonomous financial systems, but every system needs direction and oversight.
Parameter Adjustments
Who decides when parameters need adjustment?
Bug Resolution
Who fixes critical bugs?
Treasury Management
Who manages protocol treasuries?
In traditional finance, these decisions rest with executives and boards. In DeFi, they belong to a revolutionary organizational structure: the Decentralized Autonomous Organization.
The DeFi Stack: From Money to Management
The DeFi ecosystem layers sophisticated financial primitives into an interconnected stack. At the foundation, stablecoins provide price stability. Above them, AMMs enable frictionless trading while lending protocols unlock credit markets. Perpetuals add leveraged exposure, and MEV emerges as an invisible force shaping transaction ordering.
These "money legos" snap together to create autonomous financial machines of remarkable complexity. Yet machines require maintenance, upgrades, and strategic direction. This brings us to the apex of the stack: governance.
DAOs represent the collective intelligence layer that directs, manages, and evolves DeFi protocols through transparent, code-enforced rules.
The DeFi Stack, with DAOs as the governance layer controlling underlying financial primitives
What is a DAO?
Rules as Code
Organizational bylaws encoded in transparent, immutable smart contracts
Member Control
Token holders collectively govern through binding, on-chain votes
No Central Authority
Flat, democratic structure replacing traditional hierarchies
A Decentralized Autonomous Organization replaces the CEO, board of directors, and corporate bylaws with smart contracts and community votes. Every decision—from parameter adjustments to treasury allocations—flows through transparent, programmatic governance.
Think of it as a company where shareholders don't just advise management; their votes automatically execute binding changes to the protocol itself. DAOs are the brains directing DeFi protocols toward their collective vision of the future.
Token-Weighted Voting
One Token, One Vote
The most prevalent DAO governance mechanism is elegantly simple: voting power scales linearly with token ownership. Hold 1% of governance tokens, wield 1% of the vote.
This design aligns voting power with financial stake—those most exposed to protocol outcomes have proportional influence. Implementation is straightforward, making it the default choice for most DAOs.
The Whale Problem: A critical flaw emerges when token distribution is unequal. A handful of large holders ("whales") can dominate decisions, marginalizing thousands of smaller participants. The promise of decentralization gives way to plutocracy.
Visualization of voting power concentration: whale dominance vs. smaller holders
Quadratic Voting
Power to the Passionate
Quadratic voting offers an elegant solution to wealth concentration by making additional votes exponentially expensive. The cost to cast n votes equals n² "credits."
Cost = (Number\ of\ Votes)^2
01
First vote: 1 credit (1² = 1)
02
Second vote: 4 total credits (2² = 4)
03
Third vote: 9 total credits (3² = 9)
04
Fourth vote: 16 total credits (4² = 16)
This quadratic scaling forces strategic allocation. With 16 credits, you could cast 1 vote on 16 different proposals or concentrate 4 votes on one critical issue. The system measures intensity of preference, allowing passionate minorities to meaningfully influence outcomes against indifferent majorities—a more nuanced form of democracy.
Governance Failure: The Flash Loan Attack
On-chain governance introduces unprecedented attack vectors. The most devastating exploits abuse flash loans to temporarily hijack voting power within a single atomic transaction.
Borrow
Attacker obtains massive flash loan of governance tokens
Vote
Temporary voting power passes malicious proposal
Execute
Proposal executes immediately, draining treasury
Repay
Flash loan repaid; attacker walks away with funds

Historical Example: Beanstalk Farms suffered a $181 million flash loan governance attack in 2022. The exploit succeeded because proposals executed instantly upon passing, with no timelock delay.
Critical Design Principle: DAOs must implement mandatory time delays (timelocks) between vote passage and execution to prevent instantaneous manipulation.
The Curve Wars
1
A Multi-Billion Dollar Fight
The Curve Wars, mainly from 2021 to 2022, were a big, multi-billion dollar fight in the world of decentralized finance (DeFi). Many major DeFi projects battled fiercely to control Curve Finance. Curve is the largest exchange for stablecoins and a key part of how these digital financial systems work.
2
Winning Control & Power
Big players like Convex Finance and Frax Finance constantly bought Curve's main token, CRV, to get more voting power. Their goal was to send CRV rewards to their own investment pools. This would attract users and give them billions in financial sway. Huge amounts of money, called Total Value Locked (TVL), were at stake.
3
Real-World Test for DAOs
This event was a dramatic, real-life example of how DAO governance works. It showed how voting power directly led to major financial results. It clearly proved the deep influence and complex strategy, known as game theory, that are central to decentralized autonomous organizations. It also shaped the future of entire DeFi markets.
The Prize: Directing Liquidity
Curve's Governance Mechanism
Curve Finance dominates stablecoin trading through superior AMM design. Its governance token, CRV, can be locked for up to four years to receive veCRV (vote-escrowed CRV).
veCRV holders wield extraordinary power: they vote on which liquidity pools receive weekly emissions of new CRV tokens as rewards.
Why This Matters
Directing CRV rewards to a specific pool attracts billions in liquidity as LPs chase maximum yields. For stablecoin protocols, deep liquidity is existential—it's required to maintain peg stability during market stress.
Control the votes, control the liquidity. Control the liquidity, control the market.
The Battle: A Flywheel for Power
The Curve Wars describe the fierce competition among DeFi protocols to accumulate maximum veCRV holdings. This creates a self-reinforcing feedback loop of increasing dominance.
This dynamic connects our entire course: AMMs and stablecoins form the battleground, while MEV manifests as "vote bribes"—protocols directly paying veCRV holders for governance influence. An entire ecosystem of bribe marketplaces emerged, turning DAO governance into a sophisticated auction mechanism.
Key Insight: DAO governance isn't sterile voting—it's a competitive economic arena where incentives drive emergent, strategic behavior.
Accumulate veCRV
Protocols acquire governance tokens
Direct Rewards
Vote to funnel CRV to own pools
Attract Liquidity
LPs flock to highest-yield pools
Generate Fees
Deep liquidity produces revenue
Buy More CRV
Fees fund additional token acquisition
References
  1. Michael Egorov. 2019. StableSwap — Efficient Mechanism for Stablecoin Liquidity. https://curve.fi/files/stableswap-paper.pdf Accessed: 2025-10-01.
  1. Steven P. Lalley and E. Glen Weyl. 2018. Quadratic Voting: How Mechanism Design Can Radicalize Democracy. American Economic Association Papers and Proceedings 108 (2018), 33–37. https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2003531
  1. Rekt News. 2022. Beanstalk - REKT. https://rekt.news/beanstalk-rekt Accessed: 2025-10-01.
  1. Fabian Schär. 2021. Decentralized Finance: On Blockchain- and Smart Contract-Based Financial Markets. Federal Reserve Bank of St. Louis Review 103, 2 (2021), 153–174. doi:10.20955/r.103.153-74 Accessed: 2025-10-01.