Aug 10, 2023 - Economy & Business

The case for unchanging DeFi protocols

Illustration of binary code carved into a stone tablet.

Illustration: Shoshana Gordon/Axios

A longstanding problem in cryptocurrency projects is how to best manage change in protocols over time. But what if they just...don't change at all?

Why it matters: When decentralized projects allow users to upgrade their software, they can introduce exploits into the system that later cost innocent users millions. That's partly why a vocal minority of entrepreneurs advocate for open software that doesn't change, Brady writes.

  • The term of art for it is immutability.
  • Most decentralized finance projects aren't immutable. Investors in them can vote with their tokens on updates to the code.

Driving the news: In a Twitter Space yesterday organized by B.Protocol, that question was a central point of tension.

  • Paul Frambot, of Morpho Finance (which helps borrowers and lenders find the best rates), argued some of the biggest protocols have hundreds of risk parameters.
  • He said it's just not reasonable to ask a community of token holders to make informed decisions about something so complex. "As a token holder, you have to have a Ph.D. in risk management," he said.
  • Ian Harvey of Ajna Labs, which has built an immutable lending protocol, argued that unchanging code has a certain elegance because users know exactly what they are getting into.
  • When software never changes, there's no unknown governance vote in the future to change the game, he contended.

Yes, but: Marc Zeller, a leader in one of those very big decentralized finance (DeFi) projects, the money market Aave, noted that "It's very hard to build future-proof stuff."

Case in point: One particular protocol which has opted for immutability, Liquity, came up for discussion.

  • Liquity is a DeFi project that makes the stablecoin LUSD. It was built without governance, on purpose.
  • To create LUSD, borrowers deposit ETH and can withdraw a portion of its value in LUSD.

Liquity ran into a growth problem when staking ethers to support Ethereum's upgrade to proof-of-stake became popular, however. Another team, Lido, had created a way to lock your ETH, earn staking yield and yet keep it liquid, with its staked ether (stETH) derivative (more on this in 2️⃣).

  • Liquity hadn't been built with stETH in mind and there was no way to add it, because... immutability.
  • This hampered Liquity's ability to grow when everyone was focused on Ethereum staking.

That said: Software can always be forked (that is, a new version can be released) into a new (and wholly separate) version.

  • Uniswap, the leading decentralized exchange, has forked itself twice. All three versions remain in use.
  • Liquity is, in fact, in the middle of forking to a new version.

The bottom line: Voting is just one kind of approach to governance. Another one is exit.

  • 🗳 People can vote with their feet rather than their tokens, and that might even be better.
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