Controversial Proposal Angers DeFi

An ugly situation is currently unfolding in decentralized finance (DeFi).

Fei Labs, the team behind the Fei stablecoin, has released a controversial proposal that has the creator of the Frax stablecoin, Sam Kazemian, very upset.

What happens next could have lasting consequences for DeFi and DAO governance.

The Timeline

Unless you really follow DeFi, this situation is a little confusing. So here’s a quick recap of how we got to this point:

• Fei is a stablecoin known for using protocol-controlled value (PCV). Basically, Fei is created by swapping other assets for it on a 1:1 basis. These swapped assets are then held and controlled by the protocol. Fei was ultimately able to amass a PCV in the $100s of millions

• Rari Capital DAO was the creator of a money market protocol known as Fuse

• In December 2021, Fei and Rari merged into the Fei-Fuse money market

• In April 2022, the Fei-Fuse money market was hacked for $80 million. Frax, one of the largest backers of Fuse, alone lost $13 million in the hack

• Following the hack, a vote was held and passed to fully reimburse the victims of the hack

• However, in June, after the crypto market crashed, a new vote was run that decided not to reimburse victims after all

• Now, Fei Labs wants to unwind the protocol because of fallout from the hack and future regulatory pressure

• As part of this unwind, Fei would reimburse most of the hack victims at pennies on the dollar. Frax, for example, would only receive 2% of their $13m lost. This is despite the fact that Fei has more than enough PCV to fully reimburse all victims

The Takeaways

This is another case of what we have called here at CoinSnacks: decentralized in name only.

Simply put, we are running into yet another situation where a crypto project that claims to be decentralized is majorly controlled by the founding members and those that simply vote the way the founders want. What good is it to be able to vote on a decision if more than 50% of the votes are controlled by the founding team?

For us retail investors, there are a few takeaways:

• Protocol governance is still very much a work in progress. To expect anything out of it at this stage would be naive

• Even VC-backed projects that seem legitimate on face value have the potential to make very disappointing decisions

• Hacks are a consistent threat to both investors and protocols

• Fei mentions future regulatory risk as a reason for unwinding the project. If this is true, other projects may soon shut down with the same argument

• DeFi is still the wild west. The rewards are great, but the risks may be even greater. Always exercise the utmost caution when interacting with any DeFi project

Once again, the most important takeaway is that if you are interested in investing money in brand new and exciting projects, you should only put money to work that you would be okay with losing it all.

Otherwise, it’s best to invest in what you know and as always diversify.