Maintaining Decentralization: Are Custodians a Threat to DeFi Protocols?

DeFi ecosystems are trying to live up to the decentralized ethos of crypto, but single-token governance protocols could s prove a challenge.

Analysis

Decentralization is at the heart of the cryptocurrency industry, with various protocols trying over time to achieve the level of decentralization that Bitcoin (BTC) has managed to achieve by passing from a whitepaper published to a mailing list to a new asset class. .

Decentralized finance (DeFi) protocols have taken the idea of ​​decentralization to a new level with the use of governance tokens, which give holders the right to vote or submit proposals regarding matters that govern the project development and operations. Governance tokens often represent investor ownership in decentralized autonomous organizations (DAOs), which operate using smart contracts.

Governance tokens and DAOs are native to layer 1 blockchains that support smart contracts. Often these tokens are purchased for investment purposes and held on centralized trading platforms, inadvertently giving centralized platforms outsized power over the protocols they govern.

Last month, cryptocurrency exchange Binance accidentally became the second largest voting entity in voting at the DAO behind the largest decentralized exchange, Uniswap. According to Binance CEO Changpeng Zhao, a Uniswap (UNI) internal transfer automatically delegated tokens.

Binance later clarified that it does not vote with user tokens, but the incident highlighted an issue affecting how decentralized protocols maintain decentralization, with custodial services also popular that they are.

Can custodians threaten the decentralization of DeFi protocols?

Thanks to its accidental token delegation, Binance was able to offer governance votes because it held 1.3% of UNI's total supply, far exceeding 0.25...