May 31, 2022

What Adam Smith Would Have Thought About DeFi and Our Corporate-Democracy

Adam Smith

8 min read

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If it is unusual for a politician to exercise power without corruption, it is even more unusual to exercise power without centralization, especially if there is a type of decentralization such as Bitcoin, which bases its transparent and immutable government on mathematics and which, as such, is already mature and strong enough to be ashamed of depending on a government that is not interested in the progress of mankind.

“The interest of [businessmen] is always in some respects different from, and even opposite to, that of the public … The proposal of any new law or regulation of commerce which comes from this order … ought never to be adopted, till after having been long and carefully examined … with the most suspicious attention. It comes from an order of men … who have generally an interest to deceive and even oppress the public”. Adam Smith, Wealth of Nations

One of the core developments of the Enlightenment was the idea of individual liberty. Beset by the repressions of the State, often closely aligned to the Church, enlightenment thinkers argued for, and several revolutions enshrined, the core ideals of personal liberty. The Declaration of the Rights of Man, the Declaration of Independence, the US Constitution and other documents argued that individuals should be able to own property, participate in their own government, not be subject to arbitrary search or seizure, and should be treated equally before the law. These ideas were literally revolutionary and have formed the core ideals of freedom for 300 years.

Adam Smith was one of the many Enlightenment philosophers who argued that humans had natural rights including liberty. But whereas most of the political and philosophical thought of his time was focused on resisting political oppression by states or monarchies, Smith recognized early that what we would now call corporations represented as great a threat to individual liberty as did governments. Having grown up in the era of The Virginia Company and the British East India Company, he was one of the first thinkers who had the opportunity to experience and reflect upon the pernicious influence corporations often had on individual liberty. Indeed, he comments on the dangerous way corporations interacted with governments to undercut the public good and threaten individual liberty in ways that resonate very strongly today. Today, most of Smith’s fears have been realized. Modern corporate structures and financial institutions have reproduced many of the same limits on individual freedom that was associated with monarchs and the church in the 18th century.

Similarly, much of the discussion around Bitcoin and Web 3.0 has focused on creating an alternative to national fiat currencies and government control of financial transactions as a means of increasing individual freedom. While this is a feature, at least as important and much less emphasized is the way Web 3.0 also protects individual freedoms from corporate rent seeking and control. Consider a few of the key principles — property ownership, government participation, unwarranted search, and equality before the law — and how we currently accept, often with little comment, that when corporations violate these principles: well, that seems OK…

“The music business is a cruel and shallow money trench, a long plastic hallway where thieves and pimps run free and good men die like dogs. There’s also a negative side.” — Hunter S. Thompson

While the protection of private property has long been enshrined as a core feature of individual liberty in western democracies, too often this is violated in practice by corporations. The US music industry is notorious for ripping off artists, limiting expression and creating barriers to participation and distribution. For centuries, rulers have censored works, limited distribution of texts, and seized manuscripts. However, when the music industry does this, it is somehow seen as acceptable because it is ‘legal’. Yet, monarchs were also acting within the law — that is precisely what the revolutions were about, changing the laws that made such interference legal and acceptable; changing the laws to reflect everybody’s common sense notion for what is right.

Prince famously changed his name to a symbol because his record company refused to release his music. They not only controlled all the music he wrote under contract, they controlled any future music he would write, how or even if it was distributed. While theoretically Prince did not have to sign his record deal, though he originally signed when he was a teenager, the industry was heavily centralized with access to concert halls, radio and advertising often under the direct or indirect control of a few major labels. Web 3.0-based music services give artists much more secure means to distribute their work, maintain control over their intellectual property and benefit from any financial returns. For instance, Opus delivers 90% of revenue to the artists, while the Open Music initiative is working to create a streamlined rights and royalties system that is transparent to all parties. What these and many other Web 3.0 programs are striving to achieve is to liberate artists from tyranny — not of the government but of the music industry.

The notion that large corporations should allow users of their products to participate in corporate governance seems nearly crazy. Yet, there is no doubt major corporations have a considerable influence on our lives. Indeed, the Fortune 500 revenue is more than double that of the US Government, representing ⅔ of the US GDP, with almost no means for the average citizen to influence the decisions of these companies. Massive power outside the control of citizens was precisely the problem that Smith and other revolutionary philosophes were trying to address. Web 3.0 offers some remediation of this problem through DAOs and shared ownership. Decentralized Autonomous Organizations seek to rectify this interference with liberty by making arrangements for the business itself to be run by its own customers. Creating systems that allow for participation in decision making, DAOs help level the playing field and give vastly more individuals the opportunity to participate in making decisions that affect them.

Smith also recognized that one of the easiest ways to create inequality is through artificially high barriers to entry. Currently in the US, accredited investors are allowed to invest in, and gain returns from, a much larger range of assets than non-accredited investors. It is easy to become an accredited investor, provided you have an annual income over $200,000 a year or a net-worth in excess of $1 million. (In fact, we ought to end our usage of this euphemism, and just call them what they are: rich people.) By restricting market access, rich people gain a distinct advantage over everybody else. For instance, buying stock before its IPO is generally restricted to rich people. This allows a select group to buy stocks at below the planned listing price. While there are risks, this has been a very profitable avenue of investment for many large funds and high net-worth individuals for decades. Reducing the cost of investing and broadening access to ICOs is another example of ways the barriers to individuals are being reduced.

Limits on unreasonable search were meant to keep the government from invading your privacy. Smith felt that no form of tax should be proposed that would require disclosing personal information to the government since it would be a violation of privacy. Today, we have all grown accustomed to the notion that major companies like Facebook, Amazon and Google are tracking our activities, conversations, and purchases. Virtually everything about our lives is tracked continuously. Now, platforms like Sapiens, Steemit, and VeVue are designing networks that protect privacy, verify content, share revenue, and try to generally prevent user exploitation. These efforts are still in the early stages of development but our right to privacy, which has been completely erased by corporations, could be making a comeback with Web 3.0.

Perhaps the single greatest affront to Smith was the notion that there are different categories of people subject to different laws. In pre-revolutionary France, the Clergy and the Aristocracy were distinct groups governed by special laws, having special privileges and having almost unlimited power over the rest of the population. Famously, when a noble sat and watched while his thugs publicly beat Voltaire with clubs, Voltaire had no recourse because he was not a member of the Aristocracy. Today, corporations have achieved a similar power. Consider that the 2008 financial collapse that nearly destroyed the global economy because of systemic fraud, required trillions of dollars of bailouts and cash infusions from governments and created mass unemployment and destruction of private wealth resulted in zero prosecutions for any of the major financial institutions that caused the crisis. Consider the Exxon Valdeze oil spill which caused massive ecological destruction through proven corporate negligence. A jury found Exxon guilty and imposed a $5 billion dollar punitive damage for the 1989 disaster. Exxon appealed the settlement and, finally, in 2009 paid damages of $507 million. So a jury verdict of $5 billion was reduced through legal actions over 20 years by 90% and, considering inflation, even less than that. Given limitless time, corporations are functionally immortal, and massive legal resources means they are not subject to the laws as mere citizens. Web 3.0 seeks to create alternatives to major financial and corporate power centers so that, if nothing else, individuals have a choice about whether they wish to engage with these institutions. Further, the transparency of the blockchain makes the kinds of systemic risks that collapsed the world economy in 2008 much easier to detect and, perhaps, avoid.

In essence, Smith would applaud all the many aspects of the new digital financial technology that is freeing individuals from both corporate and government control. For Smith, extending individual liberty by creating options, lowering barriers, increasing transparency and allowing broad participation in decision making was all to the good.

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