DAO-Case: “Code is law”, so the hack is legit

DAO-Case: “Code is law”, so the hack is legit

Is a cryptocurrency's regulation a good idea? Cryptocurrency is a fact, blockchain is a fact. When people have money, even if it is virtual, they wan

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Is a cryptocurrency’s regulation a good idea?

Cryptocurrency is a fact, blockchain is a fact. When people have money, even if it is virtual, they want to invest. It hasn’t been long before the first digital decentralized investment fund to be grounded – DAO (Decentralized Autonomous Organization). As the name implies DAO operates in digital world – investment plans, payments, corporate governance – everything is virtual and managed by code. You are not able to visit an DAO’s office, because such doesn’t exist; you cannot talk to DAO’s employees, because they are in the virtual space; you won’t sign any contract by hand, because DAO uses Smart Contracts, based on the Ethereum-Blockchain. These contracts are the connection between investors and startups.

The sequence of operations is very simple:

  1. An anonymous investor buys Ether → 2. They purchase then DAO tokens → 3. Invest in by spending tokens for a startup proposal → 4. Startup can exchange token for Ether and then for offline currency.

Each one of these operations are secured by a Smart Contract.

After some time of cloudless existence the situation took a bad turn for DAO. 3.6 million Ether /50 million USD/ were stolen from DAO by breaking the code of DAO’s smart contracts. Probably DAO had assumed that something like this could happen or it was just a happy coincidence but the Smart Contract had been so programmed, that there was a time window between taking the Ether and exchanging them – time needed for finding a solution.

And the solution came with the idea of building an alternative blockchain. As a result two blockchains are created – Ethereum Hard Fork (ETH) and Ethereum (ETC). The first one is unsuccessfully hacked, the second one is unchanged but hacked and should already have been out of use. But cryptocurrency community interfered with the following concept: “Code is law. If the code of the DAO allowed this hack, the hack is legit”. With these words they continue to maintain the “forgotten” Etehreum-blockchain. And consequences are that the stolen investments are refunded and stolen at the same time, because of the two blockchains – ETH and ETC.

This case introduced a new topic to the cryptocurrency’s and blockchain’s world – the topic about legal liability. In the offline world contracts are enforced by a court, in digital world, where blockchain exists – by the participants on the network. So virtual organizations do not need to be legal personality to operate but the members of the network are members of the classical offline legal system.

Official financial regulators make first tries to enforce regulations on cryptocurrencies and blockchains, but it is almost impossible the same rules and regulations to be applied to smart contracts and to financial world outside of the virtual space. At least because in the offline world there are intermediaries, such as banks, funds and so on, that are exluded from the blockchain. Besides blockchain-using companies do not have a registration in legal ledgers and tokens are not recognized as an official financial instrument.

Maybe there are some ways for regulations of blockchains and it is just a matter of time such regulations to be adapted to blockchain-technologies. But there are also concerns that the regulations  will make the usage of blockchain more difficult. So a balance between virtual space and offline legal world sholud be found.