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Decentralized Impact Organizations for the Climate

We are running out of time.

Every region of the world is seeing irreversible damage due to climate change. The new report by the United Nation's Intergovernmental Panel on Climate (IPCC) states that "unless there are immediate, rapid and large-scale reductions in greenhouse gas emissions, limiting warming to close to 1.5°C or even 2°C will be beyond reach."

In other words, extreme mitigation is needed.

640px-CO2_reduction_pathways_for_preventing_1 5ºC_global_warming_2019

Picture 1: CO2 reduction pathways to keep global temperature rise below 1.5 °C. Our World in Data.

The challenge is daunting. Getting gradually to net zero emissions is not nearly enough — we also need to draw carbon from the atmosphere.

Almost every part of the economy needs to be transformed — from eliminating emissions in electricity production, food, agriculture, land use, industry, transportation, and buildings to creating natural and artificial carbon sinks on land and in the oceans.

emissions2 Picture 2: Emission sources & natural sinks. Drawdown.org.

The undertaking requires integrated interventions in economic, political, technological, and social systems along whole value chains. All levers of change must be simultaneously engaged: technological innovation, policy and regulatory frameworks, financing models, social norms and behaviors, skills and capabilities, citizen participation models, identities and narratives of individuals and collectives, business models, and production and consumption paradigms.

foodsystem2 Picture 3: Global food production as a complex adaptive system.

Furthermore, because the systems are complex (see Picture 3) and behave unpredictably, deterministic plans are bound to fail. Instead, we need to experiment our way forward.

The current market pull is not sufficient enough to incentivize effective experimentation. Yet, coordinating these experiments across different systems and levers over the next decades is impossible for any centralized actors such as governments.

Therefore, we need to create new market mechanisms that reframe people's thinking to the longer term and to things that are better subjects for their attention.

Social Policy Bonds as Market Makers for Public Goods

Enter social policy bonds.

Social policy bonds (SPBs), originally proposed by Ronnie Horesh in 1988, are financial instruments that reward people when they achieve social goals.

The bonds are simple in design. They do not bear interest and are redeemable for a fixed sum when a specified social objective is reached. The bonds are distributed to preselected agents or auctioned off to the highest bidders. After this, they freely trade in the open market causing their market value to rise and fall.

As an illustrative example: The city of Helsinki wants to reduce the city’s annual carbon dioxide emissions by 80% by 31st of December, 2030 as measured by real-time data from NASA's carbon-sensing satellites.

The city agrees to pay out $60 M in total when the reduction is achieved. The city issues 600 000 carbon bonds redeemable for $100 at the date of reaching the target, and then auctions those off to the highest bidders among its ~ 600 000 citizens, who can later sell the bonds or buy more on secondary markets.

Despite their simplicity, SPBs have a rich set of properties that make them great tools for climate finance:

  • They create a group of bondholders who have a strong interest in achieving the targeted social objective efficiently, or in paying others to do so. Furthermore, the bondholders have an incentive to cooperate with each other to share ideas, skills, and resources that help reach the objective as efficiently as possible.
  • The market mechanism will ensure that the bonds end up in the hands of bondholders that can most efficiently create a meaningful change in the KPI that the social objective is tied to. Inefficient bondholders reduce the likelihood of reaching the objective and thus lower the price of their tokens. At some point, the inefficient bondholders will benefit more from selling their bonds to efficient bondholders than holding the bonds themselves. In addition, the bonds are solution-agnostic and thus able to engage any lever of change necessary.
  • Some bondholders may be able to contribute to only one or a few of the early processes necessary for the objective to be achieved. Once these investors have contributed what they can and seen the value of their bonds rise in line with the increased probability of the bonds' redemption, they may sell the bonds to the next bondholders, who have greater expertise in carrying out the later processes.
  • The market for the bonds provides useful information for both investors and bond issuers. The higher the price relative to the payout, the faster or cheaper the specified goal will be achieved. This information will in turn help decide where to allocate society's scarce resources.

Yet, for all their attractive properties, social policy bonds have never been put into practice after their invention 33 years ago. Since there is no research (that we know of) on why governments have been reluctant to try them out, we can only speculate.

Social policy bonds work best for long-term, ambitious, quantifiable goals that require diverse, adaptive, and often uncertain approaches. It is possible that for governments, long-term goals may exceed budgetary periods, ambitious goals surpass branch responsibilities, quantifiable goals require non-existent measurement methods, and relinquishing control over how public goods delivery may conflict with the cultural premises of their industrial, linear, and redlined past.*

It is thus unlikely that social policy bonds will be spearheaded by governments or transnational institutions. Yet, for SPBs to make a real difference, we need their financial support.

How to get them onboard?

*For comparison, the non-tradeable version of social policy bonds, "social impact bonds" (SIBs), that use preselected partners that deliver against a predetermined theory of change, have gained growing support across governments. Since 2010, 214 SIBs have been issued in 35 countries.

Decentralized Impact Organizations ("DIOs") to Supercharge Social Policy Bonds

Crypto has transformed grassroots-level organizing. For the first time in history, it is possible to economically align networks of strangers into working together by using programmable incentives and by providing them with tools to make decisions and govern shared resources in a decentralized manner. These new organisms are called by many “DAOs”, Decentralized Autonomous Organizations.

An SPB and its bondholders together form an entity very similar to a DAO: the bondholders form a grassroots level organization and share an economic fate via the bonds they own. What is special about this type of "DAO" is that its token (the bond) derives its value from the quality of a public good. To distinguish them from generic DAOs, we’ll call these organizations "DIOs", Decentralized Impact Organizations.

The technology for creating crypto-native DIOs already exists. Six months ago, UMA Protocol launched a new crypto-derivatives product called "Key Performance Indicator Options". KPI options were originally created so that crypto protocols could trustlessly guarantee that their community receives rewards for hitting milestones such as increasing Total Value Locked (TVL). However, their design allows them to be used for SPBs, too.

KPI options are synthetic (ERC-20) tokens that will pay out rewards if a KPI reaches predetermined targets before the given expiry date. Every KPI option holder has an incentive to improve that KPI because then their option will be worth more.

Launching an SPB as a KPI option token is simple:

  1. Define a KPI metric for the synthetic.
  2. Determine parameters: a KPI target, an expiry date, and a payout value.
  3. Mint tokens by depositing collateral to be used at settlement.
  4. Set up a secondary market on Uniswap or on other AMMs for ERC-20 tokens.
  5. Distribute tokens by airdropping them to preselected addresses or by selling them for stablecoins via a Gnosis Auction or by other means.

DIOs that take advantage of KPI options not only democratize the creation of SPBs. They also radically expand SPBs’ properties. With KPI options...

  1. Anyone can issue tokens for free in a matter of hours - skipping month-long paperwork and massive costs required to list assets on traditional secondary markets.
  2. Anyone can add collateral, which enables multiple parties to join a contract to incentivize the change they want to see in the world. This is not a small feat. Philanthropic donations to mitigate climate change are growing rapidly, and for example, in the U.S between 2014 and 2019, they nearly doubled from $900 million to at least $1.6 billion. In addition, crowdfunding of climate goals may rocket in the coming years.
  3. At any time before expiry, more collateral can be added to the contract. This is useful because the optimal payout level is hard to determine beforehand. The size of the payout does not necessarily increase the probability of success linearly, and therefore market reaction can help determine whether the initial payout is too low and needs to be increased.
  4. Goals can be cascaded into a network of tokens. Investors owning a token can split a primary goal into several secondary goals and fund the secondary goals directly instead of picking and funding projects that may or may not succeed.
  5. Tokenholders can access the rapidly developing set of tools for decentralized organizations and 10X their ability to find each other, develop a sense of mission and belonging, and coordinate effective action across geographies.

Well... at least that's the hypothesis. What we now need is a pilot.

The next step: to scope a DIO pilot

The purpose of this essay is to propose DIOs as a novel mechanism for climate change mitigation and expose it to scrutiny before designing a real-life pilot. However, we can already set some design constraints for the pilot and sketch an outline for a “launchpad” for DIOs.

The primary goal of the DIO pilot is to test the concept and learn whether the mechanism can produce expected results in real life.

SPBs are well suited to climate mitigation because reducing greenhouse emissions focuses on a well-defined and measurable global externality. However, a good KPI target for the pilot needs to fulfill several requirements:

  • The target defines a hard problem that requires diverse, adaptive, and uncertain approaches to solving it.
  • Yet, the target can be reached within a span of months.
  • Both the underlying phenomenon that the KPI measures and at least one data feed for the KPI must be too costly to manipulate.
  • The target can attract enough climate mitigation capital.

The secondary goal for the pilot is to validate the need for a DIO launchpad — a website that can help climate mitigation funders and operators build and scale DIOs in an instant. Potential features could include:

  • Find and follow a wide variety of climate KPIs in one place
  • Find preselected, vetted data feeds that can be used for issuing new tokens
  • Issue, collateralize, airdrop, auction, and recollateralize tokens
  • Mint NFTs in return for funding DIOs
  • Find issued tokens, and buy and sell them
  • Find & connect with other tokenholders and communities for each issued token

The global climate finance market must grow at an unprecedented scale of $3-5 trillion per year in order to meet the Paris Agreement targets, and new market mechanisms are needed to channel those funds effectively.

The job for us now is to concretely demonstrate to parties funding climate action that decentralized technologies can provide a viable alternative.

I want to thank @stskeeps from originally pointing me to the social policy bond literature, @LauriPietinalho for taking the role of a devil’s advocate and providing valuable suggestions for this proposal, and Ronnie Horesh, @JuhaLeppanen, @MikaPyykko for sharing their points of view on social policy bonds with me during the preparation of this essay.