“The greatest risk is in not looking, not seeking to understand” — Christine Lagarde
If we are to understand the financial services innovation brought forth by blockchain (a form of Distributed Ledger Technology) we first must comprehend the architecture behind our current banking and financial services industry. As of today, the industry consists of centralised service providers that merely interact through communication protocols (e.g. SWIFT network) that live on the internet and are managed by organisations (e.g. Society for Worldwide Interbank Financial Telecommunication). These protocols guarantee that transactions will be processed, executed, and settled. Banks have traditionally been responsible for interfacing with these networks on behalf of their clients — sending the right messages and responding appropriately to messages received. The internet brought us, as users of banks, closer to their messaging network, allowing us to enjoy the benefits of online banking and fast mobile payments all whilst hundreds of bank branches closed across the globe.
Additionally, we have seen the rise of countless FinTech companies over the past decade, for example, digital and neobanks. These companies built on the edges of traditional banking, naturally expanding the capabilities of the banking industry itself. FinTech companies have experienced considerable user growth by servicing niches that banks have historically perceived unfeasible. These innovations are built on a set of technology that greatly reduces friction and overhead costs, but fundamentally the architecture has not evolved.
Enter the Ethereum Virtual Machine, an open-source network that allows for exceptional interaction and innovation. FinTech has traditionally been companies that utilise technology, Ethereum is a technology that allows for the creation of companies on it. In a similar manner to how Amazon is built on the internet, so could one create a fully-digital bank on the Ethereum Virtual Machine. It is a platform for open and permissionless innovation of financial services. Banks are obviously still crucial in our current system, but they are closed, walled gardens of financial innovation. They have robust frameworks and processes for choosing which projects to pursue. However, they are quickly running out of time.
While banks and their directors sit in bureaucratic meetings that last from weeks to months making decisions on their next moves, the Ethereum network is experiencing an explosion in decentralised financial applications. A no rules, open field of innovation is going on right now in the financial services sector.
How does the Ethereum network make this possible?
At its most basic Ethereum is an improved version of the internet, it has additional expressiveness to other networks like Bitcoin in that it can provide guarantees over basic conditional agreements. If this, then that. When this, then that. These agreements are known as smart contracts.
Smart contracts can be used to create trust-minimised services. Where users of the service can interact peer to peer without requiring a third-party intermediary to enforce and manufacture trust. Ethereum is essentially a vending machine for the creation, management and settlement of trust-minimised financial services that replace the need for intermediaries in financial transactions.
You see, Ethereum isn’t just making banking better, it’s removing the need for banks in their role as a central transaction processor. However, we could still see them operating as access providers that facilitate the interaction between user and open-source coded financial service. Another way of looking at it is that instead of employing banks to send and receive messages for you, you can now directly interact with a financial network.
There is obviously an ugly side to open innovation, the hype, volatility, and speculation are often cited by critics as reasons for its likely failure. Generalising the bad behaviour of a few whilst discrediting the rest is going to become an expensive mistake for any financial institution trying to remain relevant in the digital age.
What is possible on the Ethereum network today?
I can hold money on wallets like Metamask and Argent. I can lend and borrow money on protocols like Compound and Aave. I can exchange assets and provide liquidity to exchanges like Uniswap. I can use hedge fund like tools and invest in tokenised investment strategies on Set Protocol. I can insure my smart contract risks with Nexus Mutual. I can spend money on websites like Bidali. I can trade derivatives on platforms like Synthetix. I could even make predictions on future outcomes of events like the 2020 presidential election on Augur.
Imagine what will be possible in the next 10 years? This rapid cycle of build, assess and iterate is an unstoppable force guiding us on a journey to a low-cost, inclusive financial future.
The Story in Numbers
Since the beginning of 2020 we have witnessed increases across all metrics we can consider measures of success for Ethereum.
Daily active users grew by 69% to 314 000.
Daily transaction count is up 87% to 1 019 533.
Unique decentralised finance (DeFi) users have exploded by 1050% to around 457 012.
Decentralised exchange volumes are now comparable with a small emerging market increasing by 3169% to a value of over $20 billion in just the last 30 days alone.
The dollar value of ETH and ERC-20 tokens locked in smart contracts that power financial services such as lending, borrowing and exchange has increased by 1347.5% to a total of $9.77 billion.
Whilst we all have the option to look, to seek to understand, it’s often easier not to. Bitcoin, Ethereum and distributed ledger technology are complex systems that require significant due diligence. At Etherbridge we aim to lower the barriers of understanding this fast-growing digital economy.
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State of the Dapps, DeFi Pulse, Dune Analytics (Correct as of 20 September 2020)
Jason Carpenter and Michael Haynes