The important reason for the rapid development of DeFi is that many people believe that the risk-adjusted returns of participating in DeFi are more beneficial than traditional banks or investment services.
Written by: Brian Brooks, CEO of Binance.US
Editor: South Wind
At its core, innovation is exciting. Innovation involves a new mode of operation that can bring consumers and businesses a promise of greater efficiency and convenience. Think of cars, transistors or smart phones. However, when it comes to financial innovation, often face doubts about the safety and fitness – this is the problem of financial technology in the last decade faced. The good news is that financial technology has made life more convenient for most people, and we can basically reach a consensus on this point. Think of PayPal and Rocket Mortgage.
Today, we will hear doubts and concerns about DeFi (decentralized finance). Regulators have seen the rise of DeFi as an increase in risks to the traditional financial system . Considering that we are all skeptical of past innovations that ultimately brought significant benefits, this is not very surprising. The question is, why is this happening? Can we overcome the ” status quo preference ” of the brain and realize that DeFi may reduce the risks in the traditional financial system? (Note: Status quo bias refers to the tendency of humans to maintain the current situation.)
First, let’s elaborate some background information. In about 18 months since the large-scale rise of DeFi, about 80 billion U.S. dollars of capital has been invested in the DeFi agreement, which is a large sum.
There is a reason DeFi has grown so fast and has become so important. Every dollar invested in the DeFi platform is a dollar that people decide not to deposit in a bank or invest in a traditional asset management company. Why? Because many people believe that the risk-adjusted benefits of participating in DeFi are more beneficial than traditional banking or investment services .
Let’s look at some of the shortcomings of today’s consumer finance. In the memory of all of us, due to monetary policies such as quantitative easing after the financial crisis and the economic stimulus plan in the era of the new crown epidemic, the interest rate that depositors earn at the bank has been at a low level. Rampant hidden fees exacerbate this problem, and even when the explicit transaction fees are zero, hidden fees may reduce customer returns. Due to the inefficient ” walled garden ” caused by the centralized structure (for example, Venmo users cannot pay Zelle users), customers of one institution cannot conduct transactions with customers of other institutions.
In addition, there is the risk of human error, such as the bank’s credit committee approving a high-risk loan that shouldn’t be issued, or refusing to provide credit to a creditworthy borrower. Or, what is more worrying is that human discrimination will enter this equation, further causing certain groups or individuals to be disadvantaged.
Obviously, this is frustrating, so I come back to this question, why is this happening? Why does our “status quo preference” for the risks we are familiar with prevents us from seeing that the new idea of ​​DeFi may reduce or eliminate some of these risks?
Neutrality of technology vs. human error prone
Before joining Binance.US as the CEO, I headed the Office of the Comptroller of the Currency (OCC), which is the main oversight agency of the US Federal Banking System. Therefore, I know that the main focus of financial supervision is those errors caused by human negligence or malfeasance (for example, fraud, self-trading, discrimination, insider trading, modeling errors, etc.).
Each of these errors depends on the human being in the decision-making process. For example, when a person violates his fiduciary duty, collects “tips” from others, or conducts illegal securities transactions based on insider information, insider trading will occur. In contrast, a properly decentralized technological system has no intention of illegally collecting money or committing other crimes . For most of the time, decentralized systems are neutral, especially when compared to humans who are prone to making mistakes. The same is true for other violations caused by human greed, incompetence or negligence.
Think about it from the perspective of a bank inspector. Do you think it is easier to check a publicly available open source software, or to ask someone who might lie? Now imagine that if the human factors that cause each of the above-mentioned errors or malfeasance can be greatly reduced or even eliminated, wouldn’t this solve the large number of risks today?
I want to point out that DeFi is not without risks . Under the DeFi system, money laundering may still occur (although it can be said that it is not so frequent or easy); improperly programmed algorithms will still have a differential impact on a small number of creditworthy loan applicants (although DeFi has a high probability of not involving differential treatment and discrimination ). In addition, many DeFi protocols are closely integrated with their native tokens, and the value of their native tokens may be more volatile than other assets that investors are accustomed to handling, which means that risk disclosure is particularly important. But the fact remains that these technologies, if used carefully and appropriately, can help solve many financial system risks in a technological leap , rather than address them incrementally.
This is important and comforting, because the growth of DeFi seems inevitable, just as the original Internet made the library or post office in American life inevitably replaced. Centuries ago the bank as an intermediary in order to solve the information asymmetry and trust exists, it has now been dramatically technologies, in particular to replace the block chain and artificial intelligence. The need for large central repositories of information, business, and finance is being reduced by technologies that allow decentralized P2P networks to perform the same functions in a faster and cheaper way.
I hope we can recognize this behavioral psychology model, which makes some of us fear the early technological developments and almost makes us miss the benefits they bring. Yes, carriage manufacturers have been permanently replaced by the automobile industry, but most of us have made life more convenient as a result; many respected brick-and-mortar retailers have been permanently replaced by the commercialization of the Internet, but the speed of online shopping And the price advantage makes the lives of most of us better. However, we are again afraid of a new technological revolution, and not because the current financial system is very popular.
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