If you read “Traditional Credit – A Primer” you know all about how traditional credit works. You don’t actually, but you know enough to take a plunge into the increasingly-strange world of crypto credit.
The Distant Past
Once upon a time (3 years ago), very generous VCs and ICO investors gave some enterprising startups money to start unsecured lending businesses. Some, like BTCJam went out of business,while others, like Ripio changed their business model . These startups tried all sorts of clever ways to make sure people paid back their loans. Most of them didn’t. The investors’ money disappeared.
The Recent Past
These guys are doing pioneering work. They’re allowing crypto holders to leverage those assets to borrow more crypto or fiat (via stablecoins). This is pretty great if you’re convinced your crypto is going to go up in value, or just need cash without incurring a capital gain.
Although collateralized lending is not new, these companies are introducing all sorts of innovations into the process. This is thanks to the nature of crypto. Because of its recent volatility, stablecoins are often part of the equation. Because many of the transactions are managed by smart contracts that can react to data in real-time, contract parameters can be more flexible than they are traditionally. Since blockchains aren’t shut off on weekends, contracts can liquidate or settle at any time.
Despite the innovation, the companies building and managing these loan platforms are taking almost no risk. If the value of crypto looks like it will drop below the value of the outstanding loan, or if the borrower fails to meet the repayment terms, the lender liquidates the collateral and still makes a profit.
Unfortunately, there’s a downside to not taking any risk. These companies are leaving money on the table.
Today there’s a lot of planning going on, and it’s exciting.
The current batch of DeFi lenders are working to reduce the amount of collateral they have to hold and to increase the amount of time they can comfortably wait before liquidating a loan. Both of those will increase their profit margins.
They’re also working on increasing their exposure to lenders’ behavior, thereby requiring even less crypto as collateral. They will replace crypto with reputation. This will be possible thanks to the availability of crypto credit data. As a result crypto lenders will enjoy the same dynamics as non-crypto lenders who rely on both hard assets and credit bureaus to mitigate the risk of delinquent borrowers.
But today’s DeFi lenders aren’t alone. Lots of companies are quietly planning their move into crypto lending.
The Near Future
Anyone with a background in financial services knows how critical a healthy credit market is to the whole financial system. Most of the people in today’s DeFi space have that background.
Anyone holding digital assets is going to want to lend them out. That’s how traditional banks make money, and that’s how digital custodians will make money.
Crypto credit data is going to allow a flood of new entrants into the lending space.
Today, crypto lending is primarily a trading strategy. People leveraging their assets in this way are very sophisticated. The use of crypto for day-to-day transactions is growing and will continue to grow. In parallel we will see a demand for more traditional loans, both partially-collateralized and uncollateralized. The supply for this demand will be waiting. Volumes will surprise everyone.
The (slightly less) Near Future
One very interesting property of crypto credit data is that it’s associated with blockchain addresses, not people. This has two unexpected implications.
First, it means that loans can be made anonymously. If an address has a positive credit score, does it matter if we know who’s behind it? Absolutely not. This type of lending won’t be possible in a lot of jurisdictions, but the world’s a big place, and you can bet your bottom dollar that a lot of lenders in the future will be jurisdictionless. Some will be completely autonomous.
And speaking of autonomous, besides a person’s wallet, what else can you find behind a blockchain address? A smart contract. Who’s to say that smart contracts won’t need to borrow money from time to time? If a contract has a good reputation, shouldn’t it be able to? No such contract exists yet, but it’s easy to imagine a dapp in a supply chain needing short-term liquidity to bridge a transaction.
I did mention that things were going to get strange, didn’t I?
From Zero to One (Trillion)
Today, the traditional financial system issues trillions of dollars of loans every year.
Dozens of companies in the crypto space are in the process of building out the infrastructure required to issue loans on a similar scale. That would be exciting enough, but the story won’t end there. Thanks to the unique properties of cryptocurrencies, we are going to see the emergence of never-before-seen credit products that will support use-cases we can’t even imagine today.
One trillion is a certainly a low estimate.
Graychain is the world’s first crypto credit bureau. It was founded in 2018 after the founders built a peer-to-peer lending platform that they never launched. They never launched it because they needed credit data, and it didn’t exist.
Graychain is based in Hong Kong with personnel in the US, South-East Asia, Europe, and Africa.
About Paul Murphy
Mr. Murphy is one of Graychain’s founders and its CEO. His career in the software industry has spanned over twenty years and four continents.
The first ten years were dedicated to understanding and building large systems on Wall Street for clients like J.P. Morgan and Salomon Brothers. Mr. Murphy’s work in this area allowed him to explore a broad range of computing solutions.
After 9/11, Mr. Murphy moved to London to work at Adeptra, a pioneer in the use of automated outbound calling in the area of credit card fraud detection and prevention. The systems Mr. Murphy developed made extensive use of text-to-speech and voice recognition technologies.
Exploring the intersection of telephony and computing eventually led Mr. Murphy to found Clarify, a pioneer in speech recognition and natural language processing, both of which make extensive use of AI.
Graychain is Mr. Murphy’s fifth startup. He firmly believes that cryptocurrency-based financial systems will transform the world in ways that will surprise, frighten, and delight us all.