The Future of Money
A personal thesis on how money would evolve over the next decade
Hi!
I took a two-week hiatus to focus on some career moves and mental health during the pandemic. Things are trending back to normal, and I should hopefully have some great news to share in the week to come. In other news, this newsletter grew ~50% thanks to Peter from Metacartel Ventures giving a strong endorsement on Twitter.
Now would be a good time to share some of my thinking on the evolution of money, how DeFi fits within it and what is to be expected from the space over the next decade. Consider this an alpha version of an evolving thesis for DeFi.
Note : If you are new to the space, I suggest beginning with reading this piece I wrote as an introduction to DeFi last year.
A Brief History of Money And Networks
Money is the instrument with which we drive influence upon social networks. It curates labour, goods, services and reduces friction in trade by acting as a measurable form of value. In studying the history of money, it becomes clear that networks have accelerated its use and innovation. Before American Independence, settlers in Colonial America conducted trade in Spanish dollars due to deficits in acquiring British Pounds in the region. The desire to set up East India Corporation led to the issuance of stock for venturing in pursuit of profit. Venice and Florence benefitted from the active trade going on in the region - leading to the birth of double accounting systems and foreign exchange. The large banking networks set by the Rothschild family also relied on an intricate network of reputation and networks to function between the 15th to 18th century. With the benefit of hindsight, it is safe to say that the complexity of the functions money serves evolves as the strength of the network within which it is used. Why? Because as a network grows, the complexity of interactions within it increases. As a network evolves the amount of trust in the monetary base of its economy needs to increase. Nial Ferguson’s Square and the tower explores this phenomenon in good depth.
The birth and scale of the internet came at a time global economies were coming to grips with seismic shifts. The United States, fresh out of the cold war, began seeing its technical prowess as the means through which it influenced much of the world. China was evolving towards being a capitalistic, industrial nation as a generation began forgetting starvations after the benefits of the great leap became evident, and India’s markets opened after a financial crisis in 1991. Capitalism and money became the means through which markets expanded and democracies secured themselves. This context is essential when we think about how money changed with the arrival of the internet. “Globalisation” was the hot new thing, and we needed platform layers that enabled this new “village” as Thomas Friedman would put it to be able to interact with it. While traditional banks and regulators saw threats from the “dot com” frenzy, they did not see it eating them up in the early 2000s. Dot Con is a good book on the exuberance of the time
Where the early 2000s was about money becoming digital through the adoption of ATMs and digital banking, the 2010s have been about programmable money. Interfaces that can speak to one another through APIs have been the foundation of what is fintech today. Robinhood, Stripe, Transferwise, Google Pay, Apple Pay - the behemoths of the fintech world rely on the ability of traditional banking interfaces to communicate with one another. So we have had three broad things happening in the past 30 years, which may have done more to influence the way we perceive, use and think about money than in the past 5000 years. Yes, thats a reference to the title of the book named Debt.
To re-cap, “digital money” came along-side
1. The opening of global markets towards the end of the cold war (the 1990s)
2. The belief that we do have a global village thanks to the power of the internet (the 2000s)
3. The arrival of money platforms that can communicate with one another (the 2010s)
The challenge here is that while the internet has given us a network layer to transfuse culture, thought and services across the world, the means through which we pay and receive money is built on legacy systems. They continue to be programmed by a handful of entities that started with a vision for what money should be but became duopolies or monopolies in different markets. When we consider Visa, Mastercard, Swift and Western Union, we are looking at entities that are comfortable with their share of the market as regulations ensure it is virtually impossible to compete against them. Entry barriers for creating new financial platforms and instruments have been kept high through licensing regimes and capital requirements. Until Bitcoin came along.
Value Transfers in Web 2.0
When thinking about the value on the internet, attention has been the most common system of payment. Tim Wu’s Attention Merchants gives context on this. Platforms like Youtube, Facebook and Reddit have scaled to size by relying on the cheapest commodity on the internet today - a person’s mind-space. Part of the reason for this is effective systems of monetary transfers don’t exist for internet-scale yet. Which effectively means business models cannot iterate at the pace at which the internet evolves. While Paypal did an incredible work in moving money to its digital medium and the likes of Monzo, N26, Revolut and Transferwise have made age-old banking interfaces move into the 21st century. The fee models they use leave much to be desired.
Internet-scale money transfer systems need to be handling the following to be truly effective :
1. Cost-effective - for micro-transactions
2. Global and inclusive - since our economies are now intertwined
3. Programmable - to account for the unique use-cases changes in business models bring.
4. Secure - Because we have banks getting hacked frequently enough
Stripe powers much of what powers digital commerce today. Their launch of API layers to enable digital commerce empowered developers to be able to begin collecting payments with a few lines of code. Faster onboarding, dashboards to verify sources of payments and ability to collect payments from anywhere in the world made it possible to build global-scale businesses. As the number of people offering the primary form of value (attention) on the internet increased, the infrastructure needed to derive money from them evolved.
Bitcoin’s emergence on the internet over the past decade relied on this macro-trend of our economic interactions going increasingly digital. Music, television, newspapers, movies - even dating, has entirely gone digital. The last front for social transformation today is money. Given that governments maintain power, influence and social integrity through their control of money, changes with our stores of value have taken longer. Over the past decade, Bitcoin showed us that a monetary system could be designed such that it is governed by the people, with levels of transparency higher than that of its traditional peers while being drastically more inclusive. While there have been monetary experiments that tackle each of the challenges mentioned in the previous statement, what may have empowered Bitcoin the most as v1 of an internet native monetary system is the fact that nobody has been able to take it down so far. While Bitcoin serves the function of a store of value quite well, the ability to represent customised stores of value on its chain has been restrictive. This is the gap the likes of Ethereum has found as an opportunity over the past five years. There are, however, several other trends that are contributing to the rise of internet native, digital-first assets and what we are now calling “decentralised finance”. I see them as a precursor to what Web3.0 will be.
The “new internet” will be one of ownership
As digital native economies came of age, the age-old question of “who owns what” came of prominence. Regardless of how good a creative is, without the distribution of Facebook, Youtube or Twitter - it becomes hard for the individual to reach their audience. This has turned on against the user in multiple instances. Amazon has launched its variations of goods that sell the most. Google competitively ranks businesses based on who’s paying them. Even our democracies have gone on sale as firms prioritised profits over sane societies. The quest to own one’s data and identity is the transitionary phase of Web2.0. Facebook allowing individuals to export their data or Google drive being able to import external files is the slow transition towards modularity of data on the web. Over time, it may not be surprising to see individuals being able to export their data and use it in a different client.
However, money and data are not the sole underpinnings of a digital native economy. Where Web 2.0 platforms like Facebook relied on user eye-balls, Web 3.0 ventures rely on giving individuals the right to owning the produce of their activity. In other words - we see a structural reform in how incentives on the web work. Reddit’s foray into using community-based tokens is an early sign of this. Through rewarding individuals in tokens for their activity on the website, Reddit is evolving beyond its reliance advertisement revenue. They are creating an entire economy that empowers creatives around the product. Users with a high amount of influence and reputation could trade reward tokens from their subreddits or be incentivised assets that can be converted to actual dollars. By using a blockchain, Reddit can enable micro-transactions from and towards individuals in any part of the world in unique assets that may or may not be traded against the dollar. In contrast, Medium - inspite of its $5 pay-wall and intention of rewarding content creators in proportion to the time individuals spend on the site has seen user activity decline. Why? Because unlike a blockchain native product like that of Reddit’s - the underpinning of Medium’s is on Stripe. One that by default, makes it considerably harder for creatives from much of the world to sign up given the amount of AML/KYC that is needed to get one’s foot in. More importantly, it is an ineffective tool for micro-transactions. Not every read converts to a $5 tip. Sometimes, people may want to pay just $0.10, and there needs to be infrastructure to enable that 20 years since money went digital through the likes of Paypal.
I focus specifically on Reddit in the above instance as textual content is the most common form on the web today. However - across mediums, the quest to own the rewards that come from user-generated content will be the key driver for businesses adopting tokenised forms of value on their platforms. Platforms that enable individuals to receive rewards in shorter, more frequent spurts in forms of value that can be redeemed for money will over-rule traditional systems of incentives such as likes and re-tweets. We see an early version of this already.
Here’s how the past decade has changed for prominent segments
Music - Artists skip the record labels and find an audience via Spotify and Soundcloud. Rewards are denominated on the basis of number of plays.
Gaming - One time payments for ownership has transitioned to free access and multiple micro-transactions.
Journalism - Prominent writers and analysts break away from traditional publications and launch their own paid substacks.
Video - Subscription-based video access is slowly becoming the norm. Masterclass, Onlyfans, Skillshare being some of the instances.
In each of these instances, the creative is still at the mercy of the platform’s algorithms, but the web is moving away from low-value rewards that provide dopamine hits to ones that can sustain a person’s livelihood. A16z captures this trend perfectly in what they have been calling the “passion economy”. What has enabled this is the fact that the internet has reached a global scale. Half of humanity came online in the past decade, and that number will only increase. What is lagging, however, is the monetary rails to enable this new transition to a web built on ownership and new incentive mechanisms.
DeFi As Infrastructure For Internet Scale Money
In thinking about DeFi today, individuals see it from the lens of an innovation in cryptocurrency. We are still struggling to see where people are going to find value. Much of the challenge with that lies with the industry’s focus on short-term rewards like staking and yield. Things that generate noise but make no meaningful impact outside niche communities. The truth of the matter is we are inching closer to a point where the end-user no longer realises they are engaging with a blockchain and exponential growth is already kicking in. One instance where this is taking place is with stablecoins. While much of the use for tokens like USDT and USDC is related to trading, there are users at the fringes using wallets like Argent to send money around. If you don’t believe the exponential growth claim for stablecoins - here’s what it looked like as of Mid June.
Much of what is holding back stable-coins from massive adoption is the application layer around it. Where Stripe makes it easy to take subscriptions through credit cards, a variant of the same for stable-coin based invoicing system has not scaled in the market yet. This, in turn, relies on on-ramps for the ecosystem. While it is easy to argue that on-ramps won’t scale without regulatory clarity from the government, there is ample evidence to believe that rhetoric may change too.
1. Traditional banking platforms have begun enabling users to have access to digital assets
2. What is “fintech” today is also onboarding users to digital assets. (e.g., Paypal shortly).
Interestingly enough, the industry already has precedent for native applications over-taking its traditional peers. Here is Coinbase’s growth chart for reference.
Source : CB Insights
What we are missing out between the noise around yield and staking is the fact that we are creating an entirely new financial stack. One that is more inclusive, efficient & programmable. When we speak about “democratising” finance, we ignore the fact that for decades the ability to build on it has been restricted to the few that could acquire the licenses needed to build on it. More importantly - functions such as interest rates and monetary policies have historically been handled behind closed doors with the public only able to see the final output of what is decided on. Decentralised finance is changing all of that - one application at a time. Part of the reason much of the functions a bank serves has been costlier than its peers is that profitable avenues of the bank have subsidised the non-profitable ones. The gradual unbundling of banks have been occurring over the past decade. DeFi is a natural extension of that.
Image Source : Andrew Wong’s writing on Open Finance. Strongly recommend reading it.
DeFi allows developers and creatives to take any part of what is the traditional financial stack and build for it. Since stand-alone applications will need to find their unit economics right early on (for funding and making paycheques), they may be able to function better than traditional banks. One way we see this occurring is through liquidity mining today. Compound unlocking over $500 million in total value locked through their liquidity mining provision is an incentive mechanism at play. (More on Compound here). By rewarding early liquidity providers with an asset that can determine governance on the project, the venture is doing two things at once
1. Ensuring people have the right incentives to provide liquidity
2. Aligning those with the right incentives to the long term growth of the network so long as the underlying asset is held onto.
The volume and speed of money moved through DeFi ventures will be in multitudes of what it is in the traditional financial stack over time. One instance where this has already played out is with stablecoins. Global C2C remittance volume annually is at around $500 billion. Stablecoins are already set to cross that threshold in 2020. The moment the middlemen are replaced by code, there is ample profit to be moved around to other stakeholders or cost efficiency that can reduce the burden on the end-user.
There are other trends on the internet that will further accelerate the pace at which DeFi becomes internet-scale money. Since each of these are long-forms in their respect, I will give a brief introduction here and dig deeper in future issues.
The Passion Economy
Web 2.0 relied heavily on the influencer economy to come of scale. Facebook, Instagram, Twitter are platforms that enable the dispersion of altered realities that can then be commercialised through sales. However, income from eyeballs has been declining on these outlets for quite some time. The inability to directly monetise is what has lead to the birth of Patreon and Substack. Even then, the ability to customise and receive payments at scale is hindered by the amount of paperwork and documentation needed if you are not in specific parts of the world. Much of the passion economy today is fuelled by Stripe’s payment APIs. If you are not in the USA - opening a banking account to receive payments through Stripe is a painful three to the four-week process, starting with registering a company in the USA to having your account approved. DeFi can cut down that process to a matter of hours.
Projects like Unlock Protocol are already laying the foundational layers for it to happen through empowering creators to charge in digital currency. Similarly, the likes of Roll are making it possible for creatives to release their own NFTs. Historically - releasing goods associated to your name was only for athletes or great musicians. Jay Z has Rocawear, Jordan had Air Jordans, and Rihanna has Fenty. Physical products have added to their cash-flow. Soon enough, the average creative will be able to create non-tangible, digital-first assets and monetise them. This transition towards the digital has already begun with Travis Scott recently having a concert on Fortnite. These digital assets will not have platform lock-ins, allowing individuals to monetise on multiple platforms with a single asset. Sales of things like tickets to a live event on Instagram or rewards for engaging with their content is how Web3.0 will sneak into the existing web.
One Person Corporations
In the next decade, the theory of the firm will likely evolve to meet the scale of the internet. Where historically, individuals rallied around a large corporation for the trust and efficiency that came with scale, in the next decade - the best in each task will rally around their personal brands due to higher profitability. The best operators will work with others that are just as good at their work in contracts that may last weeks or months to solve for a specific problem instead of setting up a firm and hiring full-time employees. Part of the fuel for this will be the on-going lay-offs in the pandemic. Many young individuals are receiving a harsh lesson that you could be the best at a place in terms of productive output and still be at the mercy of random events when lay-offs do occur. Paul Jarvis’ book - Company of One, explores this concept in great detail.
The challenge here is that existing laws in much of the world have not evolved to meet this transition. Things like “freelancer” and “gig economy” are more associated with job insecurity even while half of the US economy is hired under those terms. In developing economies like India, up to 80% of the work-force is in “alternative work agreements”. The move to digital-first money and more importantly, digital-first organisations will empower economies to make this transition occur faster. The business model Uber relies on was enabled with rising usage of credit cards. With a DeFi first approach, we may likely see this occurring at an international, more global scale. Specific use-cases I see happening are around tutoring, consulting and likely therapy. Individuals from around the world will be able to pay by the minute for access to the world’s best.
These two will be the most powerful means through which DeFi will enter the mass-markets. Influencers will make it possible for the average individual to know about and acquire digital assets - thereby being the route through which individuals are onboarded to the space. One-person corporations will imitate existing B2B interactions in traditional financial rails. They are thus bringing in liquidity and scale. As the number of one-person corporations using DeFi to handle payments scale, SMEs will follow suit and by extension, we will have audit firms offering customised offerings for this new form of money. Jurisdictions such as Singapore have much to gain through creating regulatory frameworks that allow individuals from different parts of the world to register in the region, receive payments in stablecoins and handle their business with access to Singapore’s fintech ecosystem without ever moving to Singapore.
Crossing The Chasm Requires Building Foundations
If we look at what is capturing attention within the industry today, much of it has to do with foundational layers that are making it possible to create experiences that traditional financial stacks cannot. When we see the likes of UMA Protocol and Synthetix being in public discussions on Twitter, it is because they do what traditional financial platforms offer very niche, highly rich clients. Projects like Uniswap are breaking down the barriers that traditionally existed for a token to list and find its initial liquidity. In other words, they are ‘disrupting” models already. It is now a matter of time for them to see the scale.
As with all technology trends, there will be a chasm within DeFi too. Much of what captures public attention in the initial days will be highly customisable, technical tools the average individual may not care about. That is why news about DeFi feels so esoteric today. As the number of hacks on the foundational layer reduces, and trust in them increases, we will see applications that interface directly with the end-user. The slow transition from traditional centralised exchanges (e.g.: Bitmex) to a decentralised alternative (eg: DyDx) in terms of user-count will be the first signal of this occurring. Once liquidity on the application layer increases, we will see massive community-based DeFi applications emerge. This is already occurring through traditional finance giants collaborating through the likes of Chicago Defi Alliance. These will be digital native cooperatives that function without regional jurisdictions interfering with their operations. Once each of these elements is in place, a vision for a full-stack DeFi based banking product could occur. APIs and composability within DeFi will empower users to hold, remit, trade, lend and purchase exotic instruments from their wallets. In the words of Ryan Adams - this is when we will go truly Bankless.
Beyond “De”-Fi
Every once in a while, I see individuals on Twitter (and myself) confused about how certain aspects of a decentralised product will be optimised to reduce regulatory interferences. A common example of this is when the front-end of some decentralised exchanges are blocked for access from the United States. The ideological underpinning is that if we are creating truly decentralised interfaces then blocking certain regions is against the ethos of what this stack is built on. There will likely be much to debate about platforms practising censorship once layer two solutions are used in a hack in the near future.
My understanding is that when it comes to technology, people do not make their choices on the basis of ideology but on convenience. The television has been proven to be a terrible way to rest one’s mind and yet most individuals spend hours on it every day because being on the couch is convenient. We know Facebook and Instagram makes us depressed, anxious and frustrated at the state of the world but we would rather use it than go out and hang out with people in real life. Finance has its own share of similar instances. Buyers choosing to finance a purchase with a credit card at higher interest rates for faster approval is one instance. My point is - as more users enter the arena, there will be a spectrum of decentralisation focusing on different needs.
For the user in Iran trying to escape sanctions that are crippling their economy, Bitcoin may still be the epitome of money that is independent of state actors. For someone in India that is looking for quick remittances, a balance between handing over personal identity-related data (for AML/KYC) and speed may better suit their needs. Ultimately, unless there is a sweeping political movement to make money independent of the government, DeFi will be one of the many stacks that empower finance in different forms. Which means it will have to compete against peers on convenience and efficiency to capture a meaningful share of the existing financial markets.
Ironically, blockchains like Ethereum are not the only ones looking at empowering the new financial stack. This transition to an open, immutable and verifiable network to handle digital currency is going on in other forms too. On the enterprise side, we have “money networks” bridging economies through digital currency. Facebook’s Libra and initiatives like JP Morgan’s Interbank information network are some instances of this. Governments seem to be keen on buying into this shift to the digital through digital currency initiatives. The rise of central bank digital currencies is only the beginning of the journey to a cashless society. In this battle between enterprise, decentralised and government variations of currency, distribution will play a key role. Zynga benefitted hugely from the distribution Facebook offered. Before that, Paypal became prominent thanks to E-bays network of digital auctioneers. As nothing can compete against governments when it comes to adopting a new form of currency, it will be essential for builders in DeFi to take a step back from the rhetoric and look at what the financial world truly needs. There is much to be built doing things that don’t scale.
I will be resuming the usual publishing routine from the coming Monday. Wear your masks and stay safe!
Regards
Joel
Written with help from Alex from Nansen, Ashwath Balakrishnan, Ivan from LTO Network, Dary Lau from CoinGecko, Luciano From DeFi_LatAM, Siddharth Jain and copious amounts of coffee mixed with just the right amount of lockdown frustration.
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