Hi there, more separating the wheat from the chaff this week, updating those of you not following every twist and turn in the tale. We look at what smart people are saying about the state we're in, peer a little more closely at crypto lending, and wondering whether DeFi can find its own way out of the hole, or whether everything is now in the hands of regulators.
The usual disclaimer: This newsletter collates the main themes and headlines of the week in DeFi/crypto/metaverse/web3/NFT land and tries to provide unbiased context. It’s aimed at anyone who wants to keep an eye on the space but isn’t following it too closely, or is on the hunt for story ideas and angles. It’s put together by a team at YAP, and doesn’t contain any promotion of our clients (if one is mentioned, we’ll flag that).
This was put together by a team led by founder Samantha Yap, and Jeremy Wagstaff, formerly of the journalism parish. Thanks to Roslyn Tear and Ruby Wu for contributions. Your feedback is as always welcome. Ping us at thecontext@yapglobal.com. Old newsletters can be found here.
[tl;dr]
So what is happening, exactly? Quite a lot, but not necessarily what you think
Is crypto lending the problem here? Quite a few think so, but it's not necessarily curtains
Can DeFi save itself? Does it need saving?
[Crisis? What Crisis?]
So, in a nutshell, this is where we're at: Terra's UST stablecoin imploded in May after the withdrawal of $500 million worth of cryptos, causing a run, and in turn exposing Celsius, and then crypto VC fund Three Arrows Capital, which had invested $200 million in a Terra-linked token. Three Arrows Capital is in danger of default. Other holdings may also be at risk as liquidity pressure ripples through the system. Here are a few topline thoughts:
Some have made a distinction between CeFi (centralised finance) and DeFi, lumping recent crashes (UST, Celsius, Three Arrows Capital, and some of the companies directly affected by them) together as the former. (See: CeFi Broke. DeFi Didn't, by Donovan Choy).
CeFi or DeFi, some have argued that most companies don't have key CeFi qualities that might give them "the legitimacy of real financial products," such as "any kind of ... legal or financial rigour, or any regulation that would make it so," in the words of Ed Zitron.
Quite a few exchanges are limiting customer withdrawals. AEX is the latest, blaming a $1 billion "bank run". Adding to that is Hong Kong-based Hoo, saying higher withdrawals were affecting the liquidity of their hot wallet, though it has promised to soon open withdrawal for some tokens. Defi insurer Bancor also pauses their impermanent loss protection due to "hostile market conditions".
A quirk of crypto is that anyone can see, in theory, what everyone else is doing. For traders, that's gold, according to Bloomberg: Crypto Traders Turn Against Each Other in a Collapsing Market.
A telltale sign that the crash is a retail one, as pointed out by David Gerard, is the hiring freeze and sudden layoffs at Coinbase.
Ironically, the biggest loser from the crash may be Elon Musk, Tesla and SpaceX. They're being sued for $258 billion over what is alleged to have been a pyramid scheme, otherwise known as Dogecoin. Musk appears unfazed: he told Twitter he would "keep supporting Dogecoin," and that he was open to using it as a payment for Tesla and SpaceX merchandise.
[Lend Me Your Ears]
The recent collapse has focused attention on crypto lending. Crypto lending is when someone uses their existing crypto stash as collateral in exchange for loans -- either fiat or stablecoins. It's desirable to those who don't want to liquidate their crypto holdings, but it has proven painful for those lenders where only a fraction of the deposits are backed by fiat. (Here's a good primer from Bloomberg.) Here are some takes on that:
SEC Chief Gary Gensler doesn't like crypto lending and has repeated his warning about the lure of high returns. But he's also warned against legislative action that, however well intentioned, might hamper his commission's ability to oversee other markets. “There might be something done legislatively that undermines” existing rules for stocks or investment funds by creating different regulations for similar activities," he said.
Indeed, some money is on a regulatory crackdown by the SEC and other financial watchdogs. The piece by Bloomberg cited above says "financial watchdogs appear to view crypto lenders as some of the lowest hanging fruit in their attempt to bring law and order to the broader crypto industry. After all, with firms like Celsius and BlockFi there’s a clear entity to sue, which is not always the case in DeFi transactions."
Crypto lending can still survive bear market, according to Josef Tětek, Bitcoin analyst at the crypto cold wallet firm Trezor. Tětek argues that the current system, where those people lending their crypto into the pool are largely cushioned from risk, and often expect high yields. Tětek says every participant in the deal must accept part of the risk. If the model is tweaked, he thinks "crypto lending as a concept can survive this crisis." (Helen Partz of Cointelegraph).
[Can DeFi save itself?]
In the absence of any central authority to intervene in crypto markets, how have the better positioned companies reacted? Some angles:
Governance: Solend, a lending protocol based on Solana, has had an interesting few days, challenging the principles of DeFi itself, and raising questions about the legality of the process. Here's an earlier piece with some more background on how the company has struggled with its users to address systemic risk to the protocol.
Miles Deutscher on Twitter offers an analysis of why with Solend "another concerning event has started to emerge."
And Amy Castor digs deep in her tale of a whale who took Solend’s money.
Helping hand or short squeeze? Sam Bankman-Fried, somewhat of an elder statesman in crypto, has denied allegations that his companies may have been part of an attack that brought down Celsius, one major casualty of the crisis. Bankman-Fried has denied this, saying that the opposite is true: his companies have extended credit to several players. (Here's a twitter thread by Plan©️ on allegations of a short squeeze).
Financial innovation: Celsius, for its part, has warned that stabilizing its liquidity will take time, with one of its investors offering to help by deploying "financial innovation". Bnk To The Future founder CEO Simon Dixon referred to a plan he helped set up in 2016 to help exchange Bitfinex recover from being hacked. The "recovery ... involved security tokens, debt and equity and gave investors a very high return for the high risk they took." (There are other ways of looking at this, of course.)
Get rid of the bullsh_t: Tascha of Tascha Labs takes a stab at separating the long term truth from the short term delusions of web3 in Truth & Bullsh_t of Web 3.0 - Tascha Labs. Her conclusion: "Most projects from this cycle will die in winter. The new wave of projects— they’ll come—will need to integrate w/ the real economy: leverage web3 model to improve production & distribution of real products & services."
[Tidbits]
El Salvador, weathering criticism of its decision to adopt Bitcoin as legal tender, is planning to launch a new rewards token called the Salvadoran Crypto Initiative. It is being helped by Canada's Astro Babies, which recently launched a crypto casino in the country. (Tim Alper of Cryptonews.com). Here's an interview on NPR about what the crypto collapse means for the country's economy. According to Bloomberg, the nation has lost $56 million with its Bitcoin investments.)
Could a stablecoin version of China's offshore yuan, the CNH, help it to challenge the dominance of the US dollar over stablecoins? An interesting take concludes that widening the use of the CNH presents challenges.
Auction house Christie’s is going to have to look elsewhere for NFT talent after its Web3 expert left to run the CryptoPunks project at Yuga Labs. News of the move apparently leaked, lifting the CryptoPunks Floor Price token to levels it hadn't seen since April. Here's a take on the history of CryptoPunks.
Former game developers at PlayStation and Google have teamed up to create worlds that allow gamers to create and control their own characters, and decide the direction of the world via a decentralised autonomous organisation, or DAO.
After embracing crypto payments, the Swiss luxury watch-maker Tag Heuer has created a watch that will display the wearer's NFT artwork.
A CBDC by another name? Is the ECB's anti-fragmentation tool a CBDC? asks The Blind Spot (subscription required). "How exactly the anti-fragmentation instruments will look, of course, remains to be seen" concludes Izabella Kaminska. "But it seems far from a long shot to suggest the digital euro will play a significant role in whatever system is created. And this speech certainly hints of that."
[Events]
The fourth annual NFT NYC was held in, er, New York City this week, and focused on, er, NFTs. Acknowledging the times, there was a mock protest, cringe threads and boycotts. Bottom line?
[Reading]
How well do rich people cope with financial losses? Losing money is par for the course with experienced investors, according to the Financial Times
Where to use a blockchain in non-financial applications? This may be one of the most useful and relevant questions to ask, and it's worth a read as it comes from Vitalik Buterin: "I see the value of blockchains in many situations, sometimes for really important goals like trust and censorship resistance but sometimes purely for convenience."
[DeFi Definitions]
An occasional segment exploring one particular aspect of DeFi.
This week: Airdrops by Roslyn Tear.
Typically seen as part of a broader marketing strategy, token airdrops have been compared to a shop giving out free samples of their product. Think of those occasional emails with 20% discount codes from ASOS or the like. It should be noted that airdrops aren’t exactly ‘free money’, being taxed in some cases.
Essentially, a project or protocol (whether startup or established) distributes newly minted tokens to different wallet addresses, often based on eligibility criteria. The aim is to get more and more people talking about the project making the token more likely to rise in price. (See Andrey Sergeenkov explainer in CoinDesk).
This profit motive can rub up against the values of the community around a particular token. The airdrop of a governance token by Optimism (an Ethereum Layer 2 scaling solution) has been accompanied by controversies (including a hack), but perhaps more noteworthy has been a proposal by the community itself to prohibit airdrops to users who dump tokens for a profit as this is “counter-productive for our stated goals.”
The question is: are airdrops just quasi-free money or a potential signifier of one’s commitment to the community?
More reading: