Cryptocurrency, ‘decentralized finance,’ and the sweet promise of 8% interest
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Good morning. The U.S. economy may be going gangbusters, but for those looking for a return on their savings, the picture is less pretty: Even so-called high yield savings accounts offer a pittance in interest—Goldman Sachs’ Marcus product, for instance, currently offers a measly 1.7%.
That’s what makes the new world of decentralized finance, or DeFi, so intriguing. This exotic corner of the cryptocurrency markets has been around for barely two years, but is attracting outsize interest because users boast of earning 4 to 8% interest on deposits.
Those higher interest rates are possible, DeFi boosters say, because there is no bank or other middleman to profit off consumer deposits. Instead, the system relies on pairing individual borrowers and lenders who rely on automated “smart contracts” to administer loans and pay out interest.
Investors who want to try their hand at DeFi can turn to platforms like MakerDao or Compound, which arrange loan contracts using cryptocurrencies like Ethereum or so-called stablecoins, which are pegged to the U.S. dollar. The platforms are growing quickly and, earlier this month, the fledgling DeFi industry touted the fact that over $1 billion of Ethereum is currently locked up in interest-yielding contracts.
Another reason to take DeFi seriously is the people who are building it. While the industry has its share of crypto cowboys, many others come from the world of mainstream finance. These include Compound’s CEO, Robert Leshner, a trained economist who spent years predicting Federal Reserve rates. Another is Richard Ma, who came up trading commodities for Tower Research, and now runs a firm called Quantstamp that audits blockchain projects.
Ma estimates there are only around 50,000 people currently using DeFi products. But he believes this number will soon mushroom thanks to startups like Nuo and Ramp that aspire to be the Stripes and Plaids of the DeFi world—helping consumers and merchants connect their checking accounts to the new realm of decentralized borrowing and lending. He also predicted 4-8% interest rates will be a spur for investors to cross over to DeFi.
There is, of course, no guarantee any of this will come to pass. The paltry number of current DeFi users underscore that it’s still a fringe area of finance, and that even sophisticated investors will have a hard time getting their head around notions like automated Ethereum contracts. Meanwhile, an ingenious robbery this weekend, in which a hacker conned a DeFi service out of nearly $1 million, showed the technology is neither as secure or decentralized as its evangelists claim.
But like Bitcoin or the Internet itself—which many once dismissed as a fad—it feels like Defi is here to stay. The idea of an open financial system beyond the banks is a powerful one, and there are too many smart people building it to think it will be stopped. And that promise of 8% interest rates might be too sweet to ignore.
A final note to Ledger readers: We’ve already assembled an impressive list of names to join us in Montauk for Brainstorm Finance on June 17 and 18. They include top executives from both traditional finance and crypto companies, and a surprise dinner guest. We’ll be sharing more details next week.
Jeff John Roberts