The Origins of our Discontents - Part 1
What does not work well in Finance today and what do better outcomes look like?
This article is a part of a series on Web3 and the Opposable Mind.
We will use the diagram below as a means to navigate the landscape of discontents and solutions and to retain context as we jump around different areas.
Before we discuss the pain-points and unfulfilled needs in how users and investors manage their monies, let us briefly pause on why preserving the value of savings or wealth is problematic in the current climate.
I. Preserve and Grow Savings/Wealth
Much has been written on the need for a robust store of value, and at the top of the list is Vijay Boyapati’s outstanding work and book which are must-reads. This is a well researched and published domain so I am going to keep my comments brief.
If you want a simple graph, look at the spike in M1 money supply at the end of 2020. The Fed’s balance sheet has grown almost 7x in less than a decade and is now >$20T. Note that the US CPI change of 6% is likely under-stating reality by a factor of 2-4x as it does not take into account the changes in housing, education, or healthcare expenses, or the dilutive effects of the higher monetary base. Holding wealth in cash or bonds is a lot more value-depleting than the average consumer understands.
The issue is of course a lot more dire in countries like Argentina (50%), Venezuela (2700%), Zimbabwe (92%), Sudan (194%), etc. where inflation is sky high.
In authoritarian states, funds can be frozen, and/or seized even without court orders. In times of war, internal strife, or distress, bank accounts can be raided by the state. Those who believe this is a fantasy only need to refer back to our collective history over the last century and the current situations in North Korea, West Africa, or parts of Latin America.
II Our Discontents With Financial Intermediaries Who Help Manage Money
1.Banking the Unbanked
There are 1.7 billion unbanked adults with the majority in emerging markets in India, Africa, and Latin America. The reasons for why they are unbanked vary and I wrote more here when Libra was announced in 2019.
2.Instant Accounts w/o KYC
Banks can refuse to serve customers who do not have complete KYC documentation or for random, undisclosed reasons.
There are several legitimate scenarios to make it easy for people to open accounts where they can receive money without a bank in the middle (while still being in compliance with state laws). If a financial account can be as easy to open as an email account, it will unlock new economic opportunities for a wide range of under-served segments while also digitizing the cash economy.
3.Automated Escrows
Many human-operated escrow services charge unreasonable fees and are inconvenient to transact with. Automated escrow accounts that can hold funds for a defined period of time until certain conditions have been met and verified programmatically can be viable alternatives if they are cheaper, more secure, more convenient, and offer more programmability of contract conditions.
4. Money Transfers (US Domestic)
For amounts <$3000, Zelle and Venmo cost $0 and support instant transfers.
For >$3000 but not too large amounts, traditional financial institutions can charge an average of $13 for domestic incoming and $29 for domestic outgoing. Time can vary from 12 to 24 hours. (Wire Transfer Fees)
ACH (Automated Clearing House) is cheaper but can take 2-3 days.
The pain is with the time for ACH and the fees for wire transfers. A better alternative needs to be cheaper AND faster.
5.Transfer Large Amounts
Transferring large amounts of money incurs anywhere from 0.75-2% fees using traditional financial institutions or services like TransferWise. Sending $1M can cost an average of $7500-$10k and can take days. Can it be 10x cheaper, take only minutes, and transacted with high security?
6.Transfer Micro Amounts
Supporting micropayments of cents or quarters or even a dollar is economically unviable to most publishers given the way legacy payment networks work. As Amber Case says here on the history of why micropayments have failed,
30 years into the web’s history, micropayments still aren’t a part of our daily lives. It’s one of the great unsolved mysteries… There are arguments for micropayments. One is that they might enable the missing middle for creator content, by enabling purchases that might be too small to warrant either a subscription or a one-time $10 purchase.
7. Global Transfers
While Paypal (Xoom), Remitly, and others have disrupted global money transfer by offering more convenience and speed, they still run on traditional banking rails on the back-end. Currency rates offered by services fluctuate wildly and the system is designed for the banked.
What if money can be sent peer to peer like the way we send messages — instantly and with near-zero fees— and with accurate market-pegged exchange rates?
8.Low Rates on Deposits and High Fees
This accurately captures the status quo, especially in the western world.
On top of low rates, many institutions continue to levy disproportionately high fees for a wide range of situations.
9.Borrow Instantly Based on Assets
Think about how hard it takes to get a loan based on money you may have invested in a multi-year CD, stocks, accounts receivables, or other assets—the hoops you need to jump through to apply, the documentation required, and the time it takes. Or how convoluted it is to get a line of credit against your home equity. What if this can be instant with automated enforcement for what happens under various scenarios —collateral value falls below a threshold, monthly loan payments are missed, etc. —that protect both the lender and the borrower. (A relevant thread here offers interesting insights)
10.Reputation Based Lending w/o Collateral
Reputation based lending and borrowing —without direct asset backing—is a very different cup of tea. Financial institutions make you run the gauntlet if you do not have a great credit score (or) have not built a business or personal credit history.
The market may be ripe for alternate approaches that mitigate lender risk while reducing borrower friction. These include using advanced algorithms for under-writing, network vouching, and assembling dynamic liquidity pools.
11.Raising Capital from Community with 100% Transparency
With the JOBS act and the SEC changes in 2016, non-accredited investors can now invest in startups and private equity, but there are still several limitations that hamper participation. Security and cross-border regulations are well-intended but have several unintended consequences limiting free movement of capital and reserving attractive opportunities only for the rich. It also makes it difficult for for-profit corporations to raise capital from a community—where most members are likely to be non-accredited— instead of (or) in addition to traditional investors. For instance, think about raising $10M as 10,000 members buying $1000 worth of equity.
Even with sites like Gofundme or Kickstarter that help raise funds for a specific cause or creative work, the details of the backers, the individual check sizes, and when the transactions were committed are not transparent to the community.
12.Transparent Governance and Spending of Community Funds
Once funds have been raised, how are they being spent? Can the spending transactions, including who is being paid for what and when, be made transparent — at atomic or aggregated levels— to establish more credibility and trust?
How are capital allocation decisions made and how can the community play a bigger part on the projects they back?
This is a major source of discontent for project backers.
13. Trading 24*7*365
Most exchanges for trading traditional financial assets operate only 9:30-4 on business days. While pre-market trading and after-hours sessions are available, these often carry risks of illiquidity, price volatility, and low volume.
There is tremendous public appetite for round-the-clock trading that is constantly resetting market clearing prices by absorbing new information and continuously matching orders from makers and takers around the world.
14.Instantly Trade any Asset for Any Other Asset
What if any asset can be traded for any other asset and there is sufficient liquidity depth for most trading pairs? What if any asset can be financialized and traded?
When everything and anything can be made liquid at all times, capital velocity increases substantially. (Note: Illiquidity is desired in some domains though and too much liquidity too soon can hurt investments that need long-term commitments)
Balaji Srinivasan talks a lot about this here (Search for defi matrix in the transcript)
15. Automated Insurance Payouts Based on Verifiable Events
Most insurance businesses are opaque in their operations and there is a high level of uncertainty with respect to what % of the claims will be paid out. Non-claim costs as % of revenue continues to rise across varied insurance sectors.
Can parts of the insurance business be reimagined in ways where there is more certainty to what will be paid out regarding a claim, especially for cases where adverse events can be programmatically verified even if only in part? Can premium inflows and claim payment outflows be made transparent to the entire community?And if so, will the increased automation and transparency help decrease the administrative overhead and reduce premiums?
16. Expanding Economic Opportunity to the Network
Most of the earlier discontents are from the perspective of the user who is saving, borrowing, investing, or transferring money. But every financial institution is also a network. They connect lenders and borrowers, investors and assets, or senders and receivers, and make money from the spread or from fees charged as a % of the capital flow.
These profits go entirely to the financial institutions and their shareholders. The depositors contributing to the lending pool or the borrowers who pay outsize rates have no upside in terms of ownership of the company, or any meaningful say in governance decisions.
What if a financial institution is not this massive behemoth serving only shareholders but a community-owned organization with
a) Transparent operations — anyone can see what has been lent, borrowed, etc. with privacy protections,
b) Fair ownership — shareholding is based on a published cap table with ongoing emission and awards based on visible performance results, and
c) All fees and penalties realized by or charged to network participants are based on published and transparent rules.
While these discontents are real, there are nuances by region and segment. I have left out several items specific to expert traders (say enabling composable financial instruments or flash loans for arbitrage opportunities) to keep the emphasis on mainstream use cases.
In the next article in the series, we will analyze the discontents in the current models related to creation and consumption of content.
Can't wait to read the rest!