Recently, Chainlink co-founder Sergey Nazarov joined Ramsey El-Assal at the Barclays Crypto & Blockchain Summit to discuss why banks should take decentralized finance (DeFi) seriously. In addition to outlining the relatively small leap banks should take from offering digital assets to offering DeFi access, Nazarov detailed three problems DeFi solves by freeing the global financial system from the pitfalls of human decision-making.
He began by describing the sub par status quo:
“What everyone is used to in traditional centralized finance is counterparty risk, and a certain lack of transparency, and a certain lack of control over assets,” he explained. “And that’s because you basically have to rely on a counterparty to be solvent, to execute transactions, to process transactions.”
Because this system relies on human decision-making, it is subject to sudden changes.
“The transactions that people engage in have counterparties that decide what to do,” Nazarov said. “They decide whether they want to settle the derivative or whether they want to go to court. They decide if they want to pay out the insurance claim. They decide if they want to halt trading or not halt trading.”
Events like last year’s Robinhood trading freeze, where a centralized entity suddenly fails to meet people’s expectations, create serious systemic financial risk which Nazarov believes can and should be averted through smart contracts.
“Smart contracts are quite simply pieces of code that do everything related to transactions that traditionally would be done by more centralized servers or intermediaries, but they do them in a more transparent, more user-controlled, and more guaranteed manner,” he said.
“Decentralized finance is really just the rewriting of the financial system in this cryptographically guaranteed format. And cryptographically guaranteed means that human decision-making has no place in the transaction.”
For this reason, Nazarov sees DeFi as the solution to three critical problems:
When users place their assets in a DeFi protocol on a blockchain, they retain real-time, immediate control.
“You don’t need for somebody to wake up and decide to let you take your money out,” Nazarov said. As financial markets continue to experience “unexpected shocks” resulting from geopolitical conflicts, supply chain issues, and inflation, he believes the simple ability to control one’s assets “regardless of the decisions or counterparty risk of an intermediary or servicing provider” will become “increasingly valuable.”
“Imagine if you knew every single thing that was going on in your bank,” Nazarov said. In his view, DeFi offers the equivalent of an API that gives a bank’s users access to information about every loan, decision, risk parameter, etc. at the same time that information is known to the bank’s managing directors. “That’s the level of transparency that this enables, because it forces that transparency at the level of infrastructure,” he said.
“Decentralized financial products, due to their existence on blockchains, are inherently global from day one,” he continued. This means that smaller entities like fintechs can launch DeFi products with a significantly larger user base compared to traditional financial products launched by the world’s largest centralized banks. “That in and of itself merits people taking this extremely seriously,” Nazarov concluded.
Watch Sergey Nazarov’s full conversation with Ramsey El-Assal at Barclays Crypto & Blockchain Summit.