Andreas Park PRO
Professor of Finance at UofT
Blockchain in 2022 and beyond
A Primer
Presenter: Andreas Park
Agenda
- Background:
- Vocabulary & Evolution
- What's DeFi and what's different to TradFi?
- What do we know about tokens?
- What happened with FTX & Terra?
- Outlook
The Premise of the
Internet & Blockchain
Peer to Peer Communication
Peer to Peer Value
!
?
?
Sidebar: What is digitize-able value?
- money
- digitally native assets
- claims on resources and property
- identity, personal data
The challenge: how do you ensure digital scarcity?
- traditional approach: unique record-keeper
- problem:
- intermediary necessary for record keeping
- tight supervision of custodian
- no peer-to-peer
- What is the equivalent of TCP/IP for value?
What is a Blockchain?
What is a Cryptocurrency?
- a blockchain is not a thing, it is a protocol \(=\) an idea and an approach
- it is not going to be uninvented
Why is this idea powerful?
blockchain = a protocol that creates a common resource for value management
payments
stocks, bonds, and options
swaps, CDS, MBS, CDOs
insurance contracts
- create & manage assets
- transfer value
- contingent contracts
- guaranteed execution of sets of commands
- applications
What makes DeFi different from TradFi
decentralized finance =
provision of financial service functionality without the necessary involvement of a traditional financial intermediary like a bank or broker-dealer
digital media =
provision of information service functionality without the necessary involvement of a traditional information intermediary like a publisher, library, or newagency
trading Infrastructure
payments network
Stock Exchange
Clearing House
custodian
custodian
beneficial ownership record
seller
buyer
Broker
Broker
Blockchain Infrastructure
seller
buyer
Application: decentralized trading with automated market makers
New institutions!
- passive "shared" liquidity provision
- new pricing function
Dapp composability & Flash loans
1. flash-borrow DAI
5. repay DAI
3. receive ETH
4. convert ETH to DAI
2. liquidate ETH loan with DAI
Loan liquidation opportunity
Examples of research questions in the literature
- system risk from liquidations
- contagion risk
- price impact from liquidations
Securities Creation: Tokensets
idea: create new mutual fund like asset
Philosophy of Peer-to-peer
Traditional Market
two-sided with fixed roles
- consumers \(\leftrightarrow\) producers
- consumers \(\leftrightarrow\) intermediaries \(\leftrightarrow\) producers
Decentralized Market?
value management protocol \(\not=\) market
- blockchain \(=\) application execution \(=\) intermediary
- blockchain-native \(\Rightarrow\) requires platform thinking
- consumers \(=\) producers
Peer-to-peer \(\Rightarrow\) Platforms
liquidity \(\nearrow\)
volume \(\nearrow\)
protocol fees \(\nearrow\)
token value \(\nearrow\)
Platform economics is tricky:
- What's the product?
- How do you get it started?
- How do you get people to contribute?
- How do you earn money?
Who controls the Projects? Decentralized Autonomous organizations
UniSwap Lab supports development
a website app accesses the code
token holders control contact features
don't own the code
operation = decentral
control = decentral
anyone can use the baseline code
core code runs on the blockchain
tokens used as rewards
A Taxonomy of Tokens
- tokens are a re-imagination of value, ownership, use, rewards
-
tokens live on a single infrastructure and can interact with other tokens
- tokens are immediately transferable & immediately usable in DeFi
- token can be programmed to have many features and have many different uses
- tokens can assign ownership to "things" that could not be owned before
What's a crypto-token and what's special about it?
- a blockchain is a protocol in which
- users have direct control and responsibility over their assets
- users can create codes at will
- \(\rightarrow\) any user can create tokens and applications
Tokens by use
payments:
- you use them strictly to pay for something
- example: native cryptocurrencies
utility
- you use them to access a specific service of function
- example: filecoin
stablecoins
- digital representation of fiat money
- centralized/ decentralized
- examples: DAI, USDC, USDT
governance
- voting rights to determine parameters of a project
- example: UNI, Compound etc
asset
- representation of ownership
- pool claims, digital items
- example: receipts from UniSwap, Compound, NFTs
derivatives
- tokens based on other tokens & functions
- Example: tokensets
Disclaimer: this list in non-exhaustive, new ideas and concepts come up every day!
- End of Theory -
An ugly 9 months
From a slow slide to a thorough crash
-75%
-75%
!
The Terra Implosion
UST Stablecoin
LUNA (cryptocurrency of the TERRA network)
A timeline
May 7: selling pressure on UST from Curve withdrawals
May 12: LUNA and UST at $0.01
June 27: Three Arrows Capital ordered to liquidate
June 12: Celsius Network suspends withdrawals
July 13: Celsius files for Chapter 11
July 6: Voyager Digital files for Chapter 11
July 4: Vault suspends withdrawals
Three Arrows Capital lost >60% of value and faces numerous margin calls that they did not react to
\}
partially "saved" by \(\ldots\) FTX
The FTX Implosion
A timeline
Nov 8
Recurring Core problem QuadrigaCX:
- QuadrigaCX:
- Gerry Cotton sold people crypto he did not have
- FTX:
- auto-execution of margin calls for all except Alameda
- SBF used customer funds to hide "short" market maker Alameda
Fundamental Problems: Solution sans Regulators?
IN FINANCE TERMS
- hedge = off-setting position
-
here: unhedged/"leverage"
Solution
- prove aggregate positions
- prove assets & liabilities
- asset = liabilities \(\Rightarrow\) solvency
New trend: data providers check assets
-
Assets: cash in bank accounts and crypto assets in exchange wallets
-
Liabilities: customers' crypto and cash deposits
-
Proof of crypto assets
-
publish all exchange wallets
-
proof of control: shift assets from one address to another at a pre-determined time
-
-
Proof of crypto liabilities
-
public customer balances - customer can check
-
own holding
-
sum of all
-
-
-
Problem: privacy (adequate solutions exist)
Proof of Assets & Liabilities
A timeline
May 7: selling pressure on UST from Curve withdrawals
May 12: LUNA and UST at $0.01
June 27: Three Arrows Capital ordered to liquidate
June 12: Celsius Network suspends withdrawals
July 13: Celsius files for Chapter 11
July 6: Voyager Digital files for Chapter 11
July 4: Vault suspends withdrawals
Three Arrows Capital lost >60% of value and faces numerous margin calls that they did not react to
\}
partially "saved" by \(\ldots\) FTX
all centralized!
Centralized vs Decentralized?
Path forward
- blockchain as an idea will not become uninvented
- there is continuous research & development, including by universities
- when another hype starts, people will want to get their hands on the assets
- blockchains are borderless by design
- "tough" regulation pushes firms outside of jurisdictions
- no regulation can prevent the bankruptcy of an offshore entity
- jurisdictional battles among regulators have to end
- willing issuers need clear guidance
Summary and Outlook
Three Scenarios for the Next Five Years
borderless digital economy \(\to\) blockchain-integrated
blockchains \(\to\) stay niche (gaming)
mass tokenizations \(\to\) likely originates from non-Western world
@financeUTM
andreas.park@rotman.utoronto.ca
slides.com/ap248
sites.google.com/site/parkandreas/
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Blockchain & FinTech 101
By Andreas Park
Blockchain & FinTech 101
A short intro to blockchain & DeFi for Alumni
