3 ms·

Crypto-assets and decentralized finance through a financial stability lens

55 points by nabla9 4y ago

Animats 4y ago
Some good points: "... same risks that are all too familiar from traditional finance, such as leverage, settlement, opacity, and maturity and liquidity transformation." Yes. I've been making this point for years. It's mostly problems that are well known. It's just that the crypto crowd doesn't study financial history, so they get to repeat it. Although crypto has its own unique risks - it's really hard to secure crypto assets and still use them, and fast anonymous remote irrevocable transfers make it hard to catch crooks. "... there is a risk that a single dominant stablecoin might emerge, given the winner-takes-all dynamics in such activities. Indeed, the market is currently highly concentrated among three dominant stablecoins, and it risks becoming even more concentrated in the future. The top three stablecoins account for almost 90 percent of transactions, and the top two of these account for 80 percent of market capitalization." Network effects tend to concentrate stablecoins. The Fed points out that they're already very concentrated. It's a single point of failure. If USDT crashes, a lot of people will be hurting. Many of them had no idea they had a big exposure to risk. *"...decentralized lending, which relies on overcollateralization to substitute for intermediation, can serve as a stress amplifier by creating waves of liquidations as prices fall." Right. This is the concept that if you bundle enough high risk investments together, you get a low risk investment. The trouble is that the risks are usually correlated; multiple investments of the same class crash together. Add in leverage, and the crash speeds up.
- alisonkisk 4y ago
m00dy 4y ago
I read the paper and it looks like they finally get it how AMMs work on a blockchain. But, it doesn't how they will regulated decentralised exchanges. The blogpost doesn't tell much about it.
ETH_start 4y ago
Organizations like the Federal Reserve are incentivized to not look into their own role in producing financial instability. The GSE loan guarantee program is largely backstopped by the Federal Reserve. It underwrites $6 trillion worth of US mortgages, which is approximately 50% of the entire market. In 1999, the GSEs set out to increase liquidity in so-called under-served residential mortgage markets, and thereby reduce the risk for private lenders to lend in that market, as this article describes: https://www.nytimes.com/1999/09/30/business/fannie-mae-eases-credit-to-aid-mortgage-lending.html https://www.nytimes.com/1999/09/30/business/fannie-mae-eases... >>''Fannie Mae has expanded home ownership for millions of families in the 1990's by reducing down payment requirements,'' said Franklin D. Raines, Fannie Mae's chairman and chief executive officer. >>'Yet there remain too many borrowers whose credit is just a notch below what our underwriting has required who have been relegated to paying significantly higher mortgage rates in the so-called subprime market.'' In terms of the Fed's direct role, its actions in 2003 - 2005 largely followed the playbook prescribed by Fed mouthpiece, Paul Krugman in 2002: https://www.nytimes.com/1999/09/30/business/fannie-mae-eases-credit-to-aid-mortgage-lending.html https://www.nytimes.com/1999/09/30/business/fannie-mae-eases... >>To fight this recession the Fed needs more than a snapback; it needs soaring household spending to offset moribund business investment. And to do that, as Paul McCulley of Pimco put it, Alan Greenspan needs to create a housing bubble to replace the Nasdaq bubble. The market's natural behavior, which is to bankrupt irresponsible lenders, borrowers and speculators, seems to work in preventing bubbles from growing enough to cause financial instability. The collapse of Terra/Luna imposes more financial discipline in the crypto markets than any set of regulations could. Attempts to artificially reduce instability can often have the opposite effect, by socializing the harmful effects of irresponsible risk taking, and thus creating moral hazard. This is the case with the Fed's role as the publicly funded lender of last resort, and the FDIC's role as publicly funded deposit insurer. With respect to the latter, here is a study drawing that conclusion: https://www.nber.org/papers/w22223 https://www.nber.org/papers/w22223
- alisonkisk 4y ago
- throwawaymaths 4y ago
_robbywashere 4y ago
Can’t understand why the fed wants to regulate tulip bulbs. What’s next a paper on beanie babies?
- kwertyops 4y ago
  I never understood this analogy, and now I’ve seen it enough to finally ask in good faith —- If tulips bulbs were of a limited supply, (relatively) infinitely divisible, (relatively) impossible to forge, and could be transferred anywhere in the world, in any amount, (relatively) instantaneously… Would it really be that crazy to imagine that they may have kept significantly more value? Or be used as a kind of currency? It seems like anything with those properties could be a good basis for a currency, whether it’s Beanie Babies or Pokémon cards (neither of which actually do have those properties), or cryptographically secure blocks of teleporting cheese.
  - dogcomplex 4y ago
    "limited supply" True until another batch of cryptotulip bulbs is released under a new name with slightly different properties and it joins the cryptotulip ecosystem. Any one species of cryptotulip might be a limited supply, but on the whole it's a very inflationary ecosystem, with trust on which is the "true currency" extremely malleable and divided. Even the "original" BitTulip has as many haters expecting its inevitable dethroning as it has proponents. Even if the original Dutch tulips had somehow limited supply growth per species - say only selling neutered bulbs incapable of reproducing, while "miner" growers do the actual growing - you still have inflation from new sellers growing new species. Are people just supposed to arbitrarily say "Only orange Tulipa gesneriana tulips are a valid currency"? How does that consensus happen in a decentralized environment, when clearly it's not happening in this crypto bubble? Is the argument that the limited supply comes from limited farmland? (AKA limited miners to generate the underlying security?) If so, how does that scale past the point where farming/mining is taking a significant chunk of the world's energy/land and just maintaining the currency is costing more than it saves on efficient asset transfer of actually productive useful things (like say - growing more crops, or using GPUs for AI)? "Proof of Stake solves this!" you say? Well, now we're back to arbitrarily naming a tulip species as the only True Currency, with no physical resources backing it, and no particular reason people will stay loyal to it... (Granted, the current non-crypto alternative is a heavily-armed centralized tulip farm that can grow its supply as it sees fit, and use its military to stifle other growers and guarantee its continued dominance. It allows a few other varieties (CAD, GBP, Yen, etc) but makes sure those growers back their supplies with a large stock of USDtulips, making them subsidiary growers bound to rise and fall with the central farm.) Am I missing something?

55 points by nabla9 4y ago

Some good points: "... same risks that are all too familiar from traditional finance, such as leverage, settlement, opacity, and maturity and liquidity transformation." Yes. I've been making this point for years. It's mostly problems that are well known. It's just that the crypto crowd doesn't study financial history, so they get to repeat it. Although crypto has its own unique risks - it's really hard to secure crypto assets and still use them, and fast anonymous remote irrevocable transfers make it hard to catch crooks. "... there is a risk that a single dominant stablecoin might emerge, given the winner-takes-all dynamics in such activities. Indeed, the market is currently highly concentrated among three dominant stablecoins, and it risks becoming even more concentrated in the future. The top three stablecoins account for almost 90 percent of transactions, and the top two of these account for 80 percent of market capitalization." Network effects tend to concentrate stablecoins. The Fed points out that they're already very concentrated. It's a single point of failure. If USDT crashes, a lot of people will be hurting. Many of them had no idea they had a big exposure to risk. *"...decentralized lending, which relies on overcollateralization to substitute for intermediation, can serve as a stress amplifier by creating waves of liquidations as prices fall." Right. This is the concept that if you bundle enough high risk investments together, you get a low risk investment. The trouble is that the risks are usually correlated; multiple investments of the same class crash together. Add in leverage, and the crash speeds up.

alisonkisk 4y ago

m00dy 4y ago

I read the paper and it looks like they finally get it how AMMs work on a blockchain. But, it doesn't how they will regulated decentralised exchanges. The blogpost doesn't tell much about it.

ETH_start 4y ago

Organizations like the Federal Reserve are incentivized to not look into their own role in producing financial instability. The GSE loan guarantee program is largely backstopped by the Federal Reserve. It underwrites $6 trillion worth of US mortgages, which is approximately 50% of the entire market. In 1999, the GSEs set out to increase liquidity in so-called under-served residential mortgage markets, and thereby reduce the risk for private lenders to lend in that market, as this article describes: https://www.nytimes.com/1999/09/30/business/fannie-mae-eases-credit-to-aid-mortgage-lending.html https://www.nytimes.com/1999/09/30/business/fannie-mae-eases... >>''Fannie Mae has expanded home ownership for millions of families in the 1990's by reducing down payment requirements,'' said Franklin D. Raines, Fannie Mae's chairman and chief executive officer. >>'Yet there remain too many borrowers whose credit is just a notch below what our underwriting has required who have been relegated to paying significantly higher mortgage rates in the so-called subprime market.'' In terms of the Fed's direct role, its actions in 2003 - 2005 largely followed the playbook prescribed by Fed mouthpiece, Paul Krugman in 2002: https://www.nytimes.com/1999/09/30/business/fannie-mae-eases-credit-to-aid-mortgage-lending.html https://www.nytimes.com/1999/09/30/business/fannie-mae-eases... >>To fight this recession the Fed needs more than a snapback; it needs soaring household spending to offset moribund business investment. And to do that, as Paul McCulley of Pimco put it, Alan Greenspan needs to create a housing bubble to replace the Nasdaq bubble. The market's natural behavior, which is to bankrupt irresponsible lenders, borrowers and speculators, seems to work in preventing bubbles from growing enough to cause financial instability. The collapse of Terra/Luna imposes more financial discipline in the crypto markets than any set of regulations could. Attempts to artificially reduce instability can often have the opposite effect, by socializing the harmful effects of irresponsible risk taking, and thus creating moral hazard. This is the case with the Fed's role as the publicly funded lender of last resort, and the FDIC's role as publicly funded deposit insurer. With respect to the latter, here is a study drawing that conclusion: https://www.nber.org/papers/w22223 https://www.nber.org/papers/w22223

alisonkisk 4y ago
throwawaymaths 4y ago

_robbywashere 4y ago

Can’t understand why the fed wants to regulate tulip bulbs. What’s next a paper on beanie babies?

kwertyops 4y ago
I never understood this analogy, and now I’ve seen it enough to finally ask in good faith —- If tulips bulbs were of a limited supply, (relatively) infinitely divisible, (relatively) impossible to forge, and could be transferred anywhere in the world, in any amount, (relatively) instantaneously… Would it really be that crazy to imagine that they may have kept significantly more value? Or be used as a kind of currency? It seems like anything with those properties could be a good basis for a currency, whether it’s Beanie Babies or Pokémon cards (neither of which actually do have those properties), or cryptographically secure blocks of teleporting cheese.
- dogcomplex 4y ago
  "limited supply" True until another batch of cryptotulip bulbs is released under a new name with slightly different properties and it joins the cryptotulip ecosystem. Any one species of cryptotulip might be a limited supply, but on the whole it's a very inflationary ecosystem, with trust on which is the "true currency" extremely malleable and divided. Even the "original" BitTulip has as many haters expecting its inevitable dethroning as it has proponents. Even if the original Dutch tulips had somehow limited supply growth per species - say only selling neutered bulbs incapable of reproducing, while "miner" growers do the actual growing - you still have inflation from new sellers growing new species. Are people just supposed to arbitrarily say "Only orange Tulipa gesneriana tulips are a valid currency"? How does that consensus happen in a decentralized environment, when clearly it's not happening in this crypto bubble? Is the argument that the limited supply comes from limited farmland? (AKA limited miners to generate the underlying security?) If so, how does that scale past the point where farming/mining is taking a significant chunk of the world's energy/land and just maintaining the currency is costing more than it saves on efficient asset transfer of actually productive useful things (like say - growing more crops, or using GPUs for AI)? "Proof of Stake solves this!" you say? Well, now we're back to arbitrarily naming a tulip species as the only True Currency, with no physical resources backing it, and no particular reason people will stay loyal to it... (Granted, the current non-crypto alternative is a heavily-armed centralized tulip farm that can grow its supply as it sees fit, and use its military to stifle other growers and guarantee its continued dominance. It allows a few other varieties (CAD, GBP, Yen, etc) but makes sure those growers back their supplies with a large stock of USDtulips, making them subsidiary growers bound to rise and fall with the central farm.) Am I missing something?