DeFi Won't Grow if it Keeps Relying on Value Locked

Says the man who helped popularize the metric

Hi defiers! Starting today I’ll be doing a weekly interview for The Defiant to be published every Monday.

The first one is with DeFi Pulse cofounder, Scott Lewis. DeFi Pulse ranks projects by the amount of money from users they have locked up as collateral, and provides the total value locked in the space. The metric has become as pervasive when looking at decentralized finance as market cap is for the broader crypto space, and DeFi Pulse is on its way to becoming the CoinMarketCap of DeFi.

In this conversation, Lewis says DeFi shouldn’t have to rely as much on collateral, the metric he helped popularize, to continue growing, and he offers his idea for how that can change. The full interview has been edited for brevity and I’ve bolded my favorite quotes. Have a read!

Camila Russo: Tell me be a bit about your background and what you were doing in you pre-crypto life.

Scott Lewis: I was born in Madison, Wisconsin, but grew up in Nashville and moved back a few years ago. I studied math and was a trader immediately before going into crypto full-time. I traded for myself, commodities, options and different derivatives. I do still trade some.

CR: How did you become interested in crypto?

SL: When I started reading about the Augur project in late 2016 that was what led me down the rabbit hole of kind of discovering Ethereum, which seemed really exciting and seemed like something that could change the world in a good way. So I started getting more involved and then switched to full time in the space during 2017.

CR: Why did Ethereum get your attention more than Bitcoin?

SL: Thing is, Bitcoin is just money. It's an interesting token and I can understand how it might be seen as gold or an equivalent to gold someday. But I don't really think gold is that interesting, so I don't really think Bitcoin is that interesting either, not that I don't think it can appreciate in price, but I don't see it as something as transformational as Ethereum. If Ethereum works, which is a big unknown and probably won't because most big things don't work, but if it does, it could become a decentralized substrate for economies to run on, which I think is much more exciting.

CR: It's interesting that you see a small chance of that actually happening.

SL: I mean, I don't know, the future's chaotic. But I don't know why it couldn't happen.

CR: You said, in 2017 you went full-time crypto. In what way was that? What were you doing?

SL: I cofounded what we now call the Concourse Open Community and the first project that had any attraction or resonance with people was a Wikipedia for ICO due diligence, mainly focused on collating information about ICOs that were probably scams called ConcourseQ. We’ve issued warnings on about 300 ICO. We did a lot of the research ourselves and also had a fellowship program, which was a $350 a month stipend worth of ether for people to share their research. We just started sort of building a community around that and have expanded into other things since then.

CR: Did you have outside investors to finance this or were you generating revenue?

SL: We’ve been self-funded the whole time. It’s not making revenue. We think that having a community of people thinking about things the right way is something that could eventually be valuable. But it was really hard to have a business in the ICO space that felt right to us.

CR: Do you think ICOs died with the bear market?

SL: They’ve sort of gone away for maybe some few different reasons. The big bear market of 2018 was a big reason. I also think a lot of people started getting smarter when they saw pitches so it's a little harder for low quality projects to raise money and obviously there's the regulatory action so it made it more expensive to operate in the market. That's at least for now, which I think is probably a good thing.

CR: Do you see them ever coming back? Like now that the market is getting a little bit more bullish?

SL: I think selling tokens will be a thing in the future. I just don't think that there are frameworks available right now to do it in a cost effective way.

CR: Did you launch DeFi Pulse right after ConcourseQ?

SL: No, we launched just a little over three months ago.

CR: Seems like you’ve been around for much longer.

SL: Yeah, we were really excited about it when we were building it but we didn't really expect everyone else to be as excited about it as we were. I like it because it's a way you can talk about adoption and where people are seeing value and where they actually want to take their assets and lock them up to get some utility benefit from whatever protocol they're using. It's a way to mark progress of this space that’s not just based on the appreciation of magic internet money.

CR: Interested to hear more about how you came up with the concept.

SL: We really liked Mike McDonald’s “ETH locked in DeFi” website, but we thought maybe the focus should be on the U.S. dollar value locked, which I think is more important because if you're thinking about the Ethereum economy versus the traditional economy or the decentralized, blockchain economy versus the traditional economy, that's an important metric. More people are measuring things in dollars. And we liked the idea of a leader board based on quantitative metrics that could slice through memes on Twitter and get people to focus their attention on the things that are really being used.

CR: When did you start to see this new wave of Ethereum applications with DeFi projects?

SL: We've been following Maker from the beginning, but definitely late 2018 was when things started catching fire a bit. That's when I went from like, “hey, I’m really excited about people using these things someday,” to, “hey, look, the month-over-month growth is incredible. This is really happening.”

CR: How were you measuring that growth?

SL: There was a moment when for total volume of Maker CDPs outstanding just entered a new phase. It just like, started hockey-sticking up. That was our catalyst.

I remember reading the Dharma whitepaper and being like, “holy crap, this is really cool.” There wasn't some crazy token to be sold, they were just like, “let's make an open debt protocol.” And while their initial business model wasn’t sustainable in the end, it gave you an idea of what could be possible. It was always this sort of over the horizon. But then you actually started seeing the traction happen and then some of the growth started happening.

CR: Why did you decide to make value locked up in these different protocols the main measure?

SL: So if you look at how other people have looked at dapp adoption, there was always a particular focus on daily active users and daily active users are a very inexpensive metric to manipulate. It's like, how much does it cost to create 10,000 private keys and send one transaction from each of them a day. It's not very much at all. And that can get you to the top of the leaderboard isle, which is a very good marketing for your project. And probably the marketing of being at the top of the leaderboard is worth more than the cost to climb the top of the list.

But if you look at DeFi Pulse and you think, okay, here's $400 million locked in Maker. The opportunity cost on the money that's locked in Maker, everyone has their own discount, but this is probably fairly high risk capital. It probably could be deployed somewhere for a junk-bond-like return. So if you assume there's like a 10% cost of capital and the top of the leaderboard now has $400 million locked, that's a lot of money. So that's why we think value locked is a much more resistant metric.

CR: It’s probably an important metric because right now you have to put down pretty high collateral for almost anything you do, maybe because there’s no identity solution. How do you think that can develop in the long term?

SL: There is a ceiling on DeFi so long as every loan must be secured by collateral. I think that's a consensus view.

I think one avenue that has the most promise to escaping that ceiling is through different ways to finance DAOs [decentralized autonomous organizations]. There can be a credit system around DAOs, possibly something like a royalty-esque financing where some of the revenue of the DAO is immediately used to pay back debt. Especially if there's a kind of a social contract where members in the DAO have reputations in the community that they won't fork their DAO and take it somewhere else, and maybe the people paying the money to the DAO also agree that they won't do business with the forked DAO in some sort of socially enforceable way. I think you could have different types of blockchain-based financing available to entities.

If you think about a small business getting a loan in the traditional system, it's very expensive to do due diligence: Are their revenues real, have they been shrinking, can they pay back the loan? And the cost of doing that due diligence makes those lending rates very high for some businesses and it also makes a lot of loans just not feasible. But in a DAO, you can have an algorithm looking over a transparent history of its finances and asses its ability to pay back their debt. It’s a different economic model.

CR: That could potentially work for businesses but would it be able to help with loans to individuals?

A. I know there are a lot of people working to solve that question, how do I lend to an individual over a blockchain. I'm waiting to see what they come up with. But I do see that cooperatives without borders creating economically valuable things as being a better fit for financing.

CR: What plans do you have for your site?

SL: We're working really hard to expand it. We are working on better, visualization tools, we want to get ETH locked in the front page, that's been one of the things people have been a really pushing for. We are working on adding new projects. Each project is sort of its own protocol so a lot of work goes into just adding one additional project on DeFi Pulse, and yeah, we have some other stuff planned.

CR: How many people are visiting your website?

SL: We don't, really talk about that.

CR: Want to get your trader perspective on all this, where are you seeing the biggest opportunities?

SL: I don't really make picks.

CR: But even if it's not a specific project, but like a space, like margin trading, or lending to get interest, etc.

SL:. The DAO space seems like it's exploding right now. The intersection of DAOs and DeFi is something that I'm looking forward to the most. If you live in a country that doesn't have trust in the legal system there's nothing to stop you from working on and being a cofounder or being an important team member for a decentralized organization. I think opening financial entities to everyone will produce some really interesting results.

CR: What else are you working on that you’re excited about?

SL: The other project we're working on that I'm really excited about is Dex.ag. It's a website that aggregates prices from lots of different dexes. We just released an API and an SDK, which can essentially let anyone put Dex.ag into their own websites. We want to provide a fuller picture of all the liquidity on dexes, which is actually not that bad. We're really excited about aligning all the dexes up on the same site and providing a good user experience.

We made a proof of concept, Cdai.io, using the Dex.ag API, which shows you how easy it is to swap your DAI or ether into an interest-bearing contract from Compound. It’s a proof of concept for how simple it is for someone to start earning interest. You just have to go here, put in how many DAI you have that you'd like to convert to Cdai and then you're earning the interest rate from Compound. It makes the trade for you and then you can swap it back.

I think we will get to a point someday where it's much simpler to just start earning interest on DeFi than it is to open a savings account.

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