In 2000, a new website revolutionised consumers’ relationship with music. It was called LimeWire, and it was great. Like Napster before it, its P2P file-sharing software offered users the opportunity to access a huge database of music – for free. The only problem? Downloading music from the program was illegal.
Today, Spotify exists in the gap opened up by LimeWire, Napster and their peer-to-peer file-sharing counterparts. Unlike LimeWire, Spotify, which launched in the UK in 2009, charges a subscription fee for a premium service. Importantly, it’s also legal. Rather than facilitate copyright-infringing peer-to-peer downloads, Spotify created an entirely new model and payment structure which allowed users to stream millions of songs perfectly legally. It is now the global market leader in the music-streaming space, with a 32% market share. LimeWire, by contrast, is no longer in business.
Today, we’re experiencing another paradigm-shift. This one isn’t the digitalisation of music – it’s the digitalisation of currency. Decentralised finance (DeFi) represents a cornerstone of the future and the tipping point, where it reaches mainstream acceptance and adoption, is fast approaching. Which begs the question: in the crypto space, which companies will fade to the margins and which will make it to the mainstream?
Identity is key
One of the key selling points of cryptocurrencies so far has been anonymity. Each transaction comes with its own hash, a string of characters that functions as the transaction’s ID. Beyond this, no one’s identity is revealed.
For crypto purists this is important. Today, most of the people operating in the DeFi space are digitally fluent. They are acutely aware of the digital footprint they and others leave online and consider it problematic. Anonymity is everything.
At present, businesses including our portfolio company, Elliptic, try to link hashes to bad actors, so that individuals and organisations can stay on the right side of regulators when conducting crypto transactions. But as DeFi becomes more mainstream, something further is going to have to give.
To shift DeFi out of the margins, and the legally-dubious realm of LimeWire, the problem of identity needs to be solved. This isn’t just a regulatory issue, it’s also structural. As things stand, anyone looking for a loan from a decentralised finance project can expect to collateralise the loan to the tune of 120%. These loans are over-collateralised precisely because of anonymity. Without the guarantees associated with knowledge of an individual’s identity, lenders have to charge extra to make it worth their time.
As we contemplate a world where DeFi plays a central role in global and individual finance, this sticking point needs to be resolved. One proposed solution lies in oracles. These are third-parties who facilitate smart contracts. An oracle could be a project, a private company, or even a public company like some of the credit bureaus. It would effectively act as a kind of guarantor, backing-up the word of the otherwise-anonymous hash.
Resolving this question of identity in a way that’s satisfactory to both current crypto-users and the more-suspicious mainstream is going to be a challenge, but it’s essential, and the companies that manage it have the potential to become a utility in the DeFi world.
On-ramp and off-ramp
LimeWire’s principal function was to facilitate file-sharing between users, but even ignoring the legal aspect, it was not without risks. Anyone who used the software will remember the thrill of fear that accompanied a new download: the worry that some kind of malware might have piggy-backed onto your desktop with the .zip file.
In DeFi, on-ramping describes converting fiat into cryptocurrency. Off-ramping means trading that crypto back into fiat or any other store of value. ‘Off-ramping’ music on LimeWire (downloading it from the peer-to-peer network onto your hard drive) was a risky business and, while things are improving, it remains an issue in cryptocurrency both due to complexity and cost.
But the landscape is changing. While mainstream users were put off buying into cryptocurrency by both the technological challenge and security concerns, new services are streamlining on- and off-ramping and making it more secure.
In 2017, a company called Mt. Gox handled 70% of all crypto transactions. Today, like LimeWire, it is no longer in business. Instead, other companies, such as Coinbase and MoonPay, are growing at a rapid pace. With added security and UX in mind, these companies are well positioned to take advantage of the growing interest in DeFi and, like Spotify, stand to define the market as it really opens up.
Recruiting the talent
One of the main criticisms of cryptocurrency is its considerable carbon footprint. It’s worth remembering, though, that the Ford Model T wasn’t exactly fuel efficient. In fact, it took decades to arrive at an energy-efficient hybrid combustion engine. Cryptocurrency is an equally revolutionary force, and it’s going to take a little while to iron out the kinks.
The way to get there quickly is to ensure that the best talent in tech is working on a solution, and the signs indicate that they are. In our fintech team we work with some of the smartest and most ambitious people in tech and an increasing amount have a high level of interest in crypto. It’s clearly anecdotal, but it may point to an inflection point, as the world’s top talent turns its brainpower to finding solutions in the space.
As investors, our job is to recognise these inflection points and back the individuals seeking to make them their own. By supporting projects that bring the mainstream into decentralised finance, backing companies which are solving the identity issue, and nurturing the remarkable talent moving into the space we can contribute to building a new generation of mainstream crypto companies.
We also understand that the streaming giant didn’t flourish overnight. The true potential of DeFi is yet to be unlocked, but as an evergreen fund we have the patience necessary to back these businesses for the long term.
If you’re trying to solve any of these issues, or working to advance mainstream adoption of crypto, we want to hear from you. You can contact me on [email protected]