In the past decade, the rise of Bitcoin and other cryptocurrencies has radically transformed the understanding of money, paving the way for Alternative Financial Services (AFS). Crypto businesses are now venturing into spaces once dominated by traditional banking systems. AFS generally refers to financial services offered by non-bank entities.
Exploring Alternative Services Provided by Cryptocurrency
Cryptocurrency offers distinct services, with lending and borrowing being the most significant. It gives investors an opportunity to earn interest on their digital holdings, often surpassing what traditional banks offer on cash deposits. Moreover, one can borrow using crypto as collateral.
The Edge Over Traditional Banks
Crypto banks are not subjected to the same reserve requirements as conventional banks, allowing them to take on riskier activities. While traditional banks must maintain reserves for customer protection in case of bad loans, crypto banks operate without such obligations.
The Associated Risks
However, with these benefits come potential risks. Deposits are not insured by central banks, making them vulnerable to cyberattacks, technical difficulties, and volatile market conditions that could restrict or even halt withdrawals or transfers.
Understanding Stablecoins
Stablecoins are a type of cryptocurrency pegged to stable assets like the dollar, designed to provide a steady value for blockchain transactions. Despite being issued by private entities, they are expected to manage their reserves like governmental institutions. However, there’s no guarantee that they fulfill the one-to-one dollar backing claimed.
Central Bank Digital Currency: The Future of Crypto?
A Central Bank Digital Currency (CBDC) is the virtual counterpart of a fiat currency controlled by a central bank. The creation of a government-issued cryptocurrency could theoretically offer the reliability of centrally-controlled money and the convenience of crypto. Several countries, including the United States and India, are considering developing a CBDC.
Decentralized Finance: A New Era of Financial Services
Decentralized Finance (DeFi) represents an ecosystem that allows the transfer, trade, and lending of cryptocurrency independent of conventional financial institutions. DeFi aims to eliminate the need for trust and middlemen through computer code, transitioning governance from developers to user communities over time.
Benefits of Crypto Finance
Many innovators argue that crypto promotes financial inclusion by offering unusually high returns on holdings. It also provides quick and cost-effective transactions, opening doors for individuals previously excluded by traditional institutions. Due to the nature of DeFi protocols, users are judged solely by the value of their crypto, maintaining anonymity while ensuring anti-fraud measures through data collection and reporting.
A Need for a Forward-Thinking Approach
The emergence of new technology calls for innovative ways to manage associated risks without stifling growth. Possible strategies could include enforcing code audits, risk parameters specific to the technology, and products, rather than imposing traditional banking regulations. Further, efficient methods for identity verification and fraud detection should be developed, possibly leveraging artificial intelligence and data analysis to monitor suspicious activities and track identities.
