From the early internet (Web 1), characterised by its read-only function, to the recent era of Web 2, which has enabled social media and ecommerce giants to thrive, the internet has undergone a huge evolution. And with the latest boom – Web3 – accelerated by the COVID-19 pandemic, lockdowns and the accompanying global recession, it’s soon expected to be quite different from what we’ve experienced so far.

When it comes to the financial services space, Web2 enabled the growth of centralised entities – that is, organisations with a restrictive, centralised control on consumer data – allowing these bodies to use consumer data for their own strategic purposes. However, as consumers have become more reliant on the internet, we’ve seen new startups, decentralised applications, and community-driven projects emerge. These decentralised models are cutting out the ‘middleman’ and bringing power back to people and creators. 

A decentralised internet

Enter Web3 – an internet designed with blockchain technology to be decentralised, encompassing many new developments such as NFTs (where creators retain far more for their efforts than Web 2 models); Decentralised Finance (ie DeFi); and a Decentralised Autonomous Organisation’s (DAO’s) governance model, enabled by self-sovereign digital identity and decentralised cloud services.

Not only will a decentralised space increase security and privacy going forward, it will also prevent the internet being controlled by only a select few organisations. Users can interact without giving away their data to be stored and used, allowing them to own and conceal their data and personal information. Blockchain technology makes the applications built on it more secure and less likely to be censored. This is because information created on the blockchain is recorded in blocks, which are duplicated and distributed across the entire network of computer systems on the blockchain. As a result, information is impossible to hack or change, making the use of blockchain for financial transactions incredibly secure.  We can see how this will play out in the diagram below; these core building blocks combine with features such as wallets, agents and programmability to deliver the full Web3 vision.

Outlier Ventures

The future of Web3

While the financial services industry has already been challenged and transformed by Web3, many are wondering just what the future holds for this innovation, and whether its accelerated growth will continue. With help from Keith Bear, Associate Partner at Elixirr and Fellow at the Cambridge Centre for Alternative Finance, I’ve put together some thoughts on the future of Web3 and how I think it’ll evolve over the coming months. Get in touch if you want to discuss anything further, or what this means for your business.

Regulation

In the world of digital assets, and even more so after the failure of FTX, regulation continues to be a hot topic. Central banks around the world are researching and even implementing their own digital assets in the form of CBDCs (central bank digital currencies), whilst the industry edges closer to co-regulation. This is a form of regulation where the regulator and the regulated work closely together in a decentralised environment to protect customers without constricting the model. An example is the EU’s recent RFP on automatic supervision of DeFi networks. Central banks, as well as governments and institutional bodies, have been researching and piloting different variations of DeFi tools across the blockchain (e.g. Projects Mariana and Guardian), so we should expect to see DeFi regulation drafts taking off in 2023. 

The next year will also bring an increasing amount of automation of regulatory obligations in digital asset trading, with the use of smart contracts to automatically make or break contracts if they don’t adhere to the coded regulatory standards. 

Evolution of Stablecoins 

Stablecoins are cryptoassets that are pegged to a stable commodity or currency – for example, Tether, a stablecoin pegged to the US dollar. The potential role of using stablecoins for everyday banking and institutional client payments, as opposed to supporting crypoasset trading as they do now, will continue to be a major talking point for the rest of the year. For example – the cryptoasset lead at Checkout.com is using stablecoins on crypto rails to facilitate real-time settlement of payments for merchants. 

The fact that stablecoins can settle payments at any time of day, 24×7, is what makes them such an innovative tool. There is also a potential for merchants to gain yield on receiving stablecoins rather than immediately transferring them to cash. Next year, expect to see more merchants offering stablecoin payments.

Development and future of DeFi

Both financial institution adoption and the emergence of new Web3 and DeFi organisations will contribute to the expected increase in the uptake and innovation of Web3 within finance. Many financial institutions have been exploring and implementing DeFi solutions within the past decade. In November 2022 J.P. Morgan issued its first cross-border DeFi transaction on a blockchain – part of a pilot program aiming to explore how financial institutions can use tokenised assets and DeFi protocols to complete financial transactions. The month prior, they had partnered with Visa to combine their private in-house blockchain networks to facilitate global consumer token transactions and payments. This emerging adoption of DeFi by large institutional players clearly indicates a trending path, a converge of DeFI and TradFi if you like, so expect to see both large and small financial institutions releasing their own tokenised assets, stablecoins, cryptoasset wallets and even blockchains in the year to come. 

The past decade has also seen a growing number of successful DeFi startup organisations creating their own tokenised assets and decentralised exchanges. One of the original decentralised exchange operators founded in 2018, Uniswap, has since processed over $209B in volume. It’s interesting to note that following the recent failure of FTX, a centralised exchange, (due to, in part, flawed internal process and controls), DeFi volumes greatly increased as investors withdrew their cryptoassets from other centralised exchanges’ custody wallets in order to use the non-custodial DeFi platforms. As a result, Uniswap’s volumes exceeded Coinbase (a leading centralised exchange) for the first time.

New developments in the loan marketplace are also developing within the DeFi space. For example, lending platforms are emerging, allowing individuals to use their cryptoassets as collateral to generate a stablecoin. Smart contracts – DeFi based contracts which are programmed to automatically self-execute agreements through their code – are also emerging and are being used to facilitate agreements, including in the DeFi loan marketplaces. Indeed, we should expect to see significant exciting transformations in the areas of lending, fundraising and smart contracts because of Web3 and DeFi in the year ahead. 

What does this mean for you?

As banks grapple to stay ahead in the Web3 era, they face new and complex challenges. Challenges that our financial services experts will help you transform into opportunities for innovation. To stay ahead of the game, connect with us today.