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How Digital Assets Can Rebuild Trust in Financial Institutions

How Digital Assets Can Rebuild Trust in Financial Institutions

News & Insights

28 Oct 2022

Mass-market adoption of digital assets is critical for institutions: not just for providing market liquidity, but for transparency and public trust.

Banks are safer than they used to be. They hold more capital and a higher proportion of liquid assets than before the disastrous global financial crisis of 2008–09. But that doesn’t mean public trust in the global financial system has been restored. By all accounts, it’s still eroding: annual polling from Gallup shows US public trust in all kinds of institutions, including banks, has been dropping in the past few years.

I believe that providing more transparency to individual savers, borrowers, and investors—the retail public—is key to regaining that trust. Digital assets come with this feature built in.

It may sound ironic that the principles of decentralized finance (DeFi) could restore public confidence in traditional financial institutions (Tradfi), but I am confident that this will be the case.

More institutions are taking interest, as well as positions, in the digital asset market.

Fidelity Investments, the 76 year-old American purveyor of annuities, mutual funds, and 401(k)s is looking at adding Bitcoin options to its millions of plans, according to September reporting in the Wall Street Journal.

Long before that, in 2018, the company formed a subsidiary, Fidelity Digital Assets, expressly on the belief that “bitcoin is more than an asset; it represents the foundation of our business and a new financial system.”

BlackRock, the world’s largest asset manager, launched a service in September for institutional clients to gain direct Bitcoin exposures. And BNY Mellon, the world’s largest custody bank, announced in early October that it will offer hold-and-transfer services for Bitcoin and Ether—starting with select clients.

Hedge funds are getting involved too. PwC’s Global Crypto Hedge Fund Report for 2022 found that of the traditional [non-crypto] funds surveyed, about one in three were “currently investing in digital assets.”

And crypto is starting to show up on banks’ balance sheets. The Basel Committee on Banking Supervision (BCBS) published a report in September that estimates about US$9 billion worth of crypto exposures at world’s top banks, mostly in Bitcoin and Ether.

This doesn’t come as a surprise to many people in crypto. The company where I work, AAX, was founded in 2018 with the idea that institutional investors would embrace digital assets. That’s why we initially built the exchange on the London Stock Exchange Group’s flagship matching engine, and deployed institutional-level market surveillance to create a trading environment geared towards institutional participants.

But why should all these institutions get involved? After all, Bitcoin and other digital assets have been trending down in value.

Some will say it’s for market liquidity; it’s safe to assume it’s not FOMO (fear of missing out) anymore.

I think the reason institutions are still coming into the market is similar to what Fidelity Digital Assets says on its website: Bitcoin, and digital assets generally, are a new financial system.

And that system happens to be a better way to build trust.

Trusting in trustlessness

At its simplest level, Bitcoin is an electronic payment system that doesn't rely on trust between parties or on institutions to facilitate trade. Instead, it relies on a blockchain-based protocol.

The major benefit of non-trust-based systems is they remove a need for human intervention as well as any associated operational problems, Including corruption. That brings dramatic efficiency to transacting, accounting and more significantly, cross-border financing or global project funding.

Blockchain is catching on as a new technology layer for traditional financial instruments. The World Bank, The Banque de France, and over 40 other large and national financial institutions have all issued or experimented with blockchain bonds.

But for TradFi to truly embrace the concept of digital assets, this highly centralized, top-down sector has to be prepared to accept their different, decentralized approach to governance. This is a financial system in which every user has a say in the running of a protocol.

In other words, TradFi needs the concept behind DeFi as well as its investment potential. And while that may sound strange to some, it’s actually going to be critical to financial institutions regaining and retaining trust, especially with younger generations.

Decentralizing TradFi

The liquidity provided by retail participants will be key to the opportunity for institutions in digital assets. But it is important for institutions to recognize that retail trade contributes more than just volume or liquidity to digital asset markets.

Bitcoin and Ethereum are open sources and their mass markets are laboratories where communities build and improve protocols. That’s where innovative decentralized autonomous organizations (DAOs) are formed, where governance votes are cast, and where the core principles of digital assets are being articulated, most essentially as decentralized, borderless, and trustless.

In other words, what TradFi is embracing is a movement driven by the masses. To make the merging of systems complete, institutions will also have to embrace the less top-down worldview that comes with digital assets.

The trustless nature, which firms as big as Blackrock are discovering, has the potential to vastly improve overall confidence in institutions and the entire financial system.

This isn't about a cyber-security type of trust, which is a concern for any kind of digital account. Instead, this is about building trust in finance itself. If you really want people to trust in something, why not give them a share of its control?

Ultimately, that’s what digital assets like Bitcoin do. Small businesses and average people gain a reliable, trustless infrastructure just by holding and transacting with the digital assets that are already available.

And because Bitcoin is open source it has far more potential to boost financial inclusion than Central Bank Digital Currencies. CBDCs just repeat the problems of fiat currency but in digital format.

That’s not what the world needs; it needs a more trusted and inclusive financial system. Digital assets offer the most potential to deliver that, which means institutions should embrace the transparent, decentralized and community-driven concept behind them as well as the opportunities they create.

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Ben Caselin

Vice President of AAX, Head of AAX Trends

Ben Caselin is the Vice President of AAX and Head of AAX Trends, a sub-division of AAX aimed at driving the mass adoption of bitcoin and digital assets. Widely published in top-tier media and an avid speaker at global conferences, Ben draws on his background in socio-cultural anthropology, the creative arts and years working in both the development and fintech space, to develop insights into bitcoin and digital assets.

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