🇺🇸 English version
In the global economy, the circuit is long and complex, and sources of income are diversified: work, wealth, social benefits, public investments, inheritances... allow for compensation for losses between different income posts and to smooth the flow of income. This help stabilize the system and makes it very resilient, even in the case of crises.
In DeFi, the options are for now much more limited: sources of income are symbolized by tokens, which play the universal role of means of payment or transaction receipts. Their versatile role allows them to be employed in several value creation channels, which partially compensates for the fact that their utility is limited to purchasing other tokens, making it indeed a purely speculative activity.
This circular character explains notably the bankruptcy of algorithmic stablecoins: the fundamentals supporting the value of stablecoins are not of a different nature: they are themselves stablecoins. In the “material” stock market, precious metals, consumer goods, oil, real estate... are assets with a use value in addition to their market value. This use value, although it does not guarantee a floor price, nevertheless guarantees demand, and therefore the setting of a price. The floor price is determined by the availability of liquidity, its velocity of circulation (economic dynamism), and monetary policy (inflationary or deflationary). All this ultimately depends on the central bank's policy, through the following mechanism: the central bank creates money that it lends to commercial banks in exchange for claims on securities that these banks deposit with the central bank. These securities serve as guarantees. The money received by commercial banks is lent to individuals, according to the mechanism of fractional credit: for one euro received from the ECB, banks can lend 10. This multiple is determined by the mandatory reserves, set at about 8% (rounded to 10% in the example to find this multiple of 10). Banks recover this money with interest, which means that over the duration of the loan, the money initially lent by the central bank will have been multiplied (conceptually) as follows: 1 initial € x 10 x interest rate. This inflationary mechanism is constantly in imbalance, leading to permanent inflation. What stabilizes this mechanism period after period, is the fact that these loans serve to generate economic activity, and therefore income. These revenues give a “reality”, a real value, to this euro initially created ex nihilo by the central bank.
A second component is the monetary illusion: the individual who works does not constantly calculate to know what the real value of the money he receives in income is. However, this is impacted by inflation: if it is 2% this year, incomes lose 2% of purchasing power (all other things being equal) in one year. But the face value (printed) remains the same. If individuals took inflation into account, they would actually see their incomes decrease year by year. Inflation is therefore a self-sustained phenomenon: for the consumer to believe in the permanence of his purchasing power while it erodes, it is necessary to print more money to subsidize the part of income that has disappeared, which in turn accelerates inflation and creates an endless cycle.
How is inflation controlled? The central bank is charged with controlling inflation by setting interest rates at which it lends money to commercial banks. Commercial banks, to compensate for the interest rate of the loan made from central banks, pass it on to their clients, adding their own margin. This is how the central bank's interest rates are reflected throughout the economy.
When rates are high, commercial banks can borrow less money from the central bank, and their clients also borrow less money: this leads to a decrease in money creation, and therefore to slower inflation. Conversely, when the central bank lowers the benchmark interest rates. This dynamic mechanism of monetary policy ensures that economic activities are finely tuned according to the broader goals of economic stability and growth.
The economic machine thus operates according to the following global principle: the central bank creates money ex nihilo, which it lends to commercial banks at an interest rate. Commercial banks do the same with their clients, multiplying by 10 the money received from the central bank, which creates inflation and thus a decrease in the value of each euro. Clients, by producing goods and services through the reinvestment of their loans, give value to these newly created euros: they serve indeed to purchase the new goods and services available in the economy. Thanks to the revenues generated, clients repay their commercial banks with interest, which in turn repay the central bank.
What prevents constant crises and speculative bubbles from occurring is primarily the size of the global economy, the fact that borrowed money is mostly reinvested in the production of goods and services and not exclusively in the stock market, and the fact that economic actors have confidence in the system thanks to the monetary illusion, which compels them to move forward and continue to produce to repay their debts and make profits, instead of refusing to take part in a system in which their purchasing power erodes mechanically. Ultimately, the fact that money created ex nihilo serves to produce consumable goods is what gives meaning and supports the economic machine.
In the case of DeFi, the same mechanism is applied, but the disconnect of DeFi from the production of material goods makes it a reduced and primarily speculative ecosystem, even though the opening of DeFi and its use in socially useful projects is entirely possible at present.
Moreover, the experimental character of DeFi makes it a valuable tool: it forces a refined rethinking of theories regarding motivations, social coordination, economic psychology, market behaviors, enterprise structures, the role of money and its various uses, and the very notion of value in economics.
It constitutes a reduced ecosystem and therefore more easily studiable than a globalized economy, to test what works or doesn't in terms of collective intelligence, market rationality, social coordination, and resource allocation.
Furthermore, it offers unprecedented individual freedom, to create innovative economic systems. An experienced developer can test a protocol in a few days, and iterate on its design much faster than a traditional company can. The purely speculative intention of participants, in this case, is a beneficial element: it allows measuring in real-time the success or failure of the solution offered by the program, and this, in a much more radical manner than any other qualitative or quantitative metric. Only through these cycles of iterations and real-time feedback will this ecosystem finally find the most suitable mechanisms to coordinate the actions of independent and autonomous actors. And it is under this condition that DeFi can truly break out and benefit the real economy, which, let us remember, is not more immune to panic crises whose frequency seems to accelerate, since each crisis, leading to a stagnation of real growth, simultaneously causes an increase in speculation which prepares the next bubble, each time larger and more disastrous. Perhaps the algorithmic mechanisms of DeFi will ultimately be more robust than the regulations that states fail to enforce against leading speculative actors.