New OECD paper criticises “financial engineering” and draws lessons from crypto winter

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In a new pol­i­cy paper titled “Lessons from the Cryp­to Win­ter: DeFi ver­sus CeFi,” pub­lished on Decem­ber 14, the Organ­i­sa­tion for Eco­nom­ic Coop­er­a­tion and Devel­op­ment (OECD) exam­ined the cryp­to win­ter. The writ­ers inves­ti­gat­ed the impact of the cryp­to win­ter on retail investors as well as the role of “finan­cial engi­neer­ing” in the industry’s present issues and dis­cov­ered plen­ty to dislike.

Accord­ing to the analy­sis, insti­tu­tion­al mar­ket play­ers with­drew their posi­tions ear­li­er than ordi­nary investors, who may have con­tin­ued to invest even as the mar­ket crashed. Ter­raUSD (UST) investors, for exam­ple, “had no com­pre­hen­sion of the cir­cu­lar and reflex­ive char­ac­ter of the so-called sta­ble­coin, which had no phys­i­cal val­ue.” Mean­while, because of the industry’s tremen­dous inter­con­nec­tion, con­ta­gion spread through­out it.

The OECD paper, which is an inter­gov­ern­men­tal organ­i­sa­tion with 38 mem­ber coun­tries ded­i­cat­ed to eco­nom­ic advance­ment and glob­al com­merce, focused on events in the first three quar­ters of 2022. It blamed them entire­ly on a lack of pro­tec­tions as a result of “non-com­pli­ant pro­vi­sion of reg­u­lat­ed finan­cial activ­i­ty,” as well as the fact that “some of these oper­a­tions may fall out­side of the present reg­u­la­to­ry frame­works in place.”

The cryp­to win­ter also “revealed new forms of finan­cial engi­neer­ing,” which harmed the mar­ket. Accord­ing to the news source:

The authors dis­cuss the CeFi/DeFi cryp­to divide, not­ing that DeFi worked “with­out dif­fi­cul­ties” in the first half of the year, how­ev­er DeFi’s auto­mat­ed liq­ui­da­tions may increase mar­ket volatil­i­ty. Both sorts of plat­forms may be devoid of over­sight or reg­u­la­to­ry com­pli­ance, and CeFi and DeFi are heav­i­ly inte­grat­ed in a tight­ly knit ecosystem.

“Devel­op­ments such as liq­uid stak­ing and the cre­ation of deriv­a­tives backed by illiq­uid locked assets entail severe liq­uid­i­ty trans­for­ma­tion risk and matu­ri­ty mis­match­es. Con­sec­u­tive rounds of re-hypoth­e­ca­tion of cryp­to-assets believed to be lent and/or ‘locked’ as col­lat­er­al by plat­form clients gen­er­ate risks asso­ci­at­ed with exces­sive lever­age and liq­uid­i­ty mis­match­es in cryp­to-asset mar­kets.”
Many of these tac­tics stem from the “com­pos­abil­i­ty” of decen­tralised finance (DeFi), or the ibil­i­ty to mix smart con­tracts to cre­ate new prod­ucts, accord­ing to the research, and the abus­es con­tin­ue unabated.

DeFi was deter­mined to have more flaws. The study details an ora­cle break­down dur­ing the Ter­ra ecosys­tem col­lapse, which allowed for abuse on sev­er­al exchanges. Dif­fer­ences in infor­ma­tion access led to DeFi and CeFi plat­forms behav­ing notice­ably dif­fer­ent­ly dur­ing that cri­sis. Accord­ing to the report:

The research empha­sised the impor­tance of knowl­edge­able retail investors. “When mar­ket par­tic­i­pants fail to pro­vide ade­quate risk dis­clo­sure, offi­cials may issue warn­ings to investors, par­tic­u­lar­ly retail investors, about the increased dan­gers of such actions,” it stat­ed. There is a lot of uncer­tain­ty in the world, and there is a lot of uncertainty.

News Sum­ma­ry:

  • New OECD paper crit­i­cis­es “finan­cial engi­neer­ing” and draws lessons from cryp­to winter
  • Check all news and arti­cles from the lat­est Busi­ness news updates.

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