Increasingly I think that “crypto” — meaning blockchains like Bitcoin and Ethereum, their imitators and would-be successors — is a transitional technology. I don’t think that blockchains of this style, whether “proof of work” or “proof of stake”, are going to endure and dominate in the way that their proponents imagine and hope. At the same time, I think crypto detractors are and have always been wrong to imagine there’s no there there, “anything you can do with a blockchain you can do better with a regular database”. This kind of critique has always missed the point. Blockchains are social institutions, a means of constituting authority around data that would otherwise be widely contested, given powerful and opposed economic interests in the contents. Permissionless, inexpensive, authoritative computation does indeed make possible a tremendous range of new applications and institutions that we are only just beginning to explore. But once we collectively acknowledge that, we’ll find that there are ways of arranging it that are more straightforward and powerful than Satoshi-style open blockchains, and that in practice are as reliable and effective.

In the end, I think crypto will be one of many examples of what I’ll call a “gray technology”. A gray technology starts out, often self-consciously, as a revolution and an underdog, an antagonist to an existing industry and regulatory regime. Via some combination of stealth, pretension of technological ungovernability, and aggressive self-righteousness, early proponents launch projects that demonstrate the value of practices that the existing regulatory regime would discourage or forbid. However, the result is not overthrow or irrelevance of the regulatory state, but a process of conflict and negotiation between the upstarts, incumbents organized around the status quo regime, and regulators. Eventually a new equilibrium emerges that either embraces some of the once discouraged practices, or enables alternative means of producing the newly demonstrated value without the troublesome practices.

There have been lots and lots of examples of this. Firms like Uber and AirBnB got their start by very plainly and aggressively flouting (or by encouraging others to flout) prior taxi and hotel regimes. These firms did not then secede into cyberspace or render themselves untouchable in Cook Island trusts. They skirted laws they loudly argued were bad (remember when Uber would go on about “Big Taxi”), they proved that in skirting such laws they could enable interactions that consumers and providers really valued, they used those constituencies as sources of political bargaining power by which they negotiated (and continue to negotiate) new regulatory regimes within which their once oppositional practices become blessed. Napster began as a self-righteous, self-consciously oppositional project to make all the world’s music conveniently and inexpensively available to all. It clearly demonstrated value. But, alas, in this case, the effect was not to normalize regulation around once transgressive practices, but to spur the incumbent industry to provide alternative means of offering much of that value under the existing regulatory regime, which powerful interests valued very strongly. Uber “won” and Napster “lost”, but in both cases gray technology served a similar role, demonstrating value propositions incompatible with an existing set of industry and regulatory arrangements, then spurring a reorganization of those arrangements to enable much of the demonstrated value under a new, administratively blessed regime. We begin with a status quo thesis, upstarts emerge as antithesis, until finally we settle into a new synthesis.

Although it is easy to mock, “DeFi” has demonstrated real value. Automated market makers and the near perfect arbitrage finance of “flash loans” represent real technical innovations within the plumbing of finance. Permissionless stablecoins enable experimentation with institutional forms that involve funds flows more complicated than simple payments, experimentation that previously was restricted to firms capable of partnering with conservative and often predatory banks. (Suppose a small startup wanted to build the platform for writers I proposed a few months ago, with variable refunds to subscribers. You can’t use off-the-shelf credit card payments for that.) DAOs (“decentralized autonomous organizations”) represent really interesting experiments in democracy and civil society that currently regulate billions of dollars of funds through various grant providers, token exchanges, and collateralized lending protociols. All of this has emerged under a very gray technological environment, whose main economic driver has been simple speculation (or, if you prefer, gambling) in very unstable coins like BTC, ETH, and thousands of their peers.

But owing precisely to that success, DeFi and stablecoins are now far too big and prominent for regulators to meet only with benign neglect. The DAO that governs Uniswap has already allocated about $19 million dollars for a “DeFi Education Fund”, which will function as a lobbying organization on behalf of an industry with identifiable interests, despite “decentralization”.

More fundamentally, regulation is not just a threat to DeFi, it is also the key missing element if the fascinating tools and practices of the industry are to ever finance real-world goods, services, and businesses. The NFT that now represents a kind of postmodern nonclaim on a digital collectible could as easily represent an ownership claim on a home. If that were to happen, then with the help of valuation or appraisal “oracles“, home mortgages could be financed in the same way that people’s speculalative crypto positions currently are, via automated collateralized lending platforms like Aave, Compound, or dYdX. Whether that would be dystopian or socially valuable competition for (dumb, corrupt, predatory) financial incumbents would, well, depend very much on how these practices come to be regulated. But it is only with regulation, and the concomitant ability to have “on-chain” outcomes enforced “off-chain” by the legal system, that DeFi can escape its current predicament as a sophisticated panoply of financial techniques financing nothing but an incorporeal casino.

Tech types often think of regulation as a mere inhibition or friction, a thing that gets in the way of innovation. That’s foolish. Regulation is an integral part of applied technology. Airplanes would fly in libertopia, but civil aviation, the technology that keeps a city of humans in the air 24 hours a day and lets us travel anywhere, could not exist if regulations had not evolved along with fuselage materials. Modern monetary systems, in which the obligations of thousands of banks all trade at par and settle obligations with customers of any other bank, represent an extraordinary technological achievement crafted primarily from the stuff of regulation. DeFi needs regulation not defensively, so entrepreneurs can do what they want without going to jail, but constructively, so entrepreneurs can do things that, without regulation, they simply could not do.

But Satoshi-style open blockchains were designed to resist an adversarial regulatory state whose assistance would be dispensed with and whose edicts, um, defied. If that requirement is relaxed, there are simpler and more powerful ways of structuring the kind of permissionless, authoritative computing that contemporary blockchain platforms offer. Most emerging applications do not seek to permanently resist regulation by a hostile state. Rather, like other gray technologies, they seek eventual accommodation with the regulatory and legal system. As applications find that accommodation, I suspect they will migrate from complex, expensive open blockchains to an ecosystem that begins as permissioned “sidechains” (see Polygon, xDAI, Ronin, etc.) but evolves into more convenient and capacious platforms for robust, permissionless, high-integrity computing. These will be run by communities of identified operators that accept regulatory obligations to compute correctly, to behave as common carriers, and to respond to legal orders. Crypto will neither “win” like Uber, nor lose to incumbents like Napster, but transform into an industry that preserves the new playing field that upstarts have created, in a way that addresses the concerns and recruits the capabilities of regulators.