Let’s face it, crypto still has a reputation problem and, as of now, rightfully so – but 2023 is the moment to change that at a root level. Recent events have only accentuated a lack of trust in the space from both businesses and consumers. The worst part is that this has been due to counterparty risk, a problem that crypto is meant to bypass by design.
Paulina Jóśków is the head of partnerships at Ramp. This story is part of CoinDesk's Crypto 2023 package.
In 2023, Web3 projects will take on the responsibility of educating new users on self-custody and creating better gateways for them to enter the space safely. All the necessary tools are already available, market sentiments are temporary, and the fundamentals are still sound.
Counterparty risk is unnecessary
“Counterparty risk is the probability that the other party in an investment, credit, or trading transaction may not fulfill its part of the deal and may default on the contractual obligations.” (“Counterparty Risk.” U.S. Office of the Comptroller of the Currency, 2022.)
This type of risk can only exist within centralized infrastructure. It will usually happen when a custodial service becomes insolvent or goes out of business, leaving its customers unable to access their funds.
Time and again we’ve seen how different kinds of custodial services have turned this risk into a reality. From Mt. Gox in the early days of crypto, to FTX, Celsius Network and Three Arrows Capital, they all failed to deliver on their obligations towards users – and not just any users. Many of those affected were newcomers to the space who simply weren’t aware that self-custodial alternatives are available.
See also: The 4 Horsemen of the Cryptocalypse
In decentralized finance (DeFi), counterparty risk is solved with code, and self-custody is the norm to make sure users aren’t vulnerable when those in charge of these services are being reckless. This is why the ethos of decentralization will remain central to the space’s development in 2023. If decentralized infrastructure and self-custody were the default mode for how new users are welcomed to the space, maybe crypto would have a different reputation.
Yet, here we are
There is currently no reason for the entry points into crypto and Web3 to be plagued by this problem. Self-custodial on-ramps are already working with countless dapps and wallets so that users are in complete control of their digital assets from onboarding to off-boarding.
Yet, most users still make their first digital asset purchase through a custodial service. This is simply because of their familiarity with existing Web2 banking and fintech applications. They assume crypto on-boarding works similar to any other online banking operation where the user journey is one of just signing up and trusting the people running the server with their assets.
What they don’t always understand is that they do not actually own their assets in these cases, and most of these services do not operate under the same legal guarantees and protections that a traditional financial firm would.
Unlike a bank, custodial services in crypto are not insured and many are registered off-shore. In the event of a hack or bankruptcy, it's very likely that users lose all their assets and no customer service representative will answer to explain what happened. Some custodians have built their businesses on the back of this information asymmetry.
Self-custodial onboarding as the new standard
More education around existing decentralized infrastructure and self-custodial onboarding is the first step in solving this problem. A shift towards DeFi is something that even custodians such as large centralized exchanges have acknowledged will happen once the knowledge gap among end-users is bridged. In the new year, this process will be accelerated in order to effectively address the current mistrust in the industry.
Projects that provide users’ first interactions with the crypto space are uniquely positioned to point new entrants towards best practices and make sure they’re not exposed to any unnecessary risks. Besides educating users on their particular use cases, they should emphasize the need for self-custody and make sure they know how to stay in control of their assets at all times.
By making sure that users have self-custodial onboarding options easily available from within their own services, Web3 projects can help the industry rise to safer standards.
There are also practical user experience (UX) improvements that come from an industry-wide focus on self-custodial onboarding. Once users work with one of these services and pass the necessary verification processes, they’re able to purchase crypto with fiat from a variety of other dapps that have integrated that particular self-custodial onboarding solution.
Another improvement is around privacy. Unlike traditional exchanges, the business model for these on-ramp services doesn’t revolve around data collection and the monetization of it. Many eliminate instances where users are required to share any kind of data. This allows for greater risk mitigation related to hacks and data leaks and means that the space stays true to one of its core promises.
These are all things that every new user should and will know as Web3 continues to evolve in 2023. It’s time for decentralized and self-custodial user journeys to become the norm.