The 2022 Web3 and Digital Assets Year in Review, and Trends for 2023 

Written By Matthew Leybold

Better late than never! In the wake of The Next Block’s 2023 Cloud Predictions, we wanted to provide a similar Web3 and Digital Assets year in review and look ahead for what 2023 might bring to bear. 

Let’s dive in first with the biggest events of 2022.

2022 Year in Review. 

The Good - The Ethereum Merge. 

The Ethereum Merge, a transition last year from the energy intensive Proof of Work (PoW) to the Proof of Stake (PoS) consensus mechanism, which consequently will decrease its energy usage by 99.5%. This was the greatest technical achievement in Web3 and crypto in the past five years. 

Vitalik Buterin delivered a presentation last year reviewing the broader Ethereum roadmap: The Merge, The Surge, The Verge, The Purge, and The Splurge. The Merge was the first major rollout of the multi-year vision for Ethereum. 

The transition to PoS promises to improve the network’s sustainability, security and economic durability, and is the most significant update to Ethereum since its launch in 2015 (Consensys). 

The changes are predicted to have the following effects:

  • Ethereum is going green as it will use 99.95% less energy in a PoS consensus model 

  • There will be a 90% reduction in ETH issuance and will potentially become a deflationary asset

  • Staking rewards will be boosted 

  • No new ETH will enter circulation for 6 months

  • Sets the stage for future scalability updates like sharding

(Source: Argent)

Source: Ethereum Roadmap

Read more from our original post on how the Ethereum Merge was a major piece in changing the course of crypto. 

The Bad - The Collapse of CeFi. 

The last quarter of 2022 featured an incredible string of events that left the crypto markets stunned, primarily driven by the FTX bankruptcy. FTX, a leading cryptocurrency exchange, was viewed as a market leader along with its founder and CEO, Sam Bankman-Fried (SBF). Until November and its recent Chapter 11 bankruptcy filing, FTX was the third largest cryptocurrency exchange and valued at $32 billion.

Look at most of the most recent bankruptcies, liquidity events, and other failures in this recent crypto winter we witnessed in 2022. 

Celsius. Terra (LUNA). 3 Arrows Capital (3AC). Voyager. BlockFi … and now FTX. 

What do they all have in common?

CeFi.

2023 Predictions. 

As we look forward to 2023, a few summary level predictions (TLDR):

  1. TradFi builds its own DeFi

  2. Acceleration of regulatory clarity through enforcement

  3. The tokenization of everything

  4. Continued growth of Layer 2 technologies and scaling

  5. The evolution of multi-chain and cross-chain

TradFi builds its own DeFi. 

In Web3, digital assets are becoming more and more ubiquitous to DeFi and other industry projects. It is also starting to pick up steam in TradFi. While traditional banks and capital markets players have largely avoided DeFi, these institutions clearly want to embrace Web3 technology to apply it to its own financial instruments, assets and operational processes.  Even in the midst of a highly erratic 2022 for DeFi, with the market going into crypto winter, and a number of high profile CeFi exchanges and projects collapsing, they commitment to developing this technology remains. This has brought significant questions about the future of certain cryptocurrencies, and DeFi as a whole, if TradFi will leverage Web3 and blockchain technologies for its own native solutions and financial ecosystem. 

Regardless of these market dynamics, TradFi seems to be unfazed in its faith in the underlying technologies that Web3 has brought to bear, and is actively investing in those tech capabilities to its own advantage.

In order to fully leverage the potential that Web3 tech has to offer, organizations must identify the use cases best suited to adopt web3 technology and tokenization strategies. This can happen through new product development, or legacy modernization of existing products, platforms and infrastructure where Web3 tech may present a better way of doing things. There are a host of use cases in TradFi, including securitization, loan syndication, capital raising, and others where institutions are considering if blockchain, tokenization and smart contracts will greatly enhance these financial instruments and their underlying systems and operational processes. 

For legacy modernization, this is no easy feat given the complexity of transitioning from traditional systems and processes to newer models employing emerging technology, and most TradFi’s are evaluating the business case for change, and if DeFi will truly be disruptive enough to warrant overhauling their own estates as well.

Conversely, there is also increasing interest in permissioned DeFi, such as Fireblocks Permission DeFi, as a means for a more DeFi-native means of compliance. Read more in the Coinbase 2023 Market Outlook for how permissioned DeFi is increasing in interest and adoption. 

Acceleration of regulatory clarity through enforcement. 

There may be a silver lining to the collapse of FTX amidst the 2022 crypto winter and market volatility with acceleration of compliance. CeFi organizations such as Coinbase have consistently called for regulatory clarity to enable the industry, and it seems that it may be coming. 

On the other hand, it appears that it may be coming primarily in the form of enforcement. 

This is stemming from a generally negative view from the US Federal Government on DeFi in the wake of both the FTX meltdown and the 2022 White House Executive Order on Ensuring Responsible Development of Digital Assets, and its subsequent framework. Some examples include: the Economic Council’s report and issues with digital assets; the US Treasury report on Illicit Finance in DeFi; and the SEC filing a Wells Notice to Coinbase. 

It seems to be that for the foreseeable future, both the rhetoric as well as action will come in the form of crackdowns, enforcements, and interpretations of current regulations in TradFi, applied to DeFi, rather than TradFi and DeFi leaders working together to drive FinTech innovation while regulating the industry to safeguard institutions and retail investors and consumers. 

The tokenization of everything.

Tokenization is an important process, especially for enterprises involved in payments and money movement. It involves the conversion of sensitive data such as credit card numbers, bank account information, and other financial details into a secure digital token. This token is used to securely process transactions without exposing confidential customer information. Tokenization offers a range of benefits to businesses that make it an attractive option when it comes to protecting their customers' data.

Specific to Web3 and blockchain based environments, additional unique benefits of asset tokenization include:

  • Fractionalization: Tokenization allows assets to be divided into smaller units, making them more accessible to a wider range of investors. This allows for more efficient use of capital and increased liquidity.

  • Instantaneous Settlement: The use of blockchain technology enables the instantaneous transfer of ownership and settlement of trades, eliminating the need for intermediaries and reducing the time and costs associated with traditional settlement processes.

  • Increased Liquidity: Tokenization makes it possible for assets to be traded 24/7 on global markets, increasing liquidity and enabling more efficient price discovery.

  • Transparency and Immutability: The use of smart contracts and decentralized ledger technology ensures transparency and immutability of all transactions, providing a clear and auditable record of ownership and helping to mitigate the risk of fraud and other forms of mismanagement.

  • Lower Costs: Tokenization eliminates the need for intermediaries, reducing the costs associated with transactions and enabling a more efficient use of capital.

  • Overall, tokenization can help bring financial inclusion and democratize access to wealth by providing access to assets that were previously only available to a select few and providing a digital bridge between the traditional world and the decentralized one.

For these reasons, both generally and Web3-specific, many businesses are turning to tokenization solutions as part of their overall payment security strategy. Tokenization offers many advantages over conventional methods and provides an extra layer of protection against cyber attacks and identity theft — making it an essential tool for any business that wants its customers’ data protected from malicious actors.

Also, let's consider what TradFi industry leaders are saying about the business case and value proposition for tokenization:

Larry Fink, CEO of BlackRock (a $10 trillion asset management firm), stated "the next generation for markets, the next generation for securities, will be tokenization of securities," and will provide “instantaneous settlement” and “reduced fees” all while not disrupting BlackRock’s business model. At the same time, he mentioned that most crypto firms will not be around in the future, but that blockchain technology and associated capabilities will be very important for TradFi. 

BlackRock has also partnered with Coinbase and announced a spot Bitcoin private trust, both as means to give its clients direct exposure to crypto assets which shows an embrace of DeFi as well as leveraging its underlying technology. 

JP Morgan also notes in its recent whitepaper (Institutional DeFi: The Next Generation of Finance?), tokenization could potentially enable financial services to be delivered “in a more open manner.”

Boston Consulting Group and other industry leaders also see a very attractive value proposition for asset tokenization of real world assets that are generally highly illiquid. They estimate that by 2030, tokenization of global illiquid assets will be a $16 trillion business opportunity, and the total tokenized market to be 10% of global GDP in the same timeframe. 

Continued growth of Layer 2 technologies and scaling, namely zero knowledge proofs.

Cointelegraph notes the soaring growth of Ethereum layer-2 networks set to continue in 2023

Another great example is the launch of BASE by Coinbase. Coinbase has taken yet another step in being the most trusted US digital assets exchange that is also pushing the ball forward on responsible, compliance FinTech and Web3 innovation with its release of Base, an Ethereum Layer 2 solution and the next Superchain.

Base is a secure, low-cost, developer-friendly Ethereum (L2) built to bring the next billion users to web3. Base offers a secure, low-cost, developer-friendly way for anyone, anywhere, to build decentralized apps or dApps on-chain. Base will serve as both a home for Coinbase’s on-chain products and an open ecosystem where anyone can build for both retail and institutional purposes. 

Most interestingly, and different from many other Web3 projects, Base has no plans to issue a new network token.

Read more here on the Coinbase Base Layer 2 launch as the next Superchain. 

The evolution of multi-chain and cross-chain. 

The future will likely be multi-chain and multi-token, but the debate is ongoing as to whether it should be “cross-chain”. The current DeFi landscape features a number of disparate smart contracts platforms and settlement layers, with bridging technologies coming in different forms, security profiles. This modern space has already resulted in a patchwork quilt of interoperability technology and standards. Some tech is for blockchain-to-blockhain as well as blockchain to more traditional database and technology systems. 

Bridging technologies are evolving to support blockchain to blockchain value transfer, blockchain to traditional data environments, and data feeds to blockchain agnostic constructs such as pricing oracles with Chainlink Cross-Chain Interoperability Protocol (CCIP).

The concept of rollups at Layer 2 are seeing the greatest adoption for scaling natively within a blockchain environment (batched transactions rather than every individual transaction engaging with a smart contract platform, enabling scalability to a singular blockchain, more so than cross-chain integration (integration cross smart contracts platforms). A great example is the Ethereum to Polygon Bridge. 

Layer 1’s do also have their own bridging technologies as well, including Avalanche Bridge and Binance Bridge. 

Integration cross-blockchains is technically feasible and can even increase cross-chain liquidity and value transfer; however, new risk and security issues are introduced that are causing crypto-natives to reflect on this. Increasing interdependencies cross-blockchain (going beyond just two chains) of the inter-network and fabric between blockchain environments are unfortunately creating systemic weak points and potential security issues that are not native to the blockchain or smart contracts platform itself, exposing itself unnecessarily to external vulnerabilities. One of the most notable examples is the Binance $100 million bridge hack in 2022. 

For 2023, it’s likely that bridging technology will see significant development in order to create a stable ecosystem that is both cross-chain, and hybrid for both TradFi and DeFi. 

Matthew Leybold
Next

The future of finance technology is hybrid as TradFi and DeFi converge