Why Decentralized Lending Today is Like the Early Days of P2P Lending

[Editor’s Note: In part one of this two-part series, Jason Jones, co-founder of LendIt and current CCO of Centrifuge, explains how decentralized lending works and why MakerDAO reminds him of the early days of LendingClub]

We are on the verge of history. On a day not too long from now, a real-world borrower will receive a loan created from newly printed currency that is extended from a smart contract that lives on the Internet. The borrower’s loan application will have been vetted and ratified by a vote from a decentralized autonomous organization (DAO) that is made up of over 20,000 global voters. These voters are part of the MakerDAO community, which is a decentralized finance (DeFi) protocol. At this moment in time, the Internet will become a lender to a real world business and history will be made.

This will not be a loan made by a bank or even by a person, this will be a loan made by a smart contract. The members of the DAO will participate in the decision making process, but the actual loan issuance will be made by technology and will be funded by digital currency called Dai. The Maker Protocol, or system of coordination, will bring together a decentralized group of experts to review the loan application, approve the collateral (all loans are secured by collateral), conduct the due diligence, and vet the borrower. The ecosystem will help to find borrowers, help to find new merchants to accept Dai, and help to secure exchanges to convert Dai to local currencies, among other things.

From MakerDAO’s perspective, the borrower serves an important role as a supplier of collateral, which is needed in order to mint new Dai currency. There is no investor or bank on the other side of the loan. There is only the smart contract, which has minted new Dai as currency, based on the series of rules that were provided by the MakerDAO community.  It is in MakerDAO’s interest to expand the amount of Dai in circulation and increase the velocity of Dai transmitted. The more places that accept and use Dai as currency, the more demand there will be to expand the amount of Dai in circulation, and the more borrowers will be needed to supply fresh collateral. Since Dai is pegged to the US Dollar it represents a digital representation of USD. Any borrower who takes out a loan denominated in Dai can either spend Dai or immediately convert it to USD. With each new Maker Vault created by a borrower, MakerDAO has introduced new Dai into circulation. Dai is over collateralized, backed by a real world asset, and pegged to the USD.

This reminds me of our early days in the peer-to-peer (P2P) lending industry. It was an exciting time and we were pioneers trying to figure out how to responsibly give out loans to deserving borrowers. I remember the rapid advances in technology coupled with a growing community of developers, investors, and early borrowers. I remember the challenges we faced on how to interpret and apply the law to our new paradigm. I remember the explosion of start-ups that iterated on existing concepts, which collectively pushed the industry forward. Above all of it, I remember there was one company at the center of the P2P universe, much like there is one company at the center of the DeFi universe. MakerDAO reminds me of Lending Club. It is the decentralized version of Lending Club that sits at the center of the DeFi universe.

MakerDAO is an early stage venture that launched a little over two years ago. Venture capitalists, including Andreesen Horowitz, Polychain Capital, Dragonfly Capital, Paradigm, and others have collectively purchased more than $50m in MKR tokens from the Maker Foundation.  More than 80 team members work at the Maker Foundation with offices in San Francisco, NYC, Copenhagen along with a distributed workforce from around the World. Total Dai in circulation is approaching $120 million, and the amount of collateral locked into Maker smart contracts is over $350 million, making it the largest DeFi project even though it is tiny on the Real World scale. While MKR is held by over 20,000 addresses, the active community only represents several hundred people, who are the passionate early adopters.

In early April, the Maker Foundation introduced their version of a constitution. Their goal is to fully decentralize oversight of the Maker Protocol to the point where they can turn over all operations and decision making to the MakerDAO community at which point they will dissolve the Maker Foundation because it will no longer be necessary. Their constitution is the framework that they will follow in order to fully decentralize.

Once fully decentralized, MakerDAO will become a self-sustaining Internet Protocol. There will be no CEO, no Board of Directors, and no executives or employees. Anyone who owns a MKR token will have a vote on all decisions made by MakerDAO. Decentralized teams and contributors will be voted in by the community to deliver on a full scope of roles and responsibilities including risk, pricing, regulation, security, privacy, marketing, finance, and operations (among other things).  At this point a Decentralized Lending operation will be formed.

When I think about MakerDAO’s biggest challenge today, it is much like Lending Club’s biggest challenge when it was getting started.  How can you build an organization that responsibly gives out loans to deserving borrowers? It doesn’t matter that in this case we are dealing with a decentralized organization, the same problems still need to be addressed. A full scope lending operation needs to be built. Maker needs to attract and compensate the World’s leading lending & technology experts to contribute to this open protocol.

With this in mind, I reached out to one of the original architects of Lending Club. John Donovan was the co-founder, COO, and former Board Member of Lending Club (after an 18 year career at Mastercard).  He was responsible for building out Lending Club’s early teams where he led its organizational development.  I asked John to consider Maker’s first key element, Elected Paid Contributors and Domain Teams.  Specifically, I asked him what type of Domain Teams he would nominate if he were to launch a decentralized lending operation (DLO).  In Part Two John will provide his take.

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