crypto strategy

What the financial industry should expect from blockchain in 2023

We enter 2023 with tighter belts this year. However, we leave 2022 with an unparalleled blockchain experience, both good and bad. Will the trends of 2022 continue into the new year? We examine how the financial system reacted to distributed ledger technology (DLT) in 2022 and what this predicts about its direction in 2023.

Long story short, we should see 2023 as a reset year. Financial institutions will reduce use cases, focus less on blue sky projects to focus on those that generate ROI, and bring the worlds of commerce and settlement closer together.

This brings us to five predictions of what the next 12 months will bring to fintech in regulated markets:

1. The main concern in 2023 will be collateral management

The pressure for this has been building throughout 2022 in both DeFi and the traditional financial space. In DeFi, the collapse of Terra/Luna in May prompted regulators and issuers to focus more on the importance of transparent collateralized backing of these instruments. Obscure data from even the most established stablecoins has convinced regulators that this is going to have to change, though it is unclear what they will do.
Evidence of reserves was an industry effort in this direction, but adoption has been uneven. It also reveals a tendency for some market participants to pursue purely technical solutions to collateral management, while ignoring the political and social characteristics of the credibility challenge. An effort that is gaining momentum is segregated fund requirements for crypto exchanges which reflect the framework of the futures markets. After the collapse of FTX, there is support for segregating customer accounts and applying civil and criminal penalties where they are not.

2. Regionally, the fastest movement in fintech will be the Middle East

It was one of the only geographies to experience continued growth through 2022, while much of the rest of the world headed into recession. This region is a strong promoter of technological innovation and exporter of natural resources, suggesting that central bank digital currency (CBDC) or trade are likely to be the targeted sectors. Geopolitics, including relations with China and the United States, may affect direction, as China has pushed the CBDC through the
multi-currency CBDC exchange project (mBridge)and the United States is moving much more slowly on this subject.
Saudi Arabia candidate to join BRICSwhich signals its desire to take the lead of the countries of the South and to play a more important role in the world economy.

3. We must prepare for more failures as market volatility persists

After the great economic volatility of 2022, one could hope for a calmer year 2023, but this is unlikely. Financial institutions will continue to downsize and reduce risky projects. In decentralized finance (DeFi), volatility will continue due to the correlation between cryptocurrencies and between centralized exchanges and service providers. It also means that we can expect more losses and failures in the cryptocurrency space. Volatility is not limited to the public blockchain. Enterprise blockchain has also seen some big players exit the market or reduce your investmentand also had some notable liquidations, which highlights the difficulty of building good governance and economic models. For projects where
governance is carefully constructedwe can expect scale and diversification.

4. Increased focus on efficiency-enhancing investments, due to high interest rates

Interest rates are expected to stabilize, but remain elevated from the low rates that have characterized most of the past three decades. The resulting economic downturn will increase interest in projects that offer operational efficiencies versus new revenue streams. In the longer term, as the world becomes accustomed to higher interest rates, projects will need to demonstrate the return on investment for new revenue streams. In the short term, overall investments in crypto assets will be lower.
Funding cycles take longer, so new blockchain projects that engage startups are delayed. This exacerbates the post-FTX
drop in VC funding for crypto, a new hesitation which should stabilize in the second or third quarter. When capital is scarce, projects that improve existing offerings gain traction. An example is the
switch to T+1 settlement for transactions. Companies should beware, however, that too narrow a focus on process efficiency can come at the expense of resilience, assupply chain managers found out the hard way.

5. More Complications For Passing New Crypto Regulations As Global Politics Fractures

This happens both globally (as the war in Ukraine increases global disputes such as the United States against China) and nationally in some major economies (US, UK). 2023 will be marked by these fractures, as legislation will inevitably become more difficult to pass. The crypto industry is not immune to it. In the past we have seen problems with China against the rest of the world. Basel IV guidelines on exposure to crypto assets went into effect on January 1, although rregulators have until 2025 to implement it. Today, changing rules have led banks to hold crypto through sub-custodians, and may now contribute to their limited expansion of such programs. Regulatory guidance is critical to the expansion of blockchain technology (including DLT) and the digital currencies that use it. 2022 has seen many calls for regulation; we expect 2023 to produce the legislation. Considering the environment, it is likely to seem quite restrictive. For example, the
SEC released Staff Accounting Bulletin 121 earlier this year, forcing companies that hold crypto to list these assetson the liabilities side of their balance sheetan expensive guideline.

Overall, 2023 is expected to make waves in the DLT and regulated market space, and only those with the ecosystem expertise will be able to navigate these turbulent waters. If you would like to learn more about what awaits you and how to approach the coming year, do not hesitate to contact our experienced R3 team. We are here to help you !


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