One question has been repeated innumerable times this summer as the crypto market has come crashing down: “What are the real-world use cases of Web3?” It’s one of those questions where the more you think about it, the more you begin to question what you thought you knew. Crypto started as a revolution against the current financial system, but what we have today is an ecosystem largely separate from the real world relearning many of the lessons traditional finance learned years ago. Digital identity has been seen as a use case for smart contracts since Nick Szabo’s 1996 essay introducing the concept and while protocols like Ethereum Name Service have made progress in digital identity, we are still a long way from the original vision. Health data, insurance, and supply chain monitoring have long been touted as use cases for blockchain, but none of these have had an actual implementation gain traction.
So what is crypto/blockchain/web3 good for? It is good at creating mechanisms that align economic incentives toward a common goal. The key, however, is that goal must be material. The goal cannot simply be “number go up”. The mechanism of the bitcoin protocol incentivizes actors to secure the network. The goal is security and that in turn drives more users to the protocol which leads to an increase in the price of Bitcoin over time. The goal is not price appreciation of Bitcoin itself. In recent years, we have lost sight of the true innovation of blockchain and smart contracts and have gotten caught up in ponzi-economics and celebrity hype trains. We must reset and reorient our focus. Issues such as climate change that have been seen as impossible to solve economically can be reframed and approached from entirely different angles. This is the future web3 must embrace: tackling the toughest real-world challenges by creating incentives that make it economically advantageous to do so.
Once it became evident that neither Bitcoin nor Ethereum was going to overtake the US dollar as the world’s default medium of exchange any time soon, cryptocurrency and blockchain technology more broadly became the proverbial solution-in-search-of-a-problem. Keeping in line with the financial-revolution ethos, Decentralized Finance (DeFi) emerged as the leading use-case for the technology. There are many incredible innovations at the heart of DeFi, including automated market makers and decentralized lending protocols, but while the underlying technology has proved resilient in the face of a market downturn, many of the businesses built on top of it have not.
These businesses lost sight of a material goal and instead fell prey to the “number go up” mindset. TerraLuna, Celsius, Voyager Digital, and Three Arrows Capital promoted ponzi style economic schemes that were always dependent on the next user coming into the ecosystem. This is long-term unsustainable but can go on for quite a while during a bull market fueled with excess liquidity. But when the market flips and leverage is flushed out as we have just seen, the business model or lack thereof is brought to the light, destroying retail capital and deterring institutions from participating. As we enter the first dual crypto and equity bear market since crypto came onto the scene, it is evident now more than ever that the businesses built on top of DeFi need to focus on adding tangible and sustainable value.
Any DeFi product that is to succeed in these new conditions must solve for two fundamental principles: the creation of new value and institutional use cases. Regenerative finance, or ReFi, is uniquely positioned to address both of these.
ReFi is the combination of two distinct disciplines: regenerative economics and decentralized finance. Regenerative economics focuses on a balanced, circulatory flow of capital that integrates both positive and negative externalities while taking care of people and the commons.1 It explores how to design the economy to regenerate what has been lost and conserve what remains while ensuring long-term financial prosperity. Decentralized finance aims to remove opaque, centralized intermediaries to democratize both the access to financial services and the management of the financial system itself.
The existing mechanisms that attempt to create a regenerative economy are not working. Environmental, social, and governance (ESG) measures are broken and don’t align with financial incentives. ESG investments have both statistically underperformed the market and lack transparency, as shown in an HBS study and an investigation into Goldman Sachs ESG funds. In order to harness the rising demand for a new regenerative economy, we need to turn toward emergent technologies like DeFi. Vinay Gupta said it best when he said “crypto wins by solving problems that nobody else can solve, profitably”. This leads to the thesis of ReFi: we can create mechanisms for both ordinary people and corporations that incentivize the regeneration of environments and communities in a way that is palatable to governments and superior to existing non-crypto solutions.
There may be no place better to apply the principles of ReFi than to the voluntary carbon market (VCM). The VCM has been plagued by two key issues: accessibility and quality.
The voluntary carbon market is inaccessible in a number of ways. It is nearly impossible for an individual to get an account at one of the major carbon registry bodies, preventing them from even participating in the market. The market is also illiquid and opaque. Spot prices are not readily available and carbon offset units (COUs) transactions typically happen over the counter through a web of brokers and middlemen. The quality of carbon projects is a hotly contested issue. There are many instances of projects overestimating emissions reductions. The three components of quality carbon offsets, additionality, permanence, and leakage, are notoriously difficult to measure.
ReFi projects have emerged to address these issues. We at Flowcarbon are creating infrastructure to tokenize COUs, allowing anyone to access them and use them across the DeFi ecosystem. Arguably the most interesting use case for tokenized carbon credits is to back stablecoins. This idea was inspired by Charles Eisenstein’s Sacred Economics and has been embraced by both Celo, which has plans to back their stablecoins with 40% natural assets, and MakerDAO. Projects like Open Forest Protocol are working to address the quality issue by incentivizing a distributed network of actors to collect and verify carbon project data. But it is not just outsiders that see the potential of web3 in the carbon market, traditional VCM players do as well. Initiatives by the standards and accreditation programs like Gold Standard and industry group IETA are currently evaluating how registry services can be effectively linked with broader crypto market infrastructure.
One must always return to the critical question when evaluating a ReFi solution (and any crypto solution for that matter): is blockchain needed for these use cases? As Packy McCormick put it “Carbon credits exist already. It might be possible to create a web2 marketplace for farming data and an exchange for credits based on the carbon farmers put back into the ground. Web3 just makes both more efficient, transparent, and composable.” That is what makes ReFi an ideal solution for carbon markets: it can create economic incentives that solve for the most difficult challenges in a critical mechanism for addressing the world’s toughest challenge - climate change.
The carbon market is not the only place where ReFi is taking hold. Kevin Owocki, founder of Gitcoin, has put together a beautiful map of what he calls “impact DAOs”. These DAOs are applying the principles of ReFi to everything from scientific research to education to housing. Not all of these will succeed, but most will at least create some real world value along the way. ReFi is both an embrace of the original principles of crypto and the future of web3. It is what was intended all along and it is what will be used to help humanity create the next generation of financial, environmental and society wealth.