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Comment by woodruffw | Hacker News Reader

> We let them get into debt they can't repay and then send them to jail instead, but functionally it amounts to the same thing, except for being harder to get out of.

These do not amount to the same thing: one is debt, and the other is an extension of the carceral system.

As best I can tell, cryptocurrencies do not eliminate individual debt. Rather, they provide myriad new ways for ordinary laypeople to leverage themselves into lifetimes of poverty. So it's not clear what this (true!) observation has to do with the conversation.

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I'm no fan of cryptocurrencies, but as far as I know they do avoid debt; while there are e.g. crypto margin loans, if you get margin called and blown out then no-one expects to be able to collect the remainder, much less use the machinery of the state to enforce that.

That's a practical matter: either cryptocurrencies will (in their quest to become actual financial systems) make debt a serious problem for the indebted, or they will continue to be financial "mystery meat."

In other words: they avoid debt because they're not doing real finance. But the entire point of this grand experiment is supposed to be a real financial system, so "it's currently broken" is not a good argument for "it will get better."

Cryptocurrencies "avoid debt" only as much as regular currencies "avoid debt". If I borrow USD from someone, I sign a legal document promising to pay it back in a certain time frame and they give me the full balance of the loan immediately - it has nothing to do with the currency itself. Cryptocurrencies don't somehow stop you from doing the same.

Sure, the point is that there's a system in place that will enforce that debt with (the threat of, and ultimately the reality of) violence. And the more subtle point is that it's impossible for a system without real-time settlement to avoid having debt baked in at a very foundational level, whereas real-time settlement and smart contracts offer hope that an alternative foundation might be possible.

This isn't how lending in the cryptocurrency world works.

Lending protocols rely on overcollateralization of loans instead of contract law. If you want to borrow $100k, you would give over (say) $200k worth of some token that you didn't want to sell. In that example, if the value of that token dropped by 50%, the lender would sell all of your collateral to recoup their $100k, not take you to court or send you to a collection agency.

If on the other hand you eventually return the $100k, you would get your collateral back.

What you are describing seems more akin to option trading in tradfi than loans. The only reason someone would be willing to give 200k worth of collateral for a 100k loan is because they are betting that the 200k worth of crypto will increase in value more than the interest on the dollars they are borrowing.

The use case for almost all individual loans in tradfi is getting a loan for more than you have in collateral.

> The only reason someone would be willing to give 200k worth of collateral for a 100k loan is because they are betting that the 200k worth of crypto will increase in value more than the interest on the dollars they are borrowing.

Well, most of the people who have crypto to borrow against would fit the description of "betting crypto will go up."

Tax implications might also play into the consideration of selling vs taking an overcollateralized loan as well.

> In that example, if the value of that token dropped by 50%, the lender would sell all of your collateral to recoup their $100k, not take you to court or send you to a collection agency.

What do they do if it drops by 90%? You'd still be holding their $100k, on only $20k of collateral.

I don't see how this avoids contract law; overcollateralization has never done so in any economic system in the past, and has historically been a ripe domain for financial fraud (since the incentive is to over-value the collateral).

> What do they do if it drops by 90%? You'd still be holding their $100k, on only $20k of collateral.

I'm not super knowledgeable here, but I expect such protocols would tend to only take the top few most liquid tokens like Bitcoin or Ethereum as collateral to somewhat mitigate this issue. Very low liquidity tokens held as collateral could be subject to manipulation to trigger loan liquidations as well.

This doesn’t meaningfully eliminate the problem; it only moves the risk proportions around. Someone is still losing incredible amounts of money in the form of worthless debt should a crash happen here, and it’s not clear what their recourses are.

Ah, I think I see what you mean now.

The ability to liquidate collateral is the the stand-in for both creditworthiness and the mechanism for recouping their principal. They would have no recourse to recover their funds if a crash were so drastic that they could not meaningfully liquidate collateral.

Pretty sure that is practically and technically wrong because you're only considering one side of the loan. When lending fiat the specific currency does matter - because often the lending institution will often create new units on the spot. We can tell by inspecting a chart of monetary aggregates that someone is creating new units out of nothing. And when financial institutions over-commit sometimes they get bailed out so they have an incentive to take on more risk than is prudent.

Both those operations are somewhere between less likely and impossible with crypto lending. If an institution lends a bitcoin, they had to acquire the bitcoin from someone else first. And if I borrow the bitcoin then forget my keys that bitcoin it isn't going to come back to them without someone else giving up a bitcoin - no matter what the regulators want to happen.

They can only avoid this by not accounting in bitcoin and working in fiat. Or by using pure credit, like what institutions do now where "your money" is actually something like an individual being a bank creditor. But it is much harder both technically and as a matter of incentives to lend crypto.

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