Banks, Savings & “Safe” Returns

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Once upon a time, anyone could get 5% and even higher interest on their money in a low-risk way, simply by depositing into a savings account with a bank.

These days, you're lucky to get any interest on your savings. We've even seen negative interest rates being implemented, where you're essentially being charged a fee for having money.

What went wrong?

A Brief History of Banking

In the video, we look at a (very) brief history of money and banking.

Banks have always fulfilled the function of storing wealth and of facilitating transactions. However, in the digital age, we don't need banks for this anymore. We don't need an institution with expensive office buildings all over the world and people working to manually keep a ledger up to date, to be able to send money from one place to another.

Just like we don't need to send hand-written messages across the country on horseback, much of what a bank used to do has been automated, minituarized and replaced by code.

The second role a bank plays in the economy is as a borrower and lender of money. The bank borrows money from all its depositors and lends it out. Lenders pay interest and this is a major source of income for the bank.

Originally, this is where the interest on a savings account comes from: the bank is lending out your money and earning interest on it - it's only fair that you, as the funding source, get some of those profits.

Banks are still using depositors' money to make a profit, but they've cut you out of the deal.

New Opportunities

These days, using a bank is a lousy deal. You quite literally get very little in return for your money. But traditional banks' greed has led to new opportunity. Neo banks have appeared to offer a better deal.

Internet-only banks and services like Wise, Revolut, N26, Venmo and many others have gained a lot of traction in recent years by offering all the banking basics with less friction, lower fees and greater transparency.

These challengers are winning because they offer a simpler, better way to store, send and receive money and they're more honest about their business model.

Replacement for a Savings Account?

Neo banks are rising up to replace your checking account. But just like traditional banks, they don't offer interest on savings.

Meanwhile in the crypto space, challengers are arising that may become the savings accounts of the future. Right now, it is once again possible to participate in the borrowing and lending of money - and to earn some of the fees generated from borrowers.

There are broadly 2 types of solutions:

Custodial Solutions (Centralized)

Coinbase recently announced an account that pays 4% APY (annual percentage yield - the return on your money over one year) on USDC, a US Dollar stablecoin.

Update: Coinbase have since canceled this offer. But there are still many other offers along the same lines available (see below).

The deal is exactly what banks used to offer: your USDC is being lent out at interest and you get a cut of the returns this generates. And at 4%, the returns you get here are literally 400 times higher than on a typical savings account with 0.01% interest...

Other companies that offer something similar include Nexo, Celsius, BlockFi and SwissBorg.

Note about false-ish advertising: many of these lending platforms advertise interest rates of 10% and above. A closer look usually reveals that true interest rates aren't that high. For example, on Nexo, you only get the highest interest rates if you own a certain amount of Nexo tokens, you lock your deposited money up for long periods of time and you choose to get paid in Nexo tokens instead of the currency you deposited...

True interest rates are usually well below 10%, but that's still a good deal.

Solution 2: Decentralized Solutions

Remember how blockchain technology allows us to cut out the middle man? This is where decentralized finance (Defi) comes in.

Aave, C.R.E.A.M., Compound and many others are fully decentralized systems that enable peer-to-peer borrowing and lending. You can deposit crypto and stablecoins, which are made available for borrowers. Borrowers pay a fee and lenders earn this fee.

The entire thing is governed by code and the interest rates on both sides (borrowing and lending) are based on supply and demand. It is a true, free lending market.

Another earning opportunity in the space is to be a liquidity provider for decentralized exchanges. Curve, Uniswap, Sushiswap, Balancer and many other solutions have grown rapidly in user numbers. These allow you to deposit crypto assets into liquidity pools. Liquidity pools enable exchanges between currencies and as a liquidity provider, you earn a portion of the fees generated.

This is also fully decentralized and trustless.

Aave logo and Uniswap logo

These may look cute to you, but they're your traditional bank's worst nightmare...

Risks

These new developments are exciting, but of course they are not risk free.

When using a decentralized solution, you are acting as your own bank. As we've covered previously, there are many advantages to this, but it's part of hard mode. You need to know what you're doing, before you dive into this.

Also, if you get into liquidity providing, make sure you understand impermanent loss.

With centralized solutions, there is less risk, but things could still go wrong. Among smaller companies (Nexo, Celsius, SwissBorg etc.) we'll have to see which ones make it in the long run and which go bust along the way. If you deposit your money with a company that gets into financial trouble, there may be some risk of loss there. Plus, there's always the problem of trust: you are trusting these institutions with your crypto and some of them may not be trustworthy.

With something like Coinbase, I think there is less risk, but maybe they'll be forced to lower their interest rates or even have their interest accounts regulated out of existence. We'll have to see how this shakes out.

The Future of Savings Accounts?

With all this uncertainty also comes opporuntity, though. It's possible that solutions that are brand new now will become the new norm in a few years time.

Who knows, a decade from now, maybe it will seem strange not to put your money into an interest-bearing crypto account. And if that's the case, you'll benefit from being one of the early adopters.

And as always, I think it's valuable to be a participant rather than just an observer. Take a look at these different solutions and allocate a small amount (a tiny amount that you don't mind losing). See what it's like to use one of these products and get involved.

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