Coinbase Predicts a Longer Crypto Winter – Cross-Chain Liquidity Can Save the Day

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2022 was quite a nightmare for the crypto industry. Its market capitalization shrank by almost 60% over the year, going from $2.2 trillion to $797 billion.

The two leading coins by market cap – Bitcoin (BTC) and Ether (ETH) – also went down by 64% and 67%, respectively.

Terra (LUNA) crashed in May. Then the Fed raised interest rates in the US. These factors, among others, rattled the crypto market significantly, putting it into a lull.

And finally, in November, FTX – the third-largest crypto exchange at the time – blew up following severe allegations of misappropriating users’ funds.

FTX’s collapse will have “second-order effects” that might extend the ongoing crypto-winter until the end of 2023, according to a report by Coinbase. Since many institutional investors have their funds stuck in FTX, “poor liquidity conditions” may prevail for some time now.

These claims have substantial merit – but from a single-chain perspective on liquidity. Though several macroeconomic changes are necessary for crypto markets to recover fully, tapping cross-chain liquidity is a crucial means to this end.

Besides offsetting the liquidity crisis caused by the FTX fiasco, it can improve price stability and volume. And with greater ease of access, cross-chain liquidity aggregation can attract retail and institutional investors.

Crypto’s liquidity crisis is bigger than FTX

The collapse of massive players, like FTX, Terra and others, is undoubtedly a significant reason behind the crypto industry’s liquidity crisis.

But to be fair, the problem is bigger and more fundamental than how particular companies conduct their affairs or fail to do so.

To work in the right direction with realistic expectations, stakeholders must call a spade a spade instead of playing the easy blame game.

Therefore, without discounting FTX’s or Terra’s role, it’s important to consider the fragmented architecture that makes crypto projects prone to liquidity crunches.

Liquidity remains locked up in silos across blockchains, staking pools and applications that don’t – or can’t – share resources when required. This causes a tremendous underutilization of the total value invested in crypto-based protocols.

But at a more practical day-to-day level, fragmented liquidity means inefficient price discovery and even slippage for larger trades – an obstacle to institutional participation.

Fragmented liquidity becomes an even greater problem during market downturns when the capital influx is low. This is when routing liquidity across protocols comes in handy – but that’s usually challenging, if not impossible.

Protocols thus get into a vicious cycle of lower liquidity and greater slippage, ultimately losing investors.

So much for the technical issues that innovation solves. But it’s noteworthy that the ongoing liquidity crisis is also due to macroeconomic factors beyond the industry’s control.

The Fed’s interest rate hike is one key aspect here, with terminal rates expected to reach 5.4% by June 2023. Moreover, a recession is also likely in the US. And to make things worse, there’s too much uncertainty regarding crypto regulations worldwide, including in the US, UK and EU.

Make crypto borderless – and boundless

On the outside, crypto has no borders. That’s one of its most significant upsides vis-à-vis traditional asset classes and currencies.

Likewise, therefore, crypto assets must flow freely across chains and protocols. This will unlock the full value and potential of these assets, introducing unforeseen opportunities.

There’s another somewhat moralistic rationale for why the liquidity landscape for crypto mustn’t be siloed. It relates to how value is segregated into exclusive, non-cooperating systems in the internet’s traditional framework.

Giants exercise complete control over isolated resources, maximizing gains via exclusivity while curbing the consumer’s scope.

Crypto as a whole is meant to disrupt unfair business models and practices that undermine the interests of consumers and end-users. Fostering competitive collaboration is essential in this regard.

It’s a journey from financial exclusion to inclusion and must reflect at all levels – from protocol to communities. Thus, platforms must use smart liquidity routing to ensure a seamless experience for retail and institutional users.

Given the current crisis, using smart cross-chain aggregators can help enhance transactions and trades by routing liquidity from multiple sources. This is particularly useful for cross-chain token swaps, where it’s otherwise challenging to gauge the price stability and available volume.

Moreover, blockchain-agnostic aggregation solutions work with all kinds of platforms – DEXs, DeFi protocols, NFT marketplaces, wallets, arbitrage bots and money markets.

Tools like these provide the technical basis for genuinely boundless crypto. Now it’s up to the industry stakeholders to leverage them in overcoming unfavorable market conditions.

Act now, act fast, act wise

Not in an alarmist sense – but rapid and wise action is crucial at this hour. Because rather than waiting for the macroeconomic conditions to improve, or while doing so, one must harness what’s already available.

Now is the time to make cross-chain liquidity sharing the norm.

Doing so will rest the industry upon stabler foundations, enabling more efficient price discovery and less uncertainty regarding volume. Institutional players who conduct larger trades will benefit immensely from this scenario.

This will provide the much-needed incentives to increase their participation in crypto. And naturally, the subsequent ‘rising tide’ effect will also create positive outcomes for retail investors.

Of course, building products during a bear market to solve the industry’s problems from within seems easier said than done. However, innovators can offset this difficulty using intuitive widgets, APIs and SDKs.

Such hassle-free solutions provide a cost-effective and fast way of entering the market – perfect for the current scenario.

From the retail users’ perspective as well, easy-to-use liquidity aggregators make crypto-based financial services more accessible and relevant on a day-to-day basis.

Consumers are more conscious of where they put their money during market downturns. FOMO and hype don’t push them toward rash decisions. So, they are more likely to adopt products that are actually valuable to them and have a wide scope.

Therefore, to conclude, cross-chain liquidity aggregation can strengthen crypto in at least two ways. One, by providing a stabler base. Two, by boosting retail and institutional adoption.

And while Coinbase is right in pointing out the possible consequences of the FTX collapse, it doesn’t fully consider the tools available to overcome the crypto winter sooner rather than later.

Viveik Vivekananthan is the founder and CEO of Swing, a decentralized cross-chain liquidity protocol. Viveik has a background in computer science and experience in the technology industry, including positions at Blackberry and Apple.

Featured Image: Shutterstock/Dr.Roza