When insurance meets blockchain, an article to understand DeFi insurance

In the traditional financial industry, insurance is one of the most important cornerstones. In more developed financial markets, total insurance assets usually account for about 25%-35% of total financial assets. Compared with traditional insurance, DeFi insurance is also a very broad market.

In the traditional financial industry, insurance is one of the most important cornerstones. In more developed financial markets, total insurance assets usually account for about 25%-35% of total financial assets. Compared with traditional insurance, DeFi insurance is also a very broad market.

At present, DeFi is in the initial stage of development, with an overall market value of nearly 100 billion U.S. dollars, which means that the DeFi insurance market is at the tens of billions level and will grow with the growth of DeFi.

So how does DeFi integrate with insurance? What are its advantages over traditional insurance? What are the pain points and difficulties in the development process? How can DeFi insurance break the circle and escort out-of-chain events?

When insurance meets blockchain

“Blockchain technology is essentially a decentralized, distributed accounting, consensus mechanism database. The best combination scenario with insurance is the blockchain alliance chain, that is, a number of long-term stakeholders in the upper and lower reaches of the insurance industry chain. In the blockchain that participates in the management, each institution runs one or more nodes, and the data in it only allows different institutions in the alliance system to read, write, trade, and intelligently contract.” Ji’an Life Mutual Insurance Co., Ltd. (funding) Yan An, the person-in-charge and secretary-general of China Mutual Insurance and Mutual Aid Guarantee Forum, told Lianxin.

The combination of blockchain and the insurance industry seems to have natural advantages. First, the non-tamperable, open and transparent characteristics of the information on the chain effectively avoid the risk premium in the insurance industry due to information asymmetry; secondly, the application of smart contracts can reduce operating costs and other expenses, and provide policyholders with more competitive insurance Rate.

In particular, it is worth noting that in the DeFi decentralization and trustless environment, the implementation of insurance will be very different from the mainstream financial market.

The full name of DeFi is Decentralized Finance, which means “decentralized finance” or “distributed finance”. As the name suggests, DeFi insurance is “decentralized insurance”, which actually refers to a decentralized protocol used to build an open insurance system, designed to allow everyone to carry out insurance activities anytime, anywhere.

In the mainstream financial market, insurance can be realized in two ways, namely, joint-stock insurance companies and mutual insurance organizations. Among them, the mutual insurance organization has obvious decentralization characteristics, which embodies the characteristics of “common benefit and shared risk”.

Specifically, a mutual insurance organization is an organization formed by policyholders who have protection needs for the same type of risk, and has no shareholders and no equity.

The same decentralized color as mutual insurance organizations is the network mutual assistance that has emerged in recent years. It should be noted that network mutual assistance does not belong to a licensed insurance business organization. It is organized by a network mutual assistance platform. It uses the information matching function of the Internet to realize an innovative mutual assistance model in which members bear each other’s risks and losses. There is a clear color of community autonomy in compensation.

On September 8, 2020, the China Banking and Insurance Regulatory Commission issued the “Illegal Commercial Insurance Activities Analysis and Countermeasures and Suggestions”, which clearly defined the online mutual assistance platform as unlicensed illegal commercial insurance activities. The China Banking and Insurance Regulatory Commission defines the mutual assistance platform as the “four nos” state of no supervisor, no supervision, no standards, and no norms. It also proposed to insist on strict access and licensed operation for all insurance activities, and severely crack down on all kinds of illegal commercial insurance activities. Subsequently, multiple network mutual assistance platforms were shut down.

“In the era of central bank digital currency and stable currency, mainstream mutual insurance organizations and network mutual assistance will be better developed.” Zou Chuanwei, chief economist of Wanxiang Blockchain, believes that the group contracts involved in these two types of insurance activities can be expressed as Smart contract form. Actuarial and insurance loss assessment require a relatively high level of professionalism, so a relatively centralized + community autonomy (such as a jury) approach can be adopted, especially when the subject of insurance is out-of-chain risk. The payment of premiums can directly use smart contracts to perform central bank digital currency and stable currency transfers, which can significantly improve transparency and credibility.

However, in Yan An’s view, DeFi insurance is also subject to the “Insurance Law”. Blockchain is only a technological innovation and technical means. Therefore, logically there is no “outside the law” for insurance, and DeFi insurance is currently in the absence of Supervisory, unsupervised, unstandardized, and unregulated stage.

Huge opportunity and risk still exist

“DeFi insurance has many advantages over traditional financial insurance. For example, DeFi insurance is highly innovative in terms of improving privacy, fairness, asset security, reducing financial costs, and de-trusting. However, currently Defi insurance is still mainly concentrated in the encrypted asset industry. If blockchain technology can be better coupled with the traditional financial industry, with the help of Defi insurance to solve the problems in the traditional insurance industry, its potential and effectiveness are very huge.” Molian Technology Senior researcher Zhou Xinjian told Lianxin.

“The financial nature of blockchain technology has always been one of the topics that everyone is most concerned about. The popularity of DeFi-related industries has once again confirmed this. The audit, settlement, mortgage and other aspects of traditional financial services can all be in decentralized technology. Improve security and operational efficiency. The credit system based on blockchain smart contracts penetrates the financial market and promotes its reform may be one of the future trends.” VeChain chief scientist Zhou Ziheng told Lianxin.

However, as a profit-oriented investment, DeFi insurance is different from common applications such as over-mortgage lending and spot transactions. It requires a more stable credit market and interest rate market. This is for the DeFi that has yet to be perfected in the real-name KYC and credit scoring fields. Ecologically speaking, it is a challenge.

Zhou Ziheng believes that the starting point for technology to change the business format is “business data are all on the chain.” The design of financial products and ecological framework is more suitable for professional institutions, including financial institutions, government agencies, consulting and auditing institutions, etc. “At present, the starting point is not stable, so the timing may be questionable.”

Zou Chuanwei believes that a key to the future development of DeFi insurance lies in whether the subject of DeFi insurance is off-chain risk or intra-chain risk. When the subject of DeFi insurance is off-chain risk, DeFi insurance needs to solve two basic problems: one is that the off-chain risk is denominated in legal currency, but insurance claims use digital assets in the chain, which causes currency mismatch problems; the other is to address the chain. Insurance actuarial calculations and insurance loss determinations for external risks can only be performed outside the chain, so that the relevant results need to be written into the chain through the oracle. When the subject of DeFi insurance is intra-chain risk, the risk coverage needs to be expanded. In addition, although DeFi insurance actuarial and insurance loss determination are technical issues, they require high professional capabilities and will significantly affect the way DeFi insurance is implemented.

“DeFi insurance is still in a very early stage of development, and its system construction and product innovation have just started. Excellent projects in the blockchain industry have never lacked capital to follow.” Zhou Xinjian believes that the current restrictions on the development of DeFi insurance are one aspect Technical factors, on the other hand, are policy factors. The main technical factor is that the openness of the DeFi contract makes the agreement easy to be attacked by hackers; the main policy factor is that the current DeFi insurance is still mainly limited to the assets in the digital asset chain, and the combination with traditional financial assets also requires the dual support of policy and technology.

DeFi insurance is booming

With the continuous upgrade and iteration of the DeFi protocol, the DeFi insurance market is rapidly alternating and gradually taking shape in terms of code quality and business model, supporting the growth of DeFi lock-up volume. At the same time, the DeFi protocol was attacked and caused frequent incidents of property damage.

“Lightning loan attacks, arbitrage, protocol attacks, etc., are affecting the stability of the market and the security of market participants’ assets. While project parties continue to improve the protocol and mechanism security, the insurance sector also urgently needs to participate in the construction of the DeFi Lego ecosystem. , To provide users with a choice of protection methods.” Drey Ng, co-founder and product leader of Linear Finance, a cross-chain synthetic asset agreement, told Lianxin.

The past year was also a year in which various security incidents were not uncommon. Origin Protocol lost 45 million yuan due to reentry attacks, and Balancer lost 3 million yuan due to flash loan attacks. In the face of endless attacks on smart contracts, the importance of insurance becomes more prominent.

With the popularity of DeFi and the continuous participation of investors and speculators, market competition has become more and more fierce, and the test on projects and teams has become more severe.

“In the DeFi insurance ecological chain, DeFi projects actually account for a lot of weight. A good insurance platform will eventually gain the favor of most DeFi projects, to access and establish corresponding insurance policies, and even actively update some codes. Related (such as audit updates) information. This is also the overall improvement of the industry level and positive feedback.” Wu Zhouyu believes that a fair way of claim settlement is also a very important point. Some established projects (such as NXM) have been criticized for the reason. It is their claims mechanism that is too “centralized”.

“The future development of DeFi insurance must have the ability to break the circle and expand the coverage from virtual assets to real assets.” NAOS Finance founder Kevin Tseng told Lianxin that NAOS Finance is building a DeFi lending ecosystem based on real assets. And DeFi insurance will play the most central role in this ecology. “In this DeFi insurance track, the players who can finally run out must be players who can perfectly connect insurance services between virtual and real assets.”

“For a project, if you want to stand out from the many Defi projects, you must first be sufficiently safe and innovative from a technical point of view, be able to differentiate from other projects and be able to solve the pain points of the industry; secondly, the ecological quality, diversity and activity Nature, high quality and rich ecology are the key factors for a virtuous cycle of any project.” Zhou Xinjian, a senior researcher at Molian Technology, said to Lianxin.

Zhou Xinjian believes that a forward-looking leader is the key to whether a project can be at the forefront of the industry, an excellent technical development team is the support for achieving technical feasibility, and the financing and operation team is the blood for the long-term development of the project. Only a team with the above qualities can gain a firm foothold in the fierce competition.”