Soulbound token-collateralized loans
Or, how web3 will let us borrow against our childhood memories
There are basically two ways to lend money in tradfi:
Secured: I lend $100 to you. I take something from you worth $150. If you don't pay me back, I sell your $150 thing and get my $100 back. You also have an incentive to pay me, bc you don't want to lose your $150 thing.
Unsecured: I lend $100 to you. If you don't pay me back, everyone will know you are a bad person who doesn't pay your debts, and will stop lending to you in the future. Your credit score will tank. People might not hire you because you're a bad person. You might go to jail.
In the unsecured case, when all these bad things happen to you, I do not get my $100 back! These punishments for things hurt you a lot, without actually getting me my money back. Why punish? Why do something that hurts you if you don't pay, and doesn't actually help me?
The point, of course, is that because you know you are punished by society for not paying back your unsecured debts, this gives you an incentive to actually pay back your debts. The threat of punishment if you don't pay your debts is what makes unsecured lending possible!
Let's think about how this relates to unsecured lending in web3. Unsecured lending is possible when we can punish borrowers if they don't repay, giving them an incentive to repay. Punishing borrowers has thus far been difficult in web3, because borrowers are anonymous! Firstly, you can't really "punish" a web3 wallet effectively if it doesn't pay. Secondly, even if you could punish a wallet, the borrower could just make another wallet, there's nothing tying borrowers to wallets closely.
The potential emergence of web3 identity and soulbound tokens potentially changes this. SBTs tie some notion of identity on wallets. A particular wallet might be marked with things like "diplomas", work records, trophies from various competitions, and so on. SBTs help in unsecured lending by strengthening the link between borrowers and wallet. Once you have a bunch of "badges" you value in a wallet, you "are" your wallet. Borrowing a bunch unsecured, and walking away from your wallet, loses you all the badges you worked hard to get.
Another way to think about this is that, in order to give you incentives to pay an unsecured debt to me, I don't need to be able to take from you something that I value: I just need to be able to take something that you value, to give you an incentive not to default.
It's as if (to give a purposefully black-mirror kind of example) I lent you money, requiring you to pledge your non-digitally-backed-up childhood photos as collateral. I don't actually have any value for your photos, but the fact that I could burn them if you don't pay gives you a strong incentive to repay me!
SBTs can't be transferred, but potentially they can be revoked. You can thus imagine an "SBT revocation"-based unsecured lending protocol, which might work as follows:
Certain "prestigious" SBTs (e-sports trophies, records of achievement, etc.) have a "pledge" function, allowing their holder to pledge them as "security" for debts.
A smart contract checks whether the debt is repaid on time. If not, the pledged SBT is automatically revoked and burned.
So, SBT-collateral lending is basically a smart contract which says: "You should lend to me, because I will put my childhood mementos in a box which is irreversibly programmed to explode if I do not make my loan payments to you."
This mechanism thus allows people with some hard-earned "reputation tokens", to credibly pledge the only visible public symbols of their reputation, to guarantee repayment of their unsecured loans. Nobody else values these, but it's potentially enough that the borrower does.
"Yes but there will always be an on-chain record that this guy won the league tournament in 2053 even if the SBT is burned!" Yes, and it will also be public record that the guy burned the token bc he couldn't meet his payments, which hopefully is a strong incentive to repay!
There's a bunch of unique problems in this form of lending. Collateralized lending is straightforward: you just lend less than what the collateral is worth when resold. For common forms of collateral, you can just look at market prices. In contrast, figuring how much you can lend with SBT collateral requires estimating the private value of an SBT-holder for losing their SBT. This is much harder, and the valuations are likely to vary substantially across individuals. Not an easy problem to solve, but one that is a fairly large part of tradfi, so it seems plausible that defi and web3 will make inroads on this as well.
SBT-based lending is also interesting in that it ties the development of defi to the development of "society" and "identity" in web3. Uncollateralized lending will be possible to the extent that SBTs are valued by their holders. And SBTs will be valued to the extent that web3 is produce compelling and meaningful social experiences, so that badges that live in this world have real monetary value to their holders.
SBT-based uncollateralized lending thus has the potential to produce an interesting "flywheel" dynamic. The development of desoc will facilitate the development of defi and the amount that can be lent uncollateralized. Demand to increase uncollateralized lending from defi may also feed into furthering innovation in desoc, in an interesting new positive feedback loop!
This post inspired by a conversation with Chia-Jeng Yang, and based on this Twitter thread.