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Ep 31: The Impact of Blockchain and AI on the EU’s Financial Landscape
114 Plays5 months ago
Dimitrios Psarrakis (Financial Economist and co-founder of Value Verse) provides expert insights on blockchain regulation and its implications for financial competitiveness in the EU. He explores the intersection of blockchain, AI, and financial innovation, emphasizing the importance of education and collaboration in shaping the future of finance.
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Transcript
Introduction to Hootenanny Podcast
00:00:06
Speaker
Hello and welcome to this Owl Explains Hootenanny, our podcast series where you can wise up on blockchain and web3 as we talk to the people seeking to build a better internet. Owl Explains is powered by Avalabs, a blockchain software company and participant in the avalanche ecosystem. My name is Silvia Sanchez, project manager of Owl Explains and with that I'll hand it over to today's amazing speakers.
Dimitris Psarakis on Finance and Blockchain
00:00:34
Speaker
Hi, everybody. Our guest today is Dimitris Psarakis, a financial economist with 20 years of experience in corporate finance, banking, and financial regulation. He was an economic and monetary policy specialist at the European Parliament where he worked on the drafting of the digital finance files of the EU.
00:00:51
Speaker
Dimitris was the draftsperson of the blockchain resolution of the European Parliament that set the framework of regulating DLTs in the EU, and also worked on the amending of the MICA regulation. He was ranked among the 100 top world influencers in the area of BragTech and Blockchain, and is the co-founder of Valueverse, a boutique consulting firm headquartered in Brussels, which supports the tokenization of real and financial assets, providing advice on the financial economics of tokens and regulatory strategy.
EU Financial System Competitiveness
00:01:21
Speaker
Today, he is joining us in our Owl Explains Houtanani to talk about the competitiveness of the financial system and the EU through the lens of blockchain and AI. So welcome, Dimitris. We're so glad to have you here. Thank you very much for having me here with you. We are just before the European elections, and we expect a significant impact on the future of competitiveness of the financial system. So our conversation today is really topical.
00:01:49
Speaker
Absolutely. And in fact, we're going to get started with tokenization as we cover all of this intersection because tokenization is a concept that spans various sectors. So how do you see the regulatory landscape adapting to ensure the integrity and trustworthiness of tokenized assets over the long term?
00:02:06
Speaker
Sure. Obviously, this revolutionary innovation of tokenization comes in not a socioeconomic or a political vacuum. We are in a moment where traditional financial vehicles do not perform as well as they used to perform in the past.
00:02:29
Speaker
If you make a survey in the financial sector, you see that everybody believes that equity prices are very, very high. And when the price is high, then the return is expected to be very low. Everybody believes that we are entering in a world of higher inflation compared to the inflation we had in the past 30, 40 years. And if you run surveys, you see that people do not expect high returns in the coming years.
The Future of Finance with Blockchain and AI
00:02:58
Speaker
Overall, this is expected to affect the way people invest and save, because practically, finance has the magic of compounding to ensure that we are going to have pensions after we are 65, and we are also expecting to have longer lives.
00:03:15
Speaker
So the sustainability of our investments and our savings will determine the quality of our life. I believe that the financial system reached a point of performance and now is entering into a new era where blockchain and artificial intelligence are going to boost.
00:03:34
Speaker
the way we are doing finance. And obviously, the main providers of this service, which is banks, financial institutions, as well as newcomers, people from crypto exchanges, and why not DeFi, are expecting to play their own role into this new era.
00:03:57
Speaker
Now, are we ready for this new era? Do we have in place the understanding we need in order to move forward with this innovation? So this is a major question and there are no clear answers.
00:04:14
Speaker
Very good point. And it's so true what you mentioned earlier that sustainability will determine the quality of our life. And I think that's the whole conversation we need to continue having. But now let's focus on the innovation aspect. With your extensive background in financial regulation, could you highlight some key challenges that the EU faces in fostering innovation while ensuring a secure and competitive financial environment? Absolutely. So let's start from the
00:04:42
Speaker
early days when the European Union had to decide how to respond to this tokenization wave that was coming.
MICA's Impact on EU Innovation
00:04:50
Speaker
We had two options, either to build a regulation about tokens in general,
00:04:58
Speaker
or to use the very traditional approach of segmenting the tokens based on the utility, so financial tokens could be regulated under the financial regulations, payment tokens under the payment regulations, utility tokens as utility tokens, and so on and so forth.
00:05:19
Speaker
I always say that regulators are lazy and instead of doing the correct choice and focus on a holistic tokenization regulation,
00:05:31
Speaker
We followed the traditional path of putting everything in the old boxes. I was always very critical to this approach because you cannot necessarily fit new instruments into old boxes. However, this is the decision the European Union has made and you know Mika very well. So Mika regulates things that were not part of the financial framework before.
00:05:58
Speaker
The innovation of Mika is that includes a category of tokens called other tokens in lack of a better name. Tokens that are not payment instruments and tokens that are not stores of value or payments that are not
00:06:15
Speaker
payment instruments into the scope of the regulatory framework. These are the utility tokens plus. And this is a little bit unfortunate because all the utility tokens fall under financial regulation. This is not necessarily stimulating innovation in this space.
00:06:39
Speaker
Obviously European Union had to develop a dedicated token framework for e-money tokens. These e-money tokens fall under the e-money directive and they are qualified as funds. This is very, very useful if we want to take into consideration that at some point we need to settle financial transactions on chain. So this solves the problem of the last leg.
Readiness for Financial Transformation
00:07:05
Speaker
for settling financial transactions. However, the following regulations for payment services regulation, the Payment Service Directive 3 that we recently introduced, generate a lot of concern because it seems that what we have in our mind as e-money instrument does not necessarily technologically fit with the performance of e-money tokens. We expect to have some problems over there.
00:07:32
Speaker
We have the asset reference tokens. This is a kind of token that looks like Libra or tokens that are denominated in real assets or commodities. And we have the traditional financial instruments and we have decided that these are method instruments so we don't really need to make brand new regulations. Well,
00:08:00
Speaker
I feel that this is not a correct approach because when we built Mythit, we didn't have tokens in our mind. Also, when we introduced a wide range of other regulations that support Mythit, again, we didn't have, in our mind, the tokenization of assets. So even in this very straightforward environment of financial instruments, I see huge challenges
00:08:29
Speaker
that will come in sister regulations to MiFIT, like, for example, the market abuse directive, the prospectus directive, the listing directive, the shareholders directive, all these need to change to the extent that will allow a massive tokenization of financial instruments.
00:08:51
Speaker
which is not expected to be very, very fast and sharp in the coming three or four or five years. But in five years' time, we need to be ready for this transformative moment of
Blockchain's Potential in Financial Systems
00:09:03
Speaker
finance. Because in the end of the day, the assets are of two kinds only, on-chain and off-chain. And the expectation is that assets of chain are going to be traded in discount. And this is something that the insurance of tokens do not really want to face.
00:09:20
Speaker
Good to know. So particularly in the EU, what should we be on the lookout for, as you were mentioning, that transformative moment of finance and that growth of adoption later on? Well, first and foremost, we need to understand the economic utility. So the promise of blockchain is that it can reduce significantly the costs.
00:09:43
Speaker
meaning transaction costs, verification costs, all the costs that the promise of blockchain came to reduce and has in its hypothesis. However, a significant part of expanding the value proposition of the new asset does not come from cost reduction as blockchain people usually emphasize.
00:10:05
Speaker
There is another dimension which is about the shifting of the demand curve to the right. This is all benefits coming from network effects. These network effects are expected to improve the way we are allowing people who are not now in the market to get into the market. We remove significant frictions from the
00:10:31
Speaker
value chain of finance, which is issuance, trading, clearing, and settlement. And we also expect a much easier adjustment of the price of the cost of the transactions in a way that people will feel comfortable to trade even
00:10:52
Speaker
So if you drive liquidity costs down, you expect both the volume of the transactions to increase and the price to improve. This is what shifts the demand curve to the right. And this is actually where the competitiveness of a future financial system lies.
00:11:09
Speaker
So, number one, if we are actually tokenizing a financial instrument or a real world asset, how much will improve its liquidity? What is the econometric model we need to put in place in order to make a calculation that is going to inform a business model?
00:11:26
Speaker
Unfortunately, we don't have the same place yet, and the vast majority of the projects we have seen out there, coming mainly from major banks, are rather architectures to experiment with the idea of tokenization of financial instruments, but not practically to build business cases around this.
00:11:46
Speaker
So, we need not necessarily new economics, we need to put effort in calculating the economic benefit and build economically sound business cases. This is the one side of the story, which is the market side of the story. The other side of the story is about the regulators, the policymakers. Do they understand the significance of tokenization of value?
00:12:11
Speaker
in a way that will move them to make significant adjustments to the regulator environment in the coming years.
EU Financial Growth and Policy Optimism
00:12:20
Speaker
Do they understand that tokenization is the future of the financial services, competitiveness of the European Union of the future?
00:12:29
Speaker
I'm afraid not. And this is not because the people are just risk averse. It's because they don't understand from where the economic value comes. And if you see the narrative of the lawmakers of the European Union, this is very, very shy, if I may.
00:12:52
Speaker
When we are talking about the future of competitiveness of the financial system, they say, okay, let's improve the insolvency law of the European Union. Or let's build safer financial instruments. Building safer financial instruments will not give you better financial outcomes. Building less complex financial instruments will not necessarily create better engineered financial instruments.
00:13:21
Speaker
The more safety you have, the higher the expectation that you will not have growth.
00:13:29
Speaker
So we need to associate the idea of growth with the idea of a calculated risk-taking. And this is not in the narrative of the European Union regulators, at least for the time being. So I'm really concerned, but I'm looking forward to see how the new European Parliament that will come in July and the new commission we will put in place will understand that
00:13:59
Speaker
growth comes with risk taking. And I'm not very confident so far. Hopefully, I'm an optimist. And so hopefully, I hope that we are going to have a better outcome in July.
00:14:17
Speaker
policy-wise. Indeed. And it's crucial definitely to understand where the economic value comes from as well as that calculated risk-taking aspect. But now let's switch a little bit more into AI in conjunction with blockchain because it's quite evident that blockchain and AI have the potential to reshape the traditional business models and looking at the broader picture
00:14:40
Speaker
How do you envision blockchain contributing to the competitiveness of the financial system in the EU, particularly in conjunction with artificial intelligence? Well, first of all, I'm going to agree with you on the basic principle that blockchain by itself means nothing if it's not coupled with other technologies as well. So the very idea, for example, in the financial sector of smart assets
00:15:08
Speaker
It's about assets that are financial instruments or real world assets or other assets that blend the benefits of tokenization with smart contracts and oracles and databases and artificial intelligence and generate what we call smart assets.
00:15:31
Speaker
On the other side, it allows us to control the exposure in our liability side of the balance sheet. So if a smart asset is an information sensitive asset that requires tokenization and artificial intelligence to generate something that we couldn't have before, then blending the two is of paramount importance. Also, on the
00:15:57
Speaker
Passive side of the balance sheet, which is the liability side, you don't really want much information sensitive liabilities. You want dumb liabilities, smart assets and dumb liabilities. Again, artificial intelligence and tokenization can be blend together in order to control the information flows on your liability side. By doing so, you immediately liberate crucial, regulate capital,
00:16:33
Speaker
other productive projects. So to me, it's not about having smart assets through the blend of tokenization and artificial intelligence and downplay abilities or getting the benefits of improving the performance of the asset. It's about a new constellation of activities that will emerge for the banking sector to perform
00:16:50
Speaker
to be used in other productive
00:17:01
Speaker
boring activities in a completely different and very productive way. So this is the one part of the blending of AI and tokenization in the level of
AI's Role in Financial Automation
00:17:13
Speaker
assets. It's also on the level of the performance of activities, which is about adjustment of portfolios. It's about performing automatically functions that create products and services for the consumers, for their pension funds, for their savings, etc.
00:17:31
Speaker
So, this is something that requires, again, some sort of certainty that the European Union tries to put in place. It's a little bit sporadic. I mean, we had recently the Artificial Intelligence Act from the European Union, which is a very good first step. However, the moment we
00:17:55
Speaker
As long as we don't operationalize what we create and we don't understand the new emerging business models that come out of this, I don't think that we are going to have soon the benefits of the economic use of artificial intelligence. So what we can do? We can invest money, public sector money, into artificial intelligence projects.
00:18:22
Speaker
or blending projects. European Union already does this. However, putting money in these technologies and creating a regulatory landscape does not have a direct causal relationship with the improvement of the competitiveness of the financial system.
EU vs. Global Regulatory Strategies
00:18:43
Speaker
We need people to take risks and not to be afraid for taking risks. So we need again a regulatory framework that will allow innovative compositions and architectures of digital technologies to take place in the European Union and we are not there yet.
00:19:02
Speaker
No, and it's definitely true. They should definitely blend together. You mentioned the market and the regulatory side. Could you elaborate a bit more on the concept of equivalence measures and blockchain regulation? Equivalence is a no-go word in the European Union. For example, MICA regulation came without equivalence articles over there, and this happened for two reasons. Reason number one,
00:19:32
Speaker
because we don't have the manpower to monitor the equivalence. Reason number two, because equivalence measures have to be evaluated, re-evaluated every three or five years, we don't want to put labor into this area. And reason number three, that is in the parentheses,
00:19:57
Speaker
you understand very well the geopolitical framework we have over there. On the one hand, establishing equivalence with Switzerland and the UK has significant political ramifications that we don't necessarily want to take as European Union. And on the other hand, talking about the United States, European Union has expressed its willingness to lead.
00:20:21
Speaker
which means that we need to establish a competitive regulatory advantage, which we want to keep it for ourselves. Now, does the European Union regulation have the so-called Brussels effect?
00:20:40
Speaker
making others replicating and improving. I think, yes, we see it already in the UK. And despite the fact that we will never have an equivalence regime with the UK, unless UK comes back to the European Union, the
00:21:00
Speaker
the proximity of the two regimes are going to be extremely helpful for the entrepreneurs because they will not need to amend significantly their business model in order to get into the European market, or the opposite, a European business into the UK market.
00:21:17
Speaker
And I cannot comment on the regulatory performance of our friends from the United States. They are already on the way to build something over there. Hopefully after the presidential elections, this will
00:21:33
Speaker
generate traction because we reached the point that the ecosystem in the United States cannot be unregulated anymore. Very good point. And I wanted to stop a little bit on those good first principles for blockchain and AI regulation and also to dispel some myths along the way if we can, because so often we hear this harmonization or just this word. Why should we not really focus so much on
00:22:00
Speaker
harmonization, but opt for coordination. What do you have to say about that?
00:22:09
Speaker
Building on the conversation we had about the equivalence, we cannot be really equivalent, ever. Plus, we are carrying with us 200, 300 years of civil law that determines how we run our financial systems. European Union is a union of 50 years old, and still we don't have a uniform definition of what is security.
00:22:34
Speaker
we have 27 different definitions. So if in the European Union we cannot achieve the conformity we would like to have, how we can actually achieve it in a global level. What I think is that
00:22:55
Speaker
Getting to the basic principles. We need to have similar principles if not equivalent principles and Building principles is more or less easier than building regulations We are
00:23:12
Speaker
In the European Union and the United States, and in the UK for that matter, we all agree that technological neutrality is the principle that we need to follow. But technological neutrality in its practice does not exist. There are always idiosyncratic characteristics that violate the principle, and also the riskiness of different technological options mean that we cannot be technologically neutral 100%.
00:23:39
Speaker
Moreover, talking about technological neutrality without talking at the same time about business model neutrality
00:23:48
Speaker
generates a lot of confusion. So you cannot favor one business model, traditional legacy business model over a innovative one, and then say, ah, okay, I discriminated on the business model, but in the end of the day, I'm technology neutral. This is not a fair treatment of the market. And it's not fair treatment for the innovative innovation ecosystem of any country.
Educational Needs in Blockchain and AI
00:24:14
Speaker
Now, having two principles in place, technological neutrality and business model neutrality, and the common understanding that consumer protection is very important, investor protection is very important, technological resilience is very, very important, we have established a framework. And this framework does not necessarily need to be harmonized.
00:24:38
Speaker
We need a coordination based on those principles. And if you want a better word than the word coordination, then extended coordination will be very, very helpful. Because in the end of the day, what we regulate in the provincial regime of any regulation, we regulate a business model, an operational model, and a profitability model.
00:25:00
Speaker
The business model is about how we create value, the operational model is how we deliver value, and the profitability model is how we capture value. This is universal at least in the Western capitalist world. I don't think that having a consensus about these three basics, we can fail to have an extended coordination among the different jurisdictions of the West at least.
00:25:30
Speaker
Thank you, Dimitri. That's super helpful, that thing you said about the principles. Instead of scrutinizing so much about having that equivalency or that harmonization, just keeping it down to the principles can lead to much better outcomes. And I think that a really big component of this is education in general. So what role do you see education playing in shaping the future of blockchain and AI regulation, both among policymakers, but also the broader public? Well,
00:26:01
Speaker
Education can mean different things to different people. We can have a wider approach to education or a narrow approach to education. I will use the word education here in the context of useful knowledge. So, what means useful knowledge in this setting? It means that people understand the basics of what they buy.
00:26:29
Speaker
People understand what kind of risks they get by buying an instrument which is innovative. What kind of risks they get.
00:26:42
Speaker
what kind of economic performance they should expect, what is the payment structure of what they are buying, what economic factors affect their decision, and how they disentangle herself from this purchase if they change their mind.
Entrepreneurs Navigating EU Regulations
00:27:03
Speaker
Simple as that. I will not go to the very technical analytics of understanding how blockchain or artificial intelligence work. For the same reason we don't really know how internet works and we use it very efficiently, for the same reason we don't really need to know how blockchain settles transactions and the consensus mechanisms and all this complicated stuff. What we need to know is
00:27:33
Speaker
what kind of risks we assume getting into this environment. And these four or five elements that I described earlier I think are enough. Now, who has a responsibility to educate the people? First of all, the people they serve. Before getting into this trouble of getting something they never saw before, they need to make their own utilities.
00:27:58
Speaker
Second, we have the schools and the sources out there that people need to go and get feedback about what they are doing. And also we have the regulator who needs to explain
00:28:17
Speaker
to make sure that the providers of those innovative instruments follow basic rules and they provide the flow of information that the consumers need in order to make informed decisions.
00:28:31
Speaker
I love that. Useful knowledge. I think that's a great way to describe it, regardless of the position that each of us may find themselves in. And just changing the perspective a little bit, what advice do you have for entrepreneurs and businesses, so the people on the other side of the spectrum, navigating the regulatory landscape in the EU as they're exploring opportunities within the blockchain and artificial intelligence space?
00:28:56
Speaker
Well, the very old advice of mommy and daddy, I think, works very well. So don't cheat, don't lie, and for everything else, have a good lawyer.
Focusing on Market Problems for Innovation
00:29:11
Speaker
Now, from a very, very practical point of view, you have a regulatory framework in the European Union that requires you to have legal advice out there. It's unfortunate that we see so many views about the complexity of the regulation and so low understanding of how much troublesome this regulation is. Again,
00:29:41
Speaker
the standard practice. Every entrepreneur has a business operational profitability model. They need to identify immediately the touch points of those promises with the regulation. They need to check how far they are from practically violating the regulation and then make the necessary adjustments.
00:30:07
Speaker
As an exercise is not complicated, but it's very simple, but even the simplest things in the entrepreneurial and legal environment are so difficult to be delivered. Of course, of course, and nothing can be underestimated, particularly on this space. So, Demetrius, as we come to the close of our conversation, do you have any concluding remarks you'd like to leave the audience with?
00:30:34
Speaker
Well, I believe that the success or failure of a innovative ecosystem depends on the way the
00:30:47
Speaker
the entrepreneurs, the established companies, the regulatory authorities, and the financial institutions that support entrepreneurship work efficiently well together. The European Union ecosystem is not the best ecosystem in the world, but it's not the worst at the same time.
00:31:06
Speaker
I believe that you can use, if you are an entrepreneur, the space of the European Union to do innovative and great things, but start always with the problem you want to solve, a problem of the market.
00:31:23
Speaker
not a problem of technology. And this is something that is consistently a major problem for commercializing innovation in the European Union. Our entrepreneurs want to solve the problem they want to solve instead of the problem of the market.
00:31:38
Speaker
So with this word of advice, focus on a real market problem and build your application about solving this problem. In the European Union, you are going to have a wonderful entrepreneurial life and hopefully a prosperous life. This is my last point.
00:32:01
Speaker
Amazing. Thank you, Dimitris. And as we wrap up our conversation, it's clear that blockchain and AI are paving the way for a dynamic future in the EU and beyond. So once again, many thanks, Dimitris, for sharing your expertise and inspiring us to embrace the transformative power of this technology coupled with finance and with good regulation. So thank you for joining us on the Owl Explains podcast.
00:32:27
Speaker
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