A Primer on the Insurability of Decentralized Finance (DeFi)

Abstract

Decentralized Finance (DeFi), a blockchain-based form of alternative financial markets, has been the focus of public attention in recent months. Even though DeFi has a young history, its smart contract ecosystem already offers multiple opportunities for the design and transfer of crypto assets, establishing market structures comparable to traditional financial markets. The landscape of DeFi projects also increasingly includes insurance protocols offering complex risk transfer mechanisms for hedging DeFi risks, above all smart contract risks. In principle, the projects offer the same value proposition as traditional insurance: risk minimization and transfer, and thus an increase in income predictability through the payment of a premium. At the same time, most of those risk transfer protocols are highly dependent on subjective expectations and decentralized governance structures. This article depicts a first taxonomical understanding of DeFi insurance, demarcates DeFi cover products from well-known insurance concepts, and provides an initial assessment of smart contract risk insurability and commercial opportunities for traditional insurers.