Crypto-Native Credit Score: Between Financial Inclusion and Predatory Lending

by Nizan Geslevich Packin* & Yafit Lev-Aretz***

Volume 45 Issue 3

The full text of this article may be downloaded by clicking on the PDF link.

Introduction

Decentralized credit scoring has surfaced as a new approach in the ever-evolving consumer credit space. While drawing parallels to traditional credit scoring, decentralized credit scoring sets itself apart by evaluating the financial activity and behavior of users within the blockchain ecosystem. Blockchain technology has been fueling this transformation and serving as the backbone for a diverse range of financial products and services collectively known as decentralized finance (DeFi). DeFi lending, in particular, has been thriving in recent years. However, the pseudonymous nature of blockchain, coupled with the inherent volatility of cryptoassets, has resulted in the absence of reliable means of risk assessment for DeFi loan processing. Consequently, a common practice of relying on overcollateralized loans has emerged, limiting access to DeFi loans only to those with substantial collateral.

In the face of this challenge, enterprising DeFi lending protocols sought a transformative solution and introduced crypto-native credit scoring. By tapping into blockchain data, crypto-native credit scoring aims to bridge the gap in risk assessment, rendering DeFi lending more robust and inclusive. While decentralized credit scoring has been touted as safer, more trustworthy, and equitable, we find that it may not be as promising as it has been made out to be.

This Article demonstrates how DeFi loans were heavily promoted to the same disadvantaged populations that have experienced exclusion and bias in the traditional finance system and sought out a more equitable alternative. It argues that crypto-native credit models, which currently operate without regulatory oversight and are met with slow regulatory responses, present new fairness, accountability, and transparency harms that have yet to be identified and addressed by legal commentary. These harms include potential predatory practices by DeFi lending protocols requiring borrowers to overcollateralize their loans to build credit history. This Article further underscores the crucial role of the Consumer Financial Protection Bureau in overseeing decentralized credit scores and the involvement of financial influencers. These influencers, which have been operating without much regulatory attention, are increasingly shaping investment choices, particularly among underprivileged and financially excluded populations.

* Nizan Geslevich Packin is a Senior Lecturer at the Haifa University Faculty of Law, a Professor of Law at Baruch College, City University of New York, and an Affiliated Faculty at Indiana University Bloomington’s Program on Governance of the Internet and Cybersecurity. **Yafit Lev Aretz is an Assistant Professor of Law at Baruch College, City University of New York, and an Adjunct Professor at the NYU School of Law. The authors would like to thank the participants at the 2023 Cardozo Law Review Symposium, which was held at the Benjamin N. Cardozo School of Law, and the 2023 GETS conference at University of Arizona Law.