DeFi Loan Providers and NFTs


With the NFT market currently booming, digital art collectors have been eager to use their works as collateral for loans. NFTs are accepted by both CeFi and DeFi lenders, however the process is very different between the two.


No humans


By far, the biggest difference is that when using your NFT as collateral on a DeFi platform, there are no humans to assess your artwork. DeFi platforms are all automated, meaning that there are no humans running things at any stages. There may be programmers and developers who build the infrastructure, but once the system is set up, they take a backseat and let the system run itself.


This is much less of a problem when using cryptocurrency as collateral on a DeFi platform, because the worth of a crypto can be mathematically calculated, but with art it is different. DeFi lending platforms use algorithms to determine the worth of your assets, meaning that if you use your NFT as collateral via this method, then a machine will be calculating its price. It is hard to believe that a computer can truly understand the significance of a piece of art, and yet this is what DeFi lenders try to convince you of.


Keep in mind that, even if a machine algorithmically made your NFT (such as with CryptoKitties or Cryptopunks) that does not mean the machine truly understands its creation. This is a fallacy that DeFi art lenders try to promote. The best way to demonstrate this is by examining our current philosophical ideas on machine learning and AI.


The American Philosopher, John Searle, spent part of his life proving this very point. In his “Chinese Room” thought experiment, he asked people to imagine somebody locked away in a room. Throughout the day, somebody slips paper through the door with specific Chinese characters on them, prompting him to respond. The person in the room has no understanding of Chinese whatsoever, but as he receives more papers he begins to recognise similar characters, and so he responds by writing those characters on a piece of paper and passing them outside the room. This continues for some time, with people passing him Chinese strings of text, and him passing back other strings of text. He never learns what any character actually means, but he does learn certain patterns from them. This leads people outside the room to conclude that he understands Chinese, but they are obviously wrong.


The man in the room has no comprehension of Chinese. What he has learned to do is understand the syntax of Chinese (or the patterns within the language), but he has no understanding of the semantics (or the meaning behind each character).


Syntax, Semantics, and DeFi


The argument here is that while an algorithm may have created an NFT such as a CryptoKitty, they are only following the rules (or the syntax) of their programming and so they have zero understanding of its value on a deeper level (or its semantics). And if the machine that created the NFT has no idea of its real value, then what chance does a separate machine running on a DeFi lending platform have of understanding its value? Some DeFi platforms use algorithms to assess the worth of works like Cryptokitties and Hashmasks, but all they are doing is looking at the syntax of the art, and trying to assign value to that.


It goes without saying that this means DeFi lenders fully miss the point of NFT artworks. This is why it is best to hand your art over to a CeFi lender, because they can actually use their own judgement to understand the semantics of the art. As sentient beings, we all possess the ability to look at a piece of art and truly feel it, and this ability to feel is necessary for attaching a monetary value to it.