Author: a16z Crypto

Translator: Jiahuan, ChainCatcher

In the cryptocurrency industry, there is a vision of the future that has almost become standard: DeFi and TradFi moving towards integration, permissionless liquidity meeting institutional distribution capabilities, ultimately giving birth to an elegant hybrid that inherits the strengths of both, with the new system replacing the old one.

This narrative sounds reassuring, but it is essentially wrong.

A more honest version is: as long as blockchain can help existing businesses perform better, traditional finance will adopt it. Not because they embrace decentralization, but because the cost-benefit analysis works out. This technology happens to compress costs, improve settlement, expand distribution, and allows institutions to tighten control over customer relationships.

This means that institutions are not "integrating" with DeFi. They are merely picking parts of DeFi that align with their operational constraints, discarding parts that do not, and then reassembling according to institutional requirements. The end product will neither resemble traditional finance nor today’s DeFi. We are witnessing the emergence of a new category: programmable financial infrastructure optimized for institutional constraints, running on blockchain rails.

As regulatory frameworks mature, this pattern may change. Legislation like the CLARITY Act may eventually make it easier for institutions to directly access permissionless systems. However, no matter how open the legal environment becomes, the risk appetite of traditional finance will not reset overnight. Institutions always evaluate technology based on costs, risks, control, and operational fit. Thus, there are two opportunities in front of the industry, not one.

The first opportunity is to help institutions use infrastructure they are already ready to accept today. Every time an institution adopts a component, whether it's atomic settlement, programmable currency, or tokenized collateral, it is validating the technology, refining the shared rails, and bringing real transaction volume and capital onto the chain.

The second opportunity is to continue building an open, crypto-native financial system that institutions are not yet ready to use.

These two paths are not mutually exclusive. They can co-exist and, if done well, can mutually enhance each other. Open networks will continuously produce new components, markets, and innovations, which institutions will ultimately adopt. If both sides succeed, integration will happen naturally: not one side absorbing the other, but both increasingly relying on the same underlying infrastructure.

What Traditional Finance is Really Doing

When traditional finance adopts a component, it needs to meet two conditions: first, it must improve costs, risks, or distribution; second, it must not undermine control and accountability mechanisms. Components discarded by institutions, such as open access, anonymity, and immutable execution, can pass the first hurdle but not the second.

Thus, the adoption model of institutions is predictable, not random, and entrepreneurs can treat it as a design test. In other words, if the value of a function can only be realized by depriving institutions of control, then no matter how cleverly it’s designed, it is almost destined to be re-engineered or rejected.

Let’s run a few components through this test. Atomic settlement eliminates the time gap between transaction and final settlement, mitigates counterparty risk, and frees up collateral that institutions held against unsettled trades. Shared ledgers turn the largest hidden cost in the back office, which is reconciliation, into a trivial task.

Programmable currency allows interest payments, margin calls, and corporate actions to be automatically executed in code, no longer relying on a series of manual instructions. After shedding its permissionless shell, the mathematics of AMMs transforms into a pricing engine for on-chain foreign exchange and tokenized money market fund net asset values.

Each of these components can improve some numbers on the profit and loss statement or eliminate an operational risk and its cost, but none require institutions to believe in decentralization.

So let’s be clear: JPMorgan's permissioned chain for institutional deposits, BlackRock's and Franklin Templeton's tokenized money market funds, these projects are not enterprises testing the waters of DeFi. They are using blockchain to do what they were already doing, such as interbank payment settlements, fund subscription management, and the distribution of interest-bearing instruments, only through a better pipeline.

These deployments leverage the technical attributes of blockchain: programmability, transparency, atomic settlement. At the same time, they deliberately discard the attributes that allow native DeFi to function: open access, anonymity, and trustless execution.

This is neither a failure nor a compromise. It is a well-considered architectural choice, and it clearly tells us which direction things are heading.

Different Buyers, Different Rules

If one thinks that institutional adoption is merely about opening up a larger distribution channel for existing DeFi infrastructure, then that is mistaken. Institutions evaluate protocols in a completely different way than crypto-native users. For institutions, this is about selecting software vendors and infrastructure partners, considering operational risks, compliance controls, and long-term ownership of key systems, all proceeding according to their standard processes. The result is that success in DeFi does not automatically translate into success in the institutional market.

Enterprises rarely purchase the best technology. They buy technology that fits their existing workflows, risk models, procurement processes, and other practical conditions.

Any technology entering a heavily regulated, heavily risk-controlled, responsibility-averse institutional environment will be reshaped by that environment. The internet went through this (corporate firewalls, intranets), cloud computing went through this (private clouds, VPCs, FedRAMP certification), and AI is currently experiencing this (on-premises deployment, data residency requirements, model governance). Blockchain will be no exception.

This reshaping unfolds along two axes:

The first axis is compliance. KYC, anti-money laundering, sanction screening, investor qualification, regulatory reporting — these are non-negotiable for the vast majority of institutions. Permissionless systems naturally do not support these requirements. Institutions need the capability to freeze assets, revoke transactions, and identify counterparties.

DeFi was not designed with these considerations in mind; meeting them often means a major overhaul of the architecture. This may change in the future, as legislation like the CLARITY Act might allow institutions to access permissionless systems while meeting regulatory requirements. But today, most institutions evaluating blockchain infrastructure still focus on control, accountability, and operational risks.

The second axis is enterprise value delivery. This axis is often underestimated. Institutions adopt blockchain not because they believe in permissionless principles, but because it can compress costs, reduce reconciliation friction, open up new distribution channels, or embed them deeper into customer relationships. The value proposition must be articulated in this language; otherwise, it won’t even pass the procurement phase.

Stablecoins might be the clearest example. Banks, payment companies, and fintech firms increasingly see it as a useful settlement infrastructure because it allows dollars to move across networks and geographies more quickly. But very few genuinely embrace the concept of permissionless finance. They adopt programmable dollars because they are useful, not because they want to rebuild the financial system according to DeFi principles.

The evolution of Circle exemplifies this issue. Its launch of the Arc network reflects how blockchain infrastructure is being packaged and sold to institutional buyers: emphasizing compliance, operational control, trusted counterparties, and integration with existing workflows, rather than permissionless access and composability.

It sells not permissionless access itself but faster settlements, global reach, and higher capital efficiency, delivered in a form that institutions can actually use.

Even organizations like SWIFT are increasingly viewing blockchain from this perspective. Its various attempts at asset token interoperability are not aimed at displacing existing financial institutions but enabling them to collaborate better through the SWIFT network. The same pattern recurs: the adoption of blockchain reinforces existing financial networks rather than replacing them.

This is how powerful technology evolves when it meets a large, mature market.

The Two Opportunities Facing Entrepreneurs

From an industry perspective, abandoning one of the opportunities in favor of pursuing the other is a mistake. From a company perspective, trying to grasp both is also a mistake.

Institutional adoption and open networks can mutually enhance each other on an ecosystem level, but for the vast majority of teams, these are fundamentally different businesses. Doing institutional business requires understanding procurement, compliance, internal controls, channel partnerships, and lengthy sales cycles. Building open networks requires optimizing around developers, liquidity, composability, and network effects.

Who the customers are, how distribution works, what products must meet, and how success is measured can often be completely different on either side.

This does not imply that one opportunity is better than the other. It simply requires founders to clarify which market they are serving while remembering that the underlying common rail connects both: a public chain as a neutral settlement layer.

Collaborating with institutions does not conflict with building a parallel financial system. If done well, both can amplify each other’s value. The permissioned layer brings transaction volume, legitimacy, and capital, while the open layer continues to produce components that the permissioned layer will adopt next. If integration comes, it will occur at the rail level, rather than through one side surrendering to the other.

The position of public chains as settlement rails may become increasingly important, even if the applications running on them become more permissioned.

Building for Programmable Financial Infrastructure

To build this new programmable financial infrastructure, there are two paths: building from scratch or transforming existing products.

Let’s first look at networks like Canton. It does not try to restructure existing DeFi infrastructure but is designed from the ground up around institutions' requirements for privacy, compliance, and controlled interoperability. Its goal is not to drag banks into DeFi but to use blockchain-based collaborative mechanisms while preserving the governance, confidentiality, and operational control required by institutions.

However, successful institutional strategies do not necessarily have to start from scratch. Morpho takes the opposite approach. It does not abandon its DeFi components but focuses on making those components easier for institutions and asset issuers to use.

For instance, Apollo's ACRED fund incorporates Morpho into its on-chain lending strategy, merging a DeFi-native lending component with institutional-grade distribution, compliance, and fund structure.

The final form is neither pure DeFi nor a completely isolated institutional tech stack but rather a model where institutions selectively adopt existing crypto infrastructure and then repackage it according to their requirements for control, compliance, and distribution.

This new category is purpose-built for institutional constraints. It draws nourishment from DeFi but operates in a more permissioned and compliant manner, hence it is inherently different from anything that exists today.

Teams like Morpho that successfully transform crypto-native infrastructure into institutional use cases do exist, but entrepreneurs should not take this as the default approach. Institutions represent a distinct customer group with unique needs. In many cases, designing around those needs from the outset will be more effective than transforming products originally built for open networks.

The Opportunity to Continue Building in DeFi

The innovations that institutions are adopting today did not originate from banks, asset management firms, or existing financial infrastructures. They all come from open networks, from places where entrepreneurs can freely experiment with new market structures, collaborative mechanisms, and financial components.

This distinction is important. Institutions are not the primary source of innovation in this industry; the permissioned layer often lies downstream of the open layer.

This leads to a more critical strategic judgment: if the whole industry focuses on selling to banks and asset management firms, we might misinterpret a large customer group as the entire opportunity. TradFi is an important customer, but it is not the only customer.

Designing for institutional needs is a legitimate and valuable path, but it is only one lane, not the whole highway. Companies that thrive long-term will be those that clearly understand who they are building for. Institutional adoption may represent a massive opportunity, but it is not a simple extension of DeFi. Success in one market does not guarantee success in another.

If you are building for institutions, then commit fully. Do not assume that achievements in the crypto-native market will automatically lead to enterprise customers adopting your products. Understand the customers, grasp the procurement process, and consciously design around institutional needs.

If you are building for open networks, then keep going. Do not abandon your vision just because institutions are the loudest buyers in the current market.

Remember: these two paths are complementary, not competitive. One is responsible for adapting, commercializing, and scaling validated innovations, while the other is responsible for discovering those innovations.

A certain version of this technology will almost inevitably become part of the financial pipeline for existing TradFi systems, but that is not the only future being built. Open networks remain the industry's most important testing ground and source of innovation, and many components that tomorrow's institutional infrastructure will rely on will likely be born there first.

TradFi is not adopting DeFi; it is selectively adopting parts that fit its own model.

The opportunity for entrepreneurs does not lie in chasing all markets simultaneously, but in clearly understanding which market they are building for, and then executing accordingly. The future may indeed run on top of institutional infrastructure, but the most important innovations will still flow continuously from open networks.

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