What does De in DeFi mean? What does this mean for the blockchain industry?
2 minutes ago Blockchain base camp
DeFi is not just a parallel world to traditional finance.
Editor’s note: This article is from blockchain_camp, written by Oscar W. Translated by Huohuosauce, reprinted with permission from Odaily Planet.
The concept of blockchain was first proposed by Stuart Haber and Scott Stornetta in 1991. It wasn’t until 2008 that Nakamoto Satoshi conceptualized the first blockchain and created Bitcoin. Since then, countless projects have sprung up that hope to revolutionize the blockchain landscape.
However, it wasn’t until 2015, when a genius named Vitalik Buterin created Ethereum, that a crucial step toward change was taken. Ethereum’s implementation of a Turing-complete language that allows programming on the blockchain (known as smart contracts) opens up new possibilities.
Smart contracts allow projects and individuals to issue tokens and raise funds, known as ICOs and STOS. Raising money through cryptocurrencies is the main reason why the crypto market’s market value has soared to $815 billion in 2018.
Since then, however, cryptocurrencies have lost 85% of their value as governments have tightened regulations. The emergence of DeFi is the next key we need to grasp, and it brings new hope to the blockchain space.
What is DeFi?
DeFi stands for decentralized finance, which aims to rebuild traditional banking services in the absence of a centralised entity — savings, lending, transactions, insurance, etc.
The goal is to provide an open alternative to the world’s Internet-connected people.
However, it is better called “distributed finance” or “open finance” because most DeFi products and services today are a combination of centralization and decentralization.
DeFi – The second breakthrough in blockchain history
Bitcoin, the first breakthrough in the widely recognized blockchain, combines a lot of knowledge about cryptography, consensus mechanisms, peer-to-peer networks and incentives.
Bitcoin has become a store of value that can be transferred without the involvement of a third party.
DeFi can be seen as a second breakthrough. While it’s not yet as disruptive as Bitcoin, DeFi is already taking shape and showing signs of its potential.
Why is DeFi the second breakthrough?
To understand DeFi, one must first understand why it exists.
DeFi exists because it can meet the financial needs of some people that are not met by the traditional financial system.
The DeFi’s goal is to create a transparent financial system. The system is open to everyone, requires no permission and does not rely on third parties to meet financial needs. Such as loans, trading, payments and derivatives.
DeFi is open finance using blockchain infrastructure. With blockchain, people can verify every transaction made on it, which also brings transparency.
DeFi is a particular challenge
The creation of money is a spontaneous process that is inevitable in the course of human evolution. At first, people exchanged things for things, forming barter. However, bartering is very inefficient because it is very difficult to find two people who happen to have a match.
It is difficult for a fisherman who needs shoes and a shoemaker who needs grain to come to terms with each other. Even if the needs match, it can be difficult to determine how much fish to trade for a pair of shoes.
Hence the demand for money. People need a monetary system to exchange different things. The currency became an intermediate medium of exchange and also had storage value.
Throughout human history, there have been different kinds of money, from shells, precious metals, gold, to what we would call legal tender today.
With them came intermediaries such as commercial banks, investment banks, stockbrokers, pooled investment funds and stock exchanges.
These intermediaries improve market efficiency and achieve better allocation of resources. But at the same time, the existence of intermediaries also creates problems such as opacity, which often leads to excessive debt or hyperinflation.
In the current intermediation-dominated financial structure, economic crises seem inevitable and history repeats itself.
The core value of blockchain is transparency and distribution, and it is the best medium to change the status quo of financial structure. That’s why DeFi exists.
DeFi is similar to traditional finance
Like traditional finance, DeFi allows each person to put their money into different assets according to their needs. Through a variety of different assets, contracts, and agreements, new projects can be combined to provide users with new products and services. For example, Compound.
Compound is an Ethereum-based loan marketplace. In Compound, users can borrow ETH, MakerDAO’s Dai, or USDC tokens, which are fully backed by US dollars. Users can also exchange their tokens for cDai tokens by lending them to Compound. cDai is equivalent to the user’s Dai and the resulting interest.
The cDai itself is a token, meaning that the cDai can be circulated in the market and the holder can profit from it. For example, users can trade cDai with ETH, hold cDai through Dex such as Uniswap, and receive interest on cDai tokens.
In addition, it can be used for other smart contracts, such as MakerDAO pledging ETH or BAT to generate Dai tokens and putting Dai into Compound to generate cDai, which can then be exchanged with other tokens on Uniswap.
DeFi is a new world parallel to traditional finance
Traditional finance has won the trust of many people through intermediaries and their services. It can meet the needs of many people in the real world, but the service is the same for all.
However, some people want to take control of their finances. To serve these people, DeFi is building a parallel world to traditional finance.
For example, Compound, Dharma, Maker, and others all provide lending services for cryptocurrency assets, which can be viewed as crypto versions of traditional banks. Projects like Uniswap, Kyber and Bancor offer an asset exchange service similar to Nasdaq, the New York Stock Exchange (NYSE) and other exchanges in the traditional financial world.
DeFi is not just a parallel world to traditional finance
DeFi not only mimics traditional finance in the crypto world, but also offers new capabilities. It provides instant transactions through pools of capital that can take three to five days to complete with traditional intermediaries. DeFi can also adjust loan rates in real time without the traditional borrowing grace period.
The borrowing income of users is reflected by their tokens. If users buy tokens, they can essentially enjoy the borrowing income of tokens, which is equivalent to the tokenization of creditor’s rights and the realization of circulation.
DeFi greatly accelerates the liquidity of assets. Its “permission-free” and “transparent” features are impossible to achieve in traditional finance.
When participating in the DeFi service, users interact with a series of smart contracts on the blockchain.
One can take advantage of its transparency and license-free features, such as getting the best deals through DEX aggregations, the best way is through loan agreement interest income aggregations.
From a lending perspective, the current demand for loans requires excessive collateral to borrow. In DeFi, all lending and liquidation procedures are enforced by agreement, so there is no fear of default and no need for third parties to step in.
At the same time, by omitting intermediaries, lenders can earn higher incomes and borrowers can get better interest rates.
DeFi integration with traditional finance
At present, not everyone has the ability and willingness to learn and manage crypto assets. More likely, therefore, is the integration of DeFi with traditional finance.
Traditional finance can leverage DeFi’s characteristics to achieve liquidity, while DeFi can leverage traditional finance’s assets and compliance to achieve scale expansion.
USDC is an example of DeFi and traditional finance coming together. The USDC inputs traditional world currencies into the DeFi to form stablecoins, and then takes advantage of DeFi’s features such as free licensing, fast circulation, and transparency.
Traditional financial needs have a historical inertia. From today’s perspective, it is difficult for DeFi to expand without the involvement of traditional finance. Although it is not what many idealists and geeks would like to see, in the real world DeFi could help traditional finance achieve faster asset flows via blockchain.
DeFi is 100% decentralized finance
Anyone who owns a crypto asset can participate in DeFi. These are usually completed through on-chain operations, without the need for third party participation, users have a lot of freedom to participate, convenient and fast.
However, any DeFi service has a degree of centralization. For example, Dai is not 100% decentralized. Its security requires governance of the MKR token holder and the need to prevent attacks on its seer, all of which need to be centralized to maintain its security.
This will become more apparent as real-world assets are circulated on DeFi. For example, if you buy 100% of the house tokens. Houses involve a lot of legal rights and obligations in the real world, so you can’t just automatically acquire all the equity by token transfer of tokens, these are subject to traditional laws and processes.
DeFi’s prospects
At present, DeFi allows people to implement functions such as lending, trading, payment and futures, but there is a certain threshold for most ordinary users who have no experience in using crypto wallets. It requires users to have certain asset management ability and experience.
However, as more DeFi projects have simplified their operations, they have become more convenient to use. When people use DeFi products, the difficulty of using them gradually decreases. Once the habit is established, more and more people will enter the DeFi field.
This article is from submission and does not represent the position of Odaily. If reproduced, please indicate the source.
Odaily Planet reminds readers to establish correct currency concept and investment concept, treat blockchain rationally, and raise risk awareness. On the discovery of criminal clues, can actively report to the relevant departments.
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