Have you ever heard about DeFi before? Are DeFi apps the ultimate killer apps in the crypto space or just new hype? No matter if you never heard about this before but, DeFi or decentralized finance is a step that aims at making a new financial system that is open to everyone and doesn’t require trusting intermediaries like banks to achieve that.
DeFi relies massively on cryptography blockchain and smart contracts these are the main building blocks on DeFi if you don’t know what smart contracts are? soon will be covering that topic too but for now smart contract “A set of conditions and actions. just like contracts in the world the sole difference is that they’re completely digital.
The DeFi projects are built on Ethereum the main reason for this is a fairly robust programming language called solidity, which allows for writing advanced smart contracts that can contain all the necessary logic for the DeFi applications. The most developed ecosystem across all the smart contract platforms with thousands of developers building new applications every day and the most value locked in smart contracts which create an additional network effect, in fact, all the DeFi protocols are built on Ethereum.
DeFi is trying to create a whole new financial ecosystem in a permissionless and open way lending and borrowing is merely only one element of this ecosystem some of the other essential components are stable coins decentralized exchangers derivatives margin trading and insurance.
Now let’s understand how it all started, the primary project that started the decentralized finance movement was maker Dow. Maker Dow founded in 2015 allows users to lock in collateral such it and generate DAI stable coin that by using certain incentives follows the value of the U.S. dollar.
DAI is a good example of an algorithmic stable coin besides DAI there are multiple other non-algorithmic stable coins like USD T USD C or PACs the foremost problem with them, they’re centralized as there is a corporation behind them that is responsible for holding the equivalent of the volume of stable coins in US dollar or other assets nevertheless this Stable coins become widespread and are extensively applied in DeFi applications like compound or other decentralized exchanges or Dex’s are in opposite to standard centralized crypto exchanges allow for exchanging crypto assets in a completely decentralized and permissionless way without dropping the custody of the coins.
How Decentralized finance DeFi is different from CeFi Centralized finance or traditional finance
what are the main differences between DeFi and CeFi
|DeFi Decentralized finance||CeFi Centralized finance|
|PermissionLess No KYC||Require Permission with KYC|
|Open Source (encouraging free collaboration)||Closed Source ( decision made behind closed doors)|
|Censorship Resistance||Can be “CENSORED”|
|Cheaper Network fees||Expensive intermediaries (hefty fees)|
|Built on BLOCKCHAIN||Build on an old foundation|
DeFi is the closest thing that can actually disrupt the traditional financial industry in opposite to most of the same tech companies defy is built on the new rails instead of relying on the outdated technologies and procedures currently most of the financial products can be only created by banks DeFi is open permissionless and enables cooperative work in a similar way to the Internet although DeFi is currently built predominantly on an Ethereum with more adoption of interoperability protocols we may see more projects.
We must neglect the potential risks connected with DeFi, foremost is bugs in smart contracts and protocol changes that will alter the current contracts, we constantly have to check on how decentralized DeFi project really is and what is the shutdown procedure if something goes awry, admin key that can be used to shutdown the protocol or maybe there is some untrained governance in place to make such a decision on top of that we have to always account for the more systemic risk that can be caused by.
DeFi is a super interesting and vibrant space that is full of opportunities although we have to remember that this is still a very nascent industry so it’s high risk and a high reward game