What is DeFi? Everything you need to know about the Decentralized Finance!
times progress, financial operations and communication mediums go through major transitions to adapt to the ever-evolving world around us. For starters, communication has never been easier with the accessibility of all kinds of mobile phones and other mediums.
Similarly, the finance world has also undergone its fair share of revolutions. A prime example of this is decentralized finance.
Decentralized finance (DeFi) is a financial system operated by numerous players or financial institutions rather than based on a single institution or figure. This involves keeping digital assets and focusing on individual DeFi projects and teams rather than relying on large organizations, as in the case of centralized finance.
Just note that while various decentralized exchanges or apps open the accessibility gate, these also come with their fair share of risk.
Now that you are more aware of decentralized finance’s cruciality and existence let’s delve further into the concept. By the end of this article, there’s a chance you’ll want to become one of the key players for DeFi.
What are the Pros and Cons of Decentralized Finance?
Whenever you’re gaining knowledge on a particular concept, weighing out its pros and cons is integral. This will help you decide whether you want to take things forward or take a step back.
So to help you make an informed choice, we’ve identified some of the benefits and drawbacks of decentralized finance.
- No intermediary exists between transactions.
- You can reap higher interest rates.
- Can open up possibilities for acquiring a loan instantly.
- Provides the opportunity of acquiring insurance and financing without a set credit score.
- Forgetting your password can lead to losing your assets, since there’s no governing body to support you with the retrieval process.
- There’s higher risk and volatility involved.
- Not adequate protection for consumers is guaranteed.
How Does Decentralized Finance Work?
The pressing question remains: What is DeFi and how does it really work?
Decentralized finance, also known as “open finance,” removes the middleman from the financial transactions. Since this form of financing operates on digital money, your credit card company or bank doesn’t play the role of an intermediary between a merchant and you for a financial transaction. This way, you remain the key player and have ownership of the transaction and the particular digital asset.
The primary basis of DeFi is Ethereum. This cryptocurrency comes second after Bitcoin in terms of popularity and market cap. However, to simplify the concept of DeFi, here are a few important points to note about this form of financial services:
- It involves transparency because the transaction code is widely available for everyone to review.
- No intermediaries are involved in the process; therefore, no financial institution or bank oversees your assets.
- A wide range of DeFi applications are available based on the Ethereum blockchain.
- These financial services are not limited by geographic limitations because they are open networks.
An important factor to remember when it comes to decentralized finance is that it largely revolves around code. Through this mechanism, smart contracts aid in allowing your money to perform various functions through its programming. Therefore, it offers a wonderful opportunity for those with an internet connection or a computer to become stakeholders in the global economy.
The best aspect of DeFi for most people is that it removes all entry barriers for numerous financial transactions. Therefore, you’re not required to deal with the involvement of a corporation or a government body in handling your money. This also releases you from the pressures to qualify against rigid criteria for certain financial products.
What are Some Examples of DeFi Products?
Individuals can benefit from various forms of decentralized finance technologies within the blockchain space. These are available through various DeFi lending platforms and act as crucial factors within the ecosystem for DeFi. They include:
Blockchains are distributed ledgers that aid in the settlement of all financial decisions and transactions. Currently, most DeFi products function based on Ethereum due to its unmatched developer adoption and capabilities. As a result, DeFi is expanding immensely across various other blockchains too.
You also need a secure digital wallet to store money and keep it safe. This software interface aids users in managing various blockchain stored assets. Moreover, through the help of a non-custodial wallet, all users can exclusively control their funds via private keys. On the other hand, private keys are handled by service providers for a custodial wallet.
These tokens represent a value that can be transferred or traded within a blockchain. Various cryptocurrencies, including Bitcoin, were some of the first assets based on blockchain. On the other hand, many offer numerous services beyond payments.
Decentralized Autonomous Organizations
These are financial bodies that have pre-defined roles which are enforced upon the user through smart contracts.
When you opt for financial services, finding a medium that leads you to the DeFi world is integral. This is where the DeFi applications come in. These are software applications made of smart contracts and are commonly integrated with interfaces that directly face users while opting for traditional internet technology.
This is a software code based on blockchain that controls, manages, and monitors relevant actions and events based on predefined rules and terms.
These are software-based processes that handle changes in blockchain protocols, which commonly rely on tokens that assign voting rights to stakeholders.
These data feeds permit information to flow through sources across the blockchain, such as the existing stock price or value of a fiat currency, to be intermixed with decentralized finance services.
Stablecoins are assets with values assigned to a fiat currency, other stable-value assets, or a group of fiat currencies.
Can Decentralized Finance Replace Centralized Finance, i.e., Banks?
Although financial technology has undergone immense growth and an array of financial products are available to those with an internet connection, the role of a bank account is likely to remain relevant.
While the boom in recent years extends the promise of further rise in decentralized finance, centralized systems such as banks are nowhere close to becoming redundant. These two forms of financing play the role of a nurse and a doctor. Even though both play integral roles and perform similar tasks, they are fundamentally different and require to co-exist for true efficiency.
Although numerous individuals have jumped onto the bandwagon of investing in crypto assets and performing complex financial transactions, the threat of hacking and losing all your money remains.
Whether you hire a qualified professional to handle your DeFi work or take a DIY approach, the large amount of volatility in these assets can cause heavy losses. Moreover, if you trade assets through DeFi applications, there is a possibility of fraud due to easy access and a lack of regulation.
Since DeFi does not center around one institution, it lacks regulation like centralized finance. A decentralized private ledger can indeed transparently execute transactions. However, due to users’ anonymity, lack of central authority involvement, and the irreversibility of transactions, DeFi theft or fraud victims end up without legal support.
How is DeFi Revolutionizing Financial Transactions and the Financial Industry?
The last few years have seen an evolution in the financial world through significant change brought about by decentralized finance. DeFi transactions and the blockchain network continue to experience exponential popularity, with disintermediation as the central ideology. Therefore, unlike traditional financing, this type comes with fewer regulations and greater liberties to divide your funds according to your preferences.
Additionally, through the support of a new addition in technology, referred to as the Automated Market Makers, DeFi coins can enjoy extensive liquidity by offering liquidity pools specifically for assets. This is different from ordering books within centralized exchange platforms. Therefore, users can enjoy asset liquidity through these pools while earning large amounts of passive income through trading fees.
Most decentralized finance operations are based on the Ethereum blockchain network due to its first-movers advantage in offering infrastructure that allows developers to create various decentralized applications. However, various latest networks in blockchains have developed and are actively working towards more competition within the decentralized financing sphere as well. These include names such as Cardano, Solana, and Polkadot.
While most of these decentralized financing products are complex with extensive learning curves, this doesn’t take away from the ability to become a crucial reality in FinTech startups and SMEs worldwide.
Since these come with lower barriers of entry compared to traditional financing mediums, convenient borrowing and lending activities, and easy accessibility to cheaper forms of credit, it has entirely transformed the traditional financial system landscape. Moreover, beyond what has already happened, this revolution is likely to grow exponentially as time goes by.
What are Some of the Most Popular DeFi Coins?
Once you’ve decided to invest in decentralized finance, the next crucial step is to get up to date with the coins, the interest rates involved, and other important factors crucial to the practice.
A wide range of immensely popular DeFi coins is available on the market. The best ones that have managed to gain major popularity include:
- Dai (DAI)
- Avalanche (AVAX)
- Wrapped Bitcoin (WBTC)
- Uniswap (UNI)
- Chainlink (LINK)
All the above mentioned projects have acquired appeal for various reasons, ranging from innovativeness to metaverse connections to affordable staking offerings. However, the best out of all of them is Battle Infinity (IBAT). This DeFi coin is considered the best one to invest in for 2022 due to its metaverse-centered multilayer project, which is rumored to take the place of the upcoming Axie Infinity.
This holistic project comes with an all-in-one offer, including a decentralized exchange, P2E games, an interaction center for virtual use, an NFT marketplace, and a thorough staking system with various staking plans set on an exclusive staking platform.
This widely ambitious project is merely entering the initial stage of its life and is available at a pre-selling price of 0.0015 dollars. Therefore, investing in it at the earliest is a great option before it explodes as the upcoming unmatched crypto for 2022.
What are the top decentralized exchanges?
Below you can check the most popular DEX (decentralized exchanges):
- Uniswap v3
- Pancake Swap
This report from The Block shows the share of DEX volume for 2022. As you can clearly see Uniswap is the absolute leader:
There’s no denying that decentralized finance – DeFi – has taken the financial world by storm through its wide popularity, sudden surge, and exponential growth.
This form of financing does not need a central body, and continues to remain anonymous while coming with immense investment opportunities for anyone who has a knack for acquiring assets.
All in all, it provides easy access and promises to earn interest at copious amounts.
Zornitsa is the Editor-in-chief at Coinlabz. She is involved in researching the impact of blockchain technology and the way crypto is transforming peoples’ perceptions of finances.