Defi - Decentralized finance is a term that you have seen quite a lot recently. It can be said that Defi is the latest cryptocurrency trend in 2020. So what exactly is Defi?
What is Defi?
Defi is an acronym for Decentralized Finance (decentralized/open finance). This is the term used to refer to financial applications built on Blockchain. There, the need for a third party is removed, transparency and safety are enhanced, while the cost is reduced.
Currently, Ethereum is the platform with the most active Defi applications. However, this is not the only Blockchain selected by applications. Besides, there is Blockchain of IOST, EOS, TRON.
The purpose of Defi
In traditional finance (CeFi - Centralized Finance), you believe that the government will not print money unexpectedly to raise inflation. Banks will keep your money safe and you often make a profit by trusting your assets to a third party, which means giving control of your money to someone else.
- Cefi: Traditional finance / centralized finance
You have to admit, in traditional finance, whether it's your money, you can't completely control them 100%.
Defi was born to create an open financial system for everyone. There, people can have complete control of their assets.
Defi aims to decentralize core traditional use cases of finance, such as transactions, loans, investments, asset management, payments, and insurance through the use of Blockchain.
What components does Defi include?
We can divide Defi decentralized finance into the following components:
- Lending Platform (decentralized lending platforms): Compound, MakerDAO, Cred, Dharma, ETHLend, Constant ...
- Derivatives (decentralized derivative products): Tokensets, Uma, dydx, Veil, Augur, Market protocol ...
- Payments Platform (decentralized payment platforms): Omisego, Helis, Request Network, xDai, Connect ...
- Stable coins: DAI, Terra, Reserve, Ampleforth, Neutral USD, Paxo, True USD ...
- Decentralized Exchange (decentralized exchange): Kyber Network, Ren, IDEX, Binance DEX, Bancor, Nash, 0x ...
Can Defi replace CeFi?
Defi will not be able to completely replace CeFi. However, they can provide more types of services that CeFi cannot provide.
- Assets will be replaced with cryptocurrency
- Organizations, government, companies will be managed by Blockchain
Wherever you are, you only need a device connected to the Internet to have access to decentralized finance.
Not only that, Defi also offers completely new financial services such as stable coins (DAI, True USD, ...)
Main features of decentralized finance
- Easy to access
Defi is an open system, so anyone with a device connected to the Internet can easily access it.
- Interactive ability
Building the main block to help interoperability between blocks becomes simpler. From there, create an ecosystem that can expand and become diverse over time.
In CeFi, providing personal data is one of the musts. However, Defi is completely different. Defi apps will be restricted to third parties (banks or organizations) for users to trust because they are the custodians of their assets.
The activity data will be displayed publicly and publicly to all participants.
Core benefits of decentralized finance
- Decentralization: Helps against censorship; allow all walks of life to participate
- Low costs, quick transactions, and contracts that cannot be fraudulent
- Users have full control of assets without a third party
- Increase transparency
How does Defi work?
Operation on Defi is not controlled by any organization or character, but instead are rules written in code or smart contract. When they are deployed on the blockchain, Defi apps will operate automatically without human intervention.
Besides, this smart contract is completely public on the blockchain, so anyone can audit it.
Also, all trading activities are public. However, due to privacy concerns, identities on transactions will be credited with a pseudonym by default.
Is decentralized finance risky?
Speaking of risks, Defi apps are currently the "places" that hackers target most. Of all the attacks, the most famous was the DAO in June 2016.
In the incident, hackers transferred one-third of the DAO's funds to another account by exploiting vulnerabilities in encryption. This forced the Ethereum community to hard fork the blockchain to recover the lost money.
The most recent serious attack was the bZx protocol. Hackers attacked 2 times in a row and stole nearly 1 million USD.
This shows that the technology behind decentralized financial applications is still underdeveloped and has many gaps; facilitate the attack.
Some popular Defi applications
- Decentralized lending platform
There are many different financial products based on Defi. But DeFi's fastest and most popular area of development is lending platforms.
Similar to banks, users deposit their money and earn interest from people who borrow their money. However, in this case, the bank is no longer the intermediary but the smart contract that will connect the two users; enforce loan terms and distribute interest.
As you know, the cryptocurrency market is one of the highly volatile markets; Therefore, it needs a coin to hold value, and that is stablecoins. Some stablecoins are built on decentralized financial platforms such as DAI, Terra, True USD, ...Decentralized exchange
DEXs are cryptocurrency exchanges that use smart contracts to enforce rules, perform transactions, and safely handle funds as needed. Therefore, when you trade on DEX, there will be no executive, no identity verification, or no withdrawal fees.
Some decentralized exchanges: Binance DEX, Huobi Lite, ...
There are also many other applications such as decentralized payment platforms (Lightning Network, Helis, xDai, ...); Decentralized derivative products (Market protocol, Uma, ...)
Some crypto projects use decentralized financial systems
There are currently many cryptocurrency projects being built on Defi such as Kava, Matic, UMA, ...
Why is the application of Defi still not popular?
- The popularity of cryptocurrencies
As is well known, assets in decentralized finance are in the form of cryptocurrencies. Therefore, if Defi is to become popular, cryptocurrencies must also become popular.
Currently, liquidity in decentralized finance is still low. Meanwhile, liquidity is the key to pricing in the financial industry. As a result, most Defi protocols currently cannot compete with CeFi projects.
- The products are mortgaged in excess
Because there is currently no credit score or common collateral, many products have to be mortgaged beyond (sometimes as high as 150%).
This drawback reduces the leverage for professional traders; or the opportunity to gain access to capital that the user does not own.
- Technical risks
This is one of the problems that users are most concerned about. If unfortunately, the smart contract or blockchain layer has an error, it is difficult to detect because this technology is quite new.
Potential in the future
Although there are still many problems, the Defi ecosystem has grown 15 times in the past 2 years.
As of February 2020, about 3 million ETH has been locked in Defi applications. In particular, lending products are the fastest growing and fastest-growing industry.
This shows that decentralized finance has potential. And if weaknesses can be overcome, Defi will quickly become the technology of the future,
Hopefully, through the above article, you have a clearer view of Defi. If you have any questions or suggestions, you can comment right below the article.
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