What is Decentralized Finance (DeFi)?

Bite-sized

Decentralized Finance (DeFi) is a form of finance that does not rely on a central party such as brokers, exchanges, or banks. Utilizing smart contracts on a blockchain — such as Ethereum — DeFi separates itself from traditional financial instruments. DeFi applications are transparent, permissionless, and anyone can access them at any time — with no interfering entities.

What is DeFi?

Decentralized Finance (DeFi) is a common term used within the blockchain community. DeFi represents decentralized financial tools and platforms that manage (your) money without the need for a third party — such as a bank or the government. DeFi makes use of smart contracts, which are vital to the existence of Defi. The process is entirely trustless, but more on smart contracts here. Smart contracts — and so DeFi — are accessible through so-called Decentralized Apps (DApps). It may sound complicated, but it is simply an application built on a (decentralized) blockchain. Much as we are used to ordering a ride through the Uber app, you can use a DApp to manage your money in a decentralized way. There is no need for a centralized party that governs the process; therefore, users can interact with each other with all the benefits of blockchain. DeFi offers an alternative to the traditional financial system — but with a focus on empowering the people — and introduces financial services to places where non exist. Hence, DeFi brings alternatives to some and opportunities to others.

DeFi benefits

Most common DeFi examples

While some use cases may be unique to DeFi, you can bet there is a DApp for every popular financial service you may already know. And with the growing number of DApps, the market is getting bigger and bigger by the day. Below are some examples of common DeFi use cases.

  • Lending protocols allow users to lend and borrow digital assets. Borrowers, who deposit funds as collateral, pay a fixed interest rate. Lenders, however, earn a variable return on their assets. Some examples are Aave and Compound, which allow users to do so.
  • Insurence protocols allow users to protect their assets against potential risks like hacks, theft, or market crashes. Also, other users could make their assets available to contribute to the insurance and earn a return on their assets.
  • Synthetic Asset Issuance allows the creation of tokens that mimic real-world assets like the Amazon or Tesla stock or other digital currencies. It enables users to access financial markets which otherwise might be difficult to access.

DeFi benefits

  • Accessibility is a significant benefit of DeFi. Anyone at any time can access and participate without an intermediate party interfering. All you need is an internet connection, and you can participate with a fraction of the costs of traditional financial services. Away with those expensive intermediates!
  • DeFi creates opportunities for the 1.7 billion people worldwide that do not have access to a bank account; however not only those 1.7 billion people. Through DeFi anyone has access to a wide range of financial services. It brings opportunities to some and brings alternatives to others.
  • Transparency is another significant benefit. Transparency is one of the core values of blockchain; it also impacts DeFi and smart contracts. Anyone at any time can check for themselves what is going on behind the scenes. Not even behind the scenes... because it happens all in front of it. Everything is public in blockchain! well.. not everything, your private key should stay private!

So now what?

In the last decade, DeFi saw enormous growth and will continue to grow. It presents many possibilities and opportunities with a bare minimum cost. However, always be aware of scammers! Make sure smart contracts are audited to be considered safe to use. OR read enough about newer, less well-established apps to know whether they propose a scam or not! Only risk what you can afford to lose. Other than that, the future looks bright for DeFi, and we will see more products to market in the coming years ahead.

Topics

In topics, we explain crypto-related subjects and capture the essence in bite-sized articles. Crypto should not be difficult. We cover many topics and make them as easy as possible for anyone to understand. Would you like us to cover a specific topic? Let us now and send an email to support@cryptobites.io