Decentralised Finance (DeFi) is a movement that emerged with Bitcoin and blockchain and is rapidly taking focus away from the traditional finance industry. Notably, as of the beginning of March 2023, the total value locked (TVL) in all DeFi applications across the globe measures up to nearly $46 billion.
DeFi refers to financial applications built on decentralised blockchain technology, which operates without centralised intermediaries such as banks, governments, or financial institutions.
This article will provide an in-depth overview of DeFi, including its usage, advantages, challenges, and potential for the future.
What is DeFi?
DeFi is a broad term that refers to various financial applications built on blockchains. These applications aim to provide financial services such as lending, borrowing, trading, and investing without intermediaries. Decentralised Finance platforms operate on public blockchains such as Ethereum and the Binance Smart Chain, where smart contracts can automate financial transactions and render human interruption unnecessary.
Usage of DeFi
Decentralised Finance (DeFi) is being used in a wide range of applications and services. Here are some of the most common use cases of DeFi:
- Decentralised Exchanges (DEXs)
Decentralised exchanges let consumers trade cryptocurrencies without the need for traditional financial institutions like banks. DEXes operate on blockchain networks and enable peer-to-peer transactions without requiring users to trust centralised exchanges with their funds.
- Lending and Borrowing
DeFi lending and borrowing platforms allow users to earn interest on their cryptocurrency holdings or borrow cryptocurrency using their crypto assets as collateral. These platforms increase efficiency and safety by automating the loan and borrowing process with the use of smart contracts.
- Stablecoins
Stablecoins are digital currencies pegged to a stable asset like the US dollar to minimise price volatility. Stablecoins powered by DeFi are designed to give users a more stable and predictable way to transact and store value, as compared to usual cryptocurrencies like BTC which are more prone to volatility.
- Insurance
DeFi insurance platforms allow users to protect themselves against financial losses due to reasons such as hacks or smart contract failures. These platforms use blockchain technology to automate the insurance process, making it more efficient and cost-effective.
- Asset Management
DeFi asset management platforms allow users to manage their crypto assets and invest in various decentralised finance protocols. These platforms offer users more control over their investments and enable them to diversify their portfolios.
- Payment and Remittances
Decentralised Finance payment and remittance platforms enable users to send and receive cryptocurrency payments. These platforms offer a cheaper and faster alternative to traditional payment methods, particularly for cross-border transactions.
- Prediction Markets
Users of DeFi prediction markets may bet on the results of upcoming contests, such as elections and sports events. These markets use blockchain technology to ensure transparency and fairness in the betting process.
In conclusion, DeFi is already in-effect in various applications, from trading and lending to insurance and asset management. These applications offer users a more accessible, secure, and transparent alternative to traditional finance and are likely to grow and evolve in the coming years.
Advantages and Challenges of DeFi
So now we know ‘what is DeFi?’, but what about the many pros and cons of decentralised finance? Let’s find out!
Advantages of DeFi:
- Decentralisation: The DeFi system is decentralised, meaning it does not rely on a centralised authority to manage transactions. This approach eliminates the need for intermediaries and makes the system more secure and transparent.
- Accessibility: Decentralised Finance is accessible to anyone with an internet connection and a crypto wallet. This accessibility allows people who are unbanked or underbanked to access financial services.
- Security: DeFi uses smart contracts that are secured by blockchain technology. These contracts cannot be altered, which ensures that transactions are secure and transparent.
- Transparency: DeFi transactions are visible to everyone on the blockchain, which makes them transparent. This transparency helps to prevent fraud and increases trust in the system.
- Low fees: The decentralised finance system does not require intermediaries, which means that transaction fees are also significantly lower than traditional financial systems.
Challenges of DeFi:
- Smart Contract Risks: Smart contracts that automate transactions in decentralised finance are vulnerable to hacking and other security risks.
- Volatility: The values of cryptocurrencies, which are used in DeFi, are highly volatile. This volatility makes it difficult to predict the value of assets and creates risks for investors.
- Complexity: DeFi is a complex system that requires technical knowledge to navigate, at least with most of the applications available so far. This complexity can make it difficult for the average person to access and use DeFi services.
Potential for the Future
Decentralised finance can revolutionise traditional finance by providing more accessible, secure, and transparent financial services. As more people become aware of DeFi and its advantages, the demand for DeFi platforms will likely increase. DeFi platforms are also likely to become more user-friendly, making it easier for the average person to use them.
Furthermore, DeFi is likely to become more integrated by Investing in DeFirated with traditional finance, creating a hybrid system that combines the advantages of both systems.
Get Started by Investing in DeFi
We do hope this post answered your question of ‘what is DeFi?’, and helped you understand the basics of decentralised finance.
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