DeFi, or Decentralised Finance, is currently one of the biggest developments in the blockchain and cryptocurrency sector… and for good reason! DeFi uses blockchains, crypto assets, and smart contracts to extend financial services to customers such as loans, investments, payments, derivatives, remittances, etc. In contrast to the decentralisation of money through Bitcoin, DeFi aims for a broader approach of generally decentralising the traditional financial industry.
DeFi is a relatively new concept and an expansion of its application scope rests on the blockchain. The majority of DeFi applications are on the Ethereum blockchain as it was this blockchain that first implemented smart contracts.
The main aim of DeFi is to open up traditional financial services to all, and it will help create a permission-free financial product ecosystem via the blockchain infrastructure. At present, a lot of our financial data and accounts are not really ours. They are housed and owned by large centralised banks and institutions. With DeFi, you have your own wallets and data repositories on the blockchain, and it is you that decides who can transfer things in and out and who can use your data. At the moment, if a large institution fails or they want to sell or use your data, you have very little say in it. Decentralised peer-to-peer relationships, and the promise of DeFi will change all of this.
So, what actually is DeFi?
“Decentralised Finance,” is an umbrella term for various types of financial applications in blockchain and cryptocurrency designed for disrupting financial intermediaries. Decentralised finance is a trialed form of finance that doesn’t depend on major financial intermediaries like banks, exchanges, and brokerages.
Instead, DeFi uses smart contracts, a line of code that are stored on a blockchain and automatically execute when the predetermined terms and conditions are met, with the foremost example of this being Ethereum.
Ethereum is an open source blockchain platform, guided by blockchain technology for the creation and running of “dApps” or decentralised digital apps. These digital applications help the users to make contracts or conduct financial transactions directly with one another for buying, selling, and trading goods & services without the support of the middleman (banks, lawyers, etc.)
The rapid growth of DeFi
DeFi, one of the major areas of cryptocurrencies, has drawn huge attention in recent years. For example, between Sept 2017 and 2020, the DeFi contracts jumped from $2.1 billion to $6.9 billion. From August this year, there has been a growth of $2.9 billion!
The above figures suggest there is a massive rise in value in terms of market capitalisation involving all tradable tokens, used for the DeFi smart contracts. The total DeFi contract market capitalisation has reached $15 billion — that is almost 2 times the previous value.
There are some tradable tokens whose value has risen 3–4 times a year and some even more than that. For example, the value of Synthetic Network rose 20 times whereas, in the case of Aave, it’s almost 200 times. If you have bought Aave tokens with a price of $1,000 in Aug 2019, now that value would be at $200,000.
In the traditional form of unsecured lending, there is a legal requirement of validating the identities of both the lenders and receivers that involves accessing the receiver’s ability to repay the debt. In DeFi, there is no such criteria and it’s all about mutual trust and securing privacy, which may pose a risk to some.
Many high-level financial institutions are now accepting DeFi and showing interest in participating. For example, worldwide major banks are using blockchain technology on a trial basis to speed up their payment services.
Major Opportunities Offered by DeFi
Blockchain technology has helped in evolving new business opportunities and models, especially those that were once not viable. In the finance sector, blockchain technology helps in reducing the participation of centralized institutions, encourages trails, and will help people access various financial instruments.
Decentralised Currency
Today, decentralised currencies are the easiest payment model for contracts. Bitcoin happens to be the first decentralised cryptocurrency that was issued by decentralised technology, not from any country. Its supply timetable is fixed and can’t be altered at a wish, making it anti-inflationary. Being the primary source of value in the blockchain sector, Bitcoin is called digital gold and it has no boundary and can be transferred and stored without the help of any central entity.
Decentralised Contracting
Contracts are important for companies, markets, and also for partnerships, mergers & acquisitions, and transactions to successfully be carried out. The contracts are mostly complex and costly because of negotiation, drafting, enforcement, renegotiation, and various agreements. With the rise of smart contracts, contracting has become a lot more streamlined and eliminates the need for financial intermediaries. Smart contracts reduce the cost and complexity of contracting and bring transparency, automaticity, programmability, and immutability.
Decentralised Payment Methods
Centralised payment services like PayPal, Visa, and others facilitate online and offline exchanges, but they charge high prices, particularly for international payments. In the case of decentralised payment services like Bitcoin Lightning Network guarantees less cost, instant and secure transaction, and cross-border payment services and solves problems that many experience with traditional payment gateways.
There are a number of major benefits to DeFi. The use of blockchain technology allows for relatively cheap and speedy transactions, ensuring immutability of financial contracts and contract automation.
Decentralised Fractionalisation
Centralised fractionalisation is very bureaucratic and error prone. Usually involving multiple legal entities, lawyers, accountants, contracts and regulated advisers and promotors. If a person, who is not a professional investor, wants to invest $1000 in a commercial property it is a cumbersome and frustrating process. Especially if you contrast this with the ease you can put $1,000 through a slot machine and lose all your money. For some reason, regulators are fine with the gambling but not the property. It is for this reason REITS and other regulated structures have evolved for what are called “retail investors”. The problem with these entities, however, is that the investor has no relationship with the actual property and the managers usually gouge fees out of it and take a handsome part of the upside.
DeFi offers the ability through smart contracts to firstly, fractionalize properties through tokenisation, and secondly, create smart contracts that execute so that all participants get a fair part of the deal. This is the space Piptle and those in the Piptle community play in.
