Among the various developments in the cryptocurrency industry, Decentralized Finance (DeFi) or the Open Finance movement is one development with immense potential. There have been plenty of conversations in the financial circle about the future prospects of this technology and how it can advance the financial sector.
So what makes DeFi one of the hottest topics in the cryptocurrency landscape? There are quite a few factors behind that and for understanding, we need to look back at a few details. So let us delve deeper and take a look.
With the advancement of technology, human society has become more closely involved with financial systems and monetary transactions. Traditionally, central authorities like the governments have been responsible for the regulation of currency flow in the markets. Even if we transfer the control of our funds to some other body to get better returns, it is under some form of centralized control. As there is only a single point of control, there are quite a few risks as even a government can take a few wrong steps that can damage the financial balance.
DeFi presents an alternative financial ecosystem based on a decentralized architecture that can connect every form of transaction including savings, loans, trading, insurance, etc. Almost every DeFi application or dapps, is based on the Ethereum blockchain which substitutes a central authority with participants that comprise the network.
In reality, any person with an internet connection can interact with the smart-contacts within the blockchain that come with an open-source base and is interoperable. The end result is a financial system that is less fragile and more resilient while being transparent as well.
The best thing about DeFi systems is that it can be combined, modified, and integrated to provide you complete control over your own assets and financial systems. In addition, one can also earn a much higher return on their investment than that in a traditional market. Basically, the software behind the dapps is more complex than that in normal crypto applications and it is also dependent on stablecoin tokens.
Here are some of the major features of DeFi that set it apart from any traditional institution.
The system is completely decentralized and is governed by rules that are written through a complex set of codes through smart contacts. Once the smart contract is functional through blockchain, a dapp can run on its own without requiring any human intervention.
As inherent to a blockchain setup, the transparency of the code allows anyone to audit it. This provides the users with the freedom of understanding the details of the contract’s functionality or find bugs if any. Also, the transactions remain in the public domain so that anyone can view them. At the same time, they are not linked with the true identity of a user to protect privacy.
A major advantage of any dapp is that it is globally accessible. With a smartphone and an internet connection, you can access your investments from any part of the world through the DeFi network. Working with various functions like lending money, earning interest on crypto, exchanging assets, creating stable coins and others become extremely easy.
Dapps can be used by anyone and does not require any sort of permission for access. You need not fill up lengthy forms or get past a fixed set of requirements to avail of their services. The interaction takes place directly through the crypto wallets of the user.
The open structure of the smart contracts allows any user to build an app or to update an interface. Moreover, even if you do not like a particular interface, you can freely use a third-party interface.
Just as you can use individual Lego bricks to build something completely new, the new DeFi applications can be developed by combining the stablecoins. This results in interoperability as well as flexibility for the entire arrangement.
Presently, DeFi is one crypto sector that has a high growth rate. It is being said that in the long run, stablecoin-based transactions could provide top-level accountability to the developing economies. It can also be a great substitute for unreliable central banks and act as a primary medium of exchange on a global scale. At present, the Decentralized Finance Market is worth over $4 million, the result of steady growth after the Covid-19 pandemic.
Some market experts are also suggesting that the top 10 digital currencies are running on older technologies and can be readily replaced by modern DeFi platforms. However, like almost every other product, there are some risks associated with DeFi. As a user, it is necessary to keep your key and holdings a secret. Also, one has to keep oneself updated with the terms of services of various dapps that keep changing frequently.
It is also evident that traditional financial institutions can be judged through extensive historical data and benchmarks. This allows us to evaluate investment opportunities available through them more precisely. On the other hand, with DeFi, the lack of such data makes it difficult to evaluate the exact risk factors of investments. As more and more dapps are being developed with each passing day, it can be said that such an assessment is just a question of time.
Also, to neutralize such risks, apps like cDai (Compound Dai) has come into play. It offers a risk-free option of gaining variable interest using the proven compound lending protocol. Recently, there has been a flurry of new dapps, wallets, privacy proposals, and DEXs which has resulted in the rapid diversification of the entire ecosystem. One challenging front is the regulatory concerns related to fraudulent financial transactions and money laundering issues that slow down the growth rate.
For all those who believe that digital currency is the future, exploring the various aspects of DeFi and what it can offer is definitely a good step. Compared to the traditional market, the percentage of investment of DeFi is still very small. However, many enthusiasts in the field are already terming 2020 as the year of the “DeFi Renaissance.” With its rapid rate of growth in the current year, a truly decentralized financial scenario may not be that far away in time.