What is DeFi?
What is DeFi?
It is not one thing. It is a concept. It is an abbreviation. For some people, it is the best thing after a slice of bread. In human understandable terms, it is DEcentralized FInance.
But before we dive into Decentralised Finance, let me start with the Finance part of it.
When we think of ‘finance’, the first picture a mind paints has people in suites talking bureaucracy while trying to judge commoners by the rules which are obfuscated and biased in many ways. We plebes, have faced situations in our lifetime where traditional banks consider us not credit worthy or rules of assessment change on us without explanation. We have faced these while applying for student loans, car loans, house loans or while getting insurances or getting credit cards. These are the examples of financial products and examples of poor humans at the mercy of mighty powerful bank gods.
That is traditional finance – banks do checks and balances before issuing ‘credit’.
Sorry, before jumping on to Decentralised part of DEcentralized FInance, let me take a small detour and give you examples of centralization in traditional banking. Let me talk about a smallish (by the size of economy) country Australia:
- The country has only four major privatised banks which cover the majority of the financial transactions in Australia.
- The government has no influence on them as they meant to be private and answerable to the shareholders.
- The Central Bank of Australia has no influence on them. This was evident again and again when private banks increased interest rates over and above the central bank rate increase and did only pass fraction or none when central bank cut the interest rates in past.
- By the process, an individual shareholder has almost no say in their daily banking practices – ethical or otherwise.
- By controlling ‘landing criteria’ in the name of risk mitigation, completely control the real estate and commercial market which are the engine of Australian economy. And this is more or less true in every country – a small number of ‘banks’ control the credit market and hence the economy while being answerable to no one. This is the concentration of power – centralised power.
And traditional banks have been working like this for centuries.
And now to the buzz word – DeFi. The same way traditional taxi business is disrupted by Uber likes, the accommodation industry by airbnb likes, the DeFi is set to question the traditional finance industry.
So again, What is DeFi?
A term for a variety of decentralised services that aim to replace current centralised financial system.
What are DeFi Services?
DeFi services could be exchanges where crypto and contracts can be executed, money market services around borrowing and lending; and insurance services.
Decentralised Exchange
- DeX for short
- Services that need no accounts or signups and there are no exchange fees
- Services to buy, sell or trade crypto currencies
- Completely autonomous and decentralised. No fear of exchange hacking or going down under regulatory pressure.
Decentralised money markets
- Connect borrowers with lenders
- Agreed set of loan rules between parties
- Distribute interest among lenders
Decentralised Insurance
- Connect people needing insurance with people or companies willing to insure for a fee
- Agreed set of rules baked in the smart contract
What are some of the DeFi projects?
- MakerDao (https://makerdao.com/ ) – Based on lock in collateral and DAI stable coin
- In landing category, Compound (https://compound.finance/), which is based on Algorithemic Autonomous INTEREST Rate prototocol.
- AAVE (https://aave.com/)
What are the DeFi risks?
The technology is very much in infancy phase and not all aspects are battle tested. There are many imitators and hype creators aimed at quick gain.
Takeaway
So in summary, the technology is here and it is clear that it can be used for solving real world problems.
