Decentralized Finance (DeFi) was a hot topic in the crypto world in 2020 and will remain one in 2021. In case some of you still don’t know, DeFi is an ecosystem of Decentralized Applications (Dapps) that provide financial services built on top of distributed networks with no governing authority. Currently, the majority of the DeFi Dapps currently being built are on the Ethereum blockchain and most of them use Ethereum-based ERC-20 tokens.
The potential of DeFi
Over 1.7 billion people are still unbanked and at the same time, most of them have a smartphone. This is the main target audience for DeFi, but not only. People with bank account are also fragile to losses, as banks collapse from time to time. Moreover, DeFi can provide the feeling of bigger control over your funds and higher APR (usually. 5-15% per stablecoins and much bigger % for more high-risk tokens)
Main elements of DeFi:
The cryptocurrencies revolutionized ways of payment. Unlike traditional financial institutions where payments (especially to other geographical locations) might take days and big fees, crypto allows almost instant payment with small fees. Smart contracts and DeFi projects add more possibilities to the ways of payments (i.e. putting some conditions in smart-contracts or payments as streams) without losing the speed and efficiency.
As you know, crypto tokens and Ethereum itself are highly volatile. Stablecoins are an important part of ecosystem as they help to achieve a stable store of value. The most popular centralized stablecoin is Tether (USDT) and decentralised stablecoin – DAI.
Decentralized stablecoins are created in a decentralized manner by over-collateralization method, on decentralized ledgers, which are governed by DAOs (decentralized autonomous organizations).
III. Lending and Borrowing
Unlike in traditional banking, Decentralized lending and borrowing have no barrier. People can collateralize their digital assets and obtain loans. Also, they can earn a yield on their assets and participate in the lending market by contributing to lending pools and earning interest on these assets. Usually, the lending rates are much higher than in banks, which makes think about lending in DeFi as a good place to keep your money (but that’s not financial advice).
Decentralized exchanges allow users to exchange cryptocurrencies without giving up custody of their coins. Uniswap is an example of the most popular decentralized exchange.
V. Derivatives, Insurance, Lottery, Fund Management
Among DeFi projects there are also Derivatives (Synthetix) Insurance (Nexus Mutual, Opyn), Lottery (Pool Together), Fund Management (TokenSets), and other dapps.
The obstacles of DeFi at the moment are
- Hacks and coding errors.
- Anonymity of DeFi protocol creators.
- As crypto transactions are irreversible, some errors and mistakes cannot be corrected. Crypto-enthusiasts know this, but some people still prefer more traditional service which includes support.
- Bubble? Some people say that we are now in the DeFi bubble like we were in ICO bubble in 2017. While there is no doubt in all the useful aspects of DeFi, some projects remind a ponzi-schemes.
- Transaction fees. As now most of DeFi projects are on the Ethereum blockchain, sometimes transaction fees can be several dollars.
How DeFi will transform traditional finance
While the total value of USD locked in DeFI is $14.68 billion (as of 2 January 2021), this number remains still tiny comparing to traditional finance. Banks and other financial institutions are also trying to be as technological as possible and they are not going to give up.
DeFi can help to remove the middlemen in the financial sector and cut the operating costs. In some countries, DeFi can help overcome high inflation.
If DeFi projects will be able to overcome the listed obstacles, they will be able to transform or even replace the traditional finance. Right now more crypto projects, such as Cardano, Tezos, EOS, Binance are taking a bigger focus on DeFi and are going to release new products. Let’s take a closer look at what Binance is doing in this direction.
Binance: Bridging DeFi and CeFi
Binance is the biggest representative of CeFi (Centralized Finance). By the way, by joining Binance with this special partner link, you can get -20% trading fees. And, of course, an additional -25% if you use BNB.
Even before DeFi went mainstream, Binance started working on decentralized finance projects and introduced Binance Chain and Binance DEX in early 2019. Now Binance is bridging CeFi and DeFi.
For example, with the launch of Binance Smart Chain (do not confuse it with a Binance Chain), the Proof of Stake Authority consensus mechanism was introduced, which adds a staking functionality for BNB, the native token of the Binance ecosystem. BNB holders participating in staking receive BNB rewards from Binance Smart Chain’s validators and benefit from the same interests of DeFi staking returns on the CeFi platform.
Moreover, on Binance there are interest- and yield-generating products in DeFi Staking and Binance Liquid Swap. Binance Earn has multiple options such as flexible and fixed savings, staking (including Ethereum 2.0. staking), BNB Vault (which gives multi-benefits from BNB staking – right now there are 6 tokens ASR, ATM, JUV, OG, PSG, REEF), Launchpool (currently there are same 6 tokens mentioned earlier) and high-risk products. A strong advantage is the absence of technical barriers to entry and no costs of on-chain gas fees.
Additionally, a few months ago Binance introduced a seed fund worth $100 million USD for DeFi projects, support of the DeFi ecosystem, and solutions to bridge DeFi and CeFi ecosystems.
In conclusion, let’s quote Changpeng Zhao, from the ”Binance in 2021” message: “Fundamentally, both DeFi and CeFi will help grow the industry. Whatever happens, we are ready to support and adopt any new DeFi innovations and trends.”