DeFi is an open and global financial system built for the internet age – an alternative to a system that’s opaque, tightly controlled, and held together by decades-old infrastructure and processes. It gives you control and visibility over your money. It gives you exposure to global markets and alternatives to your local currency or banking options. DeFi products open up financial services to anyone with an internet connection and they’re largely owned and maintained by their users. So far tens of billions of dollars worth of crypto has flowed through DeFi applications and it’s growing every day.
DeFi is a collective term for financial products and services that are accessible to anyone who can use Ethereum – anyone with an internet connection. With DeFi, the markets are always open and there are no centralized authorities who can block payments or deny you access to anything. Services that were previously slow and at risk of human error are automatic and safer now that they’re handled by code that anyone can inspect and scrutinize.
There’s a booming crypto economy out there, where you can lend, borrow, long/short, earn interest, and more. Crypto-savvy Argentinians have used DeFi to escape crippling inflation. Companies have started streaming their employees their wages in real time. Some folks have even taken out and paid off loans worth millions of dollars without the need for any personal identification.
One of the best ways to see the potential of DeFi is to understand the problems that exist today.
DeFi:
Traditional finance:
Bitcoin in many ways was the first DeFi application. Bitcoin lets you really own and control value and send it anywhere around the world. It does this by providing a way for a large number of people, who don’t trust each other, to agree on a ledger of accounts without the need for a trusted intermediary. Bitcoin is open to anyone and no one has the authority to change its rules. Bitcoin’s rules, like its scarcity and its openness, are written into the technology. It’s not like traditional finance where governments can print money which devalues your savings and companies can shut down markets.
Ethereum builds on this. Like Bitcoin, the rules can’t change on you and everyone has access. But it also makes this digital money programmable, using smart contracts, so you can go beyond storing and sending value.
This sounds odd… “why would I want to program my money”? However, this is more just a default feature of tokens on Ethereum. Anyone can program logic into payments. So you can get the control and security of Bitcoin mixed with the services provided by financial institutions. This lets you do things with cryptocurrencies that you can’t do with Bitcoin like lending and borrowing, scheduling payments, investing in index funds and more.
here’s a decentralized alternative to most financial services. But Ethereum also creates opportunities for creating financial products that are completely new. This is an ever-growing list.
DeFi uses cryptocurrencies and smart contracts to provide services that don’t need intermediaries. In today’s financial world, financial institutions act as guarantors of transactions. This gives these institutions immense power because your money flows through them. Plus billions of people around the world can’t even access a bank account.
In DeFi, a smart contract replaces the financial institution in the transaction. A smart contract is a type of Ethereum account that can hold funds and can send/refund them based on certain conditions. No one can alter that smart contract when it’s live – it will always run as programmed.
A contract that’s designed to hand out an allowance or pocket money could be programmed to send money from Account A to Account B every Friday. And it will only ever do that as long as Account A has the required funds. No one can change the contract and add Account C as a recipient to steal funds.
Contracts are also public for anyone to inspect and audit. This means bad contracts will often come under community scrutiny pretty quickly.
This does mean there’s currently a need to trust the more technical members of the Ethereum community who can read code. The open-source based community helps keep developers in check, but this need will diminish over time as smart contracts become easier to read and other ways to prove trustworthiness of code are developed.
DeFi is an open-source movement. The DeFi protocols and applications are all open for you to inspect, fork, and innovate on. Because of this layered stack (they all share the same base blockchain and assets), protocols can be mixed and matched to unlock unique combo opportunities.