DeFi — it’s the new buzzword around the stock broker’s watercooler.
DeFi — they say it could change the future of investing, of making money. But what is it?
DeFi stands for Decentralized Finance. It borrows the hot buzzword from the blockchain space — decentralized — and applies it to the finance game. Does the word stick though? Does decentralized finance show any promise or is it just another hype train? Let’s take a look.
Decentralized Finance: a brief overview
It all started with Bitcoin, blockchain, and ICOs. Bitcoin changed the world of money. It gave the world something like digital gold — something scarce, difficult to obtain, and available around the world.
Then along came Litecoin, Ethereum, and an ever growing basket of what would come to be known as cryptocurrency. They all promised to do what the internet did for knowledge — make money universally accessible– available for spending and saving to anyone, no matter where they are in the world. A recent article by Coinbase goes further by saying:
“The Decentralized Finance (DeFi) or Open Finance movement takes that promise a step further. Imagine a global, open alternative to every financial service you use today — savings, loans, trading, insurance and more — accessible to anyone in the world with a smartphone and internet connection.”
That sure sounds powerful. Savings accounts, car and other loans, insurance — suddenly accessible to unbanked people living in and out of developed countries.
Decentralized Finance: how is it possible?
Traditional finance is centralized, you see. This simply means that all records (and therefore all trust) must be kept under lock and key at a secured, trusted third party.
But decentralized finance means that records (and therefore trust) can be taken away from a fallible, human, middleman — and instead placed into the hands of math/programming itself.
Ethereum was the first company to think of this. The Ethereum blockchain allows for smart contracts to be written. These “Smart contracts” are programs running on the blockchain. These programs are created in such a way that when a condition is met (such as repayment of a loan, interest accruing on an account, or an insurance trigger) then the program doesn’t need to wait for a trusted middleman to verify anything — the program simply executes automatically.
These smart contracts enable developers who understand both blockchain and finance to build sophisticated functionality. This goes far beyond simply sending and receiving cryptocurrency.
Turns out DeFi is more than the latest buzzword — it’s a growing reality. A recent article titled “The 3 Best Bitcoin Lending Sites – Earn Interest on Crypto in 2020” goes on to say:
“Studies show when you have passive income, your stress and anxiety are reduced, you spend more time with friends and family, and you enjoy greater freedom to pursue hobbies and interests you’ve always wanted to pursue. You will do that too after you’ve learned how to earn interest on Bitcoin.”
The article then goes on to show examples of several platforms that use Ethereum smart contracts. These platforms help users deposit their Bitcoin/cryptocurrencies all while these smart contracts give:
- Security on your deposited funds
- Insurance on your funds in case of hacks or scams
- Crypto interest rate above traditional banking rates
All this is backed up by a Forbes article which states: “Blockchain could replace the current financial system because it is permissionless, decentralized and transparent.”
These smart contracts don’t need the centralized third-party middlemen of traditional finance because of those three words.
Blockchain is permissionless. DeFi can be too.
If someone wants to use a smart contract to borrow money — they don’t need anyone running a credit check. They just deposit collateral in the form of bitcoin or another cryptocurrency. Then they get a loan automatically in the same instant.
Blockchain is transparent. DeFi is too.
Smart contracts on the Ethereum blockchain — and other smart contract enabled blockchains — are publicly auditable. Anyone can check to make sure no funny business is going on. This promotes trust as well as eliminates cheating.
Decentralized Finance just might be the future of making money
All the factors above point to one thing: DeFi could be the way future generations save for their education, take out loans, and earn money on any cryptocurrencies they’ve saved up.
If Bitcoin and cryptocurrencies have in fact become a new asset class — then decentralized finance might be the way the financial industry profits from them. Perhaps it’s time we get on board.