July 13, 2021
DeFi is all the rage. Too bad many don’t really understand it. If you are one of them, don’t feel bad. DeFi is a newer term just now coming into wider use. This means that DeFi, short for decentralized finance, doesn’t have a strict definition. At least, not yet.
DeFi is a concept of automated financial processes. Basically, it allows you to directly do things that require bank support without the banks. You can borrow, lend, buy insurance, trade, and enter into different contracts and execute those contracts automatically.
It is faster because it does not require the paperwork of a third party. It runs on public blockchains, like Ethereum, instead of systems of a bank or a financial institution. It is peer-to-peer. It is also global.
Some great examples are the following:
1- Lending and Borrowing
• DeFi cryptocurrencies focusing on lending may allow users to take out a loan. The contract is on the blockchain. The parties put parameters and conditions for the contract to be executed.
• This is done by code instead of paper contracts. Because it is automated, maintenance margins and interest rates are automated. It could also allow for automatic liquidation should balances fall below specified collateral ratio.
• For example, someone wishing to lend cryptocurrencies would send those tokens to an address controlled by the protocol, earning interest based on the amount lent.
• Borrowers, on the other hand, post collateral in the form of a cryptocurrency. They are then allowed to borrow cryptocurrencies as a percentage of the posted value.
2- Decentralized Exchanges
• Decentralized exchanges (DEXs) may allow users to exchange crypto assets without the need for a mediator, allowing for the true peer-to-peer trading of cryptocurrencies.
• Derivatives markets are where buyers and sellers exchange contracts based on the expected future value of an asset. These assets can be anything from cryptocurrencies to future event outcomes to real-world stocks and bonds.
With DeFi, things are automated.
• You don’t need banks to process paperwork, or wait for their offices to open, or attend to your contract. It’s open 24/7.
• It is Permissionless. You can’t be denied to access a service because of prejudice or other unjust reasons. If your record shows you are qualified to buy something, you will be able to buy it. End of story.
• It is trustless. This means we don’t need a central institution for access to the service. Codes run things. And codes don’t discriminate or have prejudice. They know rules and they follow rules and rules only.