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Today we’re living in a world where all our activity is monitored by Governments and Giant companies.

Mainly our financial activities because that define our purchasing power so companies could target with a suitable product.

Not only companies’ governments also have an eye on all the activities we do online, from purchasing to trading. The reason they give you is to make sure you’re not involving any illegal activity or any tax fraud.

This kind of monitoring every online move could be a red signal for those who love freedom and prioritize privacy.

So what is a solution if you prioritize freedom and privacy?

The solution is in the crypto world and calls it as DeFi.

What Is DeFi?

DeFi is a short form for Decentralized Finances, but it’s not a thing to name it, rather it is a movement in the crypto world for handling all the financials of an individual in a decentralized manner where no governments or any central authority have control.

As I stated, Defi is a movement, not a thing, so it’s a name given to the pool of DApps which helps you handle all the finance.

DApps are just apps you use daily on your Mobile or Desktop but one difference is, DApps built on the top of a Blockchain like Ethereum using smart contracts.

Since these are applications built on a particular blockchain, they can be combined, modified, and integrated according to your needs. Just like a lego!

So how are DApps revolutionizing finances..?

Think like this: you developed a coin on a blockchain that is pegged to the US Dollar that price never goes above or below $1 (they are called Stable coins in the crypto world, and I’ll explain them later in this post) to have the coin user must lock in the collateral of another crypto asset. And people who hold separate but related coins can vote on important decisions like the Stability Fee (similar to how the Federal Reserve’s Federal Open Market Committee votes on the Fed Funds rate).

This way, you just created the decentralized version of the US Dollar.

Now just imagine many DApps created around your coin to do all the financial activities such as Borrowings, Lending, Trading, Insurance.

This is just a glimpse of DeFI.

To get a clear understanding of DeFi, look at the differences between DeFi and CeFi (Centralized Finance).

Difference Between DeFi and CeFi.

DeFi.	CeFi.
Decentralized.	Centralized.
Built on the Blockchain.	Built the old foundation (centralized server).
Permissionless (no need of any KYC).	Permissioned (need KYC).
Open Source and encourage collaboration.	Close Source and decisions made in closed doors.
Censorship-Resistant.	Can be Censored.
Cheaper and charge network fees most of the time.	Expensive intermediaries charging hefty fees.

Ok, now you have the complete picture of DeFi.

It’s time to look at the building blocks of DeFi, which makes DeFi what it is today.

Building Blocks of DeFi.

#1. Stablecoins.

You know how much the crypto market is volatile, especially top coins such as Bitcoin, Ethereum. If you bought Bitcoin for $46K and want to sell it after an hour, then the price could be $45K or $47K.

These kinds of high volatility nature in cryptos become a big hurdle for many people to get involved in cryptos.

So stablecoins were created to solve this problem, and they became the important building block of the DeFi movement.

Stablecoins means their price stable cryptocurrencies whose market price pegged to another stable asset like the US Dollar means if a stablecoin pegged with USD, then that coin price will constantly be as $1.

The idea of stablecoin revolutionized the crypto world because you don’t need to involve your bank every time you do crypto trading and easily facing the impact of volatility using stablecoin where you can convert any cryptos to stablecoin instantly and buy crypto with stable coin whenever the price suits you on any exchange.

Projects like Tether, USDC, Maker, Bandot are best examples for stablecoins.

#2. Credit Markets.

Lending and Borrowing is the soul of finance at least once in a lifetime we get into debt that could be a student loan, Home loan, Car loan.

All these Lending and Borrowings are done through Banks or Peer-to-Peer Lenders, and they work in the same fashion by being a broker between lenders and borrowers using lenders money to give borrowers and charge a slightly higher interest that they have to pay lenders, so they keep the differences as profits.

But now, many blockchain projects disrupt the old centralized credit market and become a big part of the DeFi ecosystem.

Here DeFi smart contract allows users to become lenders or borrowers in a completely decentralized and permissionless way while maintaining full custody over their coins.

Compound, Aave, Acala, Akropolis are some of the Credit Markets working now.

#3. Decentralized Exchanges (AMMs).

For trading, we depend on the order book model whether it is traditional shares or cryptos where centralized market makers control the orders, prices.

To eliminate these market makers many exchanges emerged with the idea of providing a P2P trading method, but the problem is P2P method is not scalable at a bigger level, so new exchanges born with the idea of Automated Market Making where liquidity pools control the trading instead of market makers.

Liquidity pools are nothing but the pools of tokens that are locked in the smart contract, and they are used to facilitate trading by providing liquidity. The tokens provided by the liquidity provider, and they receive a reward for supplying the required asset.

The price of the tokens in the pool is determined by a mathematical formula. This method is called Automated Market Maker, and now it is an important building block of the DeFi ecosystem.

Best example for AMMs is Uniswap, Curve, Balancer,  HydraDX.

#4. Oracles.

In the finance world, we need authentic real world data to do any activities like trading or just tracking price movement.

DeFi smart contracts could face the problem of accessing real world real time data that isn’t on the blockchain, like the live price movement of Bitcoin. So oracles act as the data sources that can feed real world data into a smart contract.

Simply put, oracles act as the bridge between real world data and blockchain based DeFi applications.

Especially decentralized oracles because of promoting decentralization and having no single point of failures.

Here is my previous post that will give you deep insights into oracles.

Chainlink, Kylin Network are the best examples for oracles.

#5. Synthetic Assets.

The derivative is the famous trading instrument in both the real world and the crypto world, where the underlying asset value is derived.

In fact, many crypto exchanges offer crypto Derivatives trading where you can trade different types of derivatives like Forwards, Futures, Options, Swaps and many more.

But all the activity is done under the centralized party. To change the scenario, many Synthetic Assets are born to bring decentralization to derivative trading.

Synthetic Assets are just like derivatives that derive value from the underlying asset, but one difference is Synthetic Assets combine various derivatives such as options, futures, or swaps.

By using these unique synthetic assets, investors can own tokens that track the value of certain assets without having to leave the crypto ecosystem.

UMA, Synthetic, Laminar are the synthetic assets available to trade.

#6. Asset Management.

As you know, the crypto space is growing bigger and bigger every day, opening new opportunities to invest.

So it became hard to find new investment opportunities. Heck, it’s even harder to track current investment portfolios.

The solution to this problem is there but in the form of centralized tracking tools; however, now the scenario is changing as new decentralized asset management protocols emerged.

Asset management services under the DeFi umbrella aim to make investing easier, cheaper and more accessible. Aiming to maximize profit while minimizing risk without needing any fund managers, plus these services are also automated, so rebalances, collateralisation, and liquidations take place smoothly and quickly.

Currently, many projects are working in a different principle of asset management, but a common theme is making it easier (and safer) for DeFi users to keep track of their ecosystem interactions in a suite of intuitive dashboards and interfaces.

Projects like Yearn, Alpha, Centrifuge, Reef can help you in asset management.

#7. Smart Contract Execution.

Ok, we have all the things such as stable coins, credit market, asset management DApps that make the DeFi ecosystem.

But all these to exist, there is a need for a platform that executes the smart contracts of different DeFi apps.

Etherereum is the best example of a platform that executes a smart contract to make a DApp. It’s like an Operating system that allows developers to write code and execute for creating software or apps.

These are all the building blocks that made the DeFi ecosystem.

These are all the building blocks that made the DeFi ecosystem.

Benefits of DeFi.

#1. Quick and Permanent Access.

With centralized finance, many people struggle to access financial services. Even some studies state that 20% of the global population cannot access Banking services because of CeFi’s complicated structure.

For example, if you want a loan from the Bank, then you have to go to the bank with the proper documentation plus a good credit history, and you’ll have to contribute precious time.

On the contrary side, in DeFi, you can get a loan with just one click, even in the middle of the night. You can access the market from anywhere and anytime as long as you have an internet connection.

#2. Boost Earnings.

In the crypto space using different DeFi apps, many people make a lot of money, sometimes 2X or 3X returns, using methods like yield farming.

If 2X or 3X returns seem impractical or overwhelming, then you can always make a good return than the traditional Banking investments.

Using many DeFI apps such as Compound and Dharma allow for driving additional value to the investments in digital assets. These apps can help in utilizing digital assets like DAI or USDC that, in turn, are allowed for other users to borrow.

#3. Distribution of Power.

You already know how COVID-19 affected the CeFi system because of many reasons, but the main reason is the centralized structure of the system, and the whole system has direct contact between individuals.

In the case of DeFi’s COVID-19 bring a boost to many DeFi projects, and still, they’re on the rise because the whole system is decentralized and aiming to give power in the hand of every individual.

#4. Encourage Innovation.

The DeFi apps are open source, meaning that the apps can be reviewed by anyone if the change looks needed, then the app can apply those changes.

This will encourage innovators to create new decentralized apps for the financial sector.

#5. Reduce Human Errors and Mismanagements.

Remember the 2008 financial crisis that occurred due to the mismanagement of central Banks.

But in the DeFi system, thanks to smart contracts, human error on a day-to-day basis is removed from the process; unless the contracts themselves were poorly written.

#6. Encourage Automation.

Many processes in the financial system can easily be automated, but under the CeFi umbrella, automation is hard to implement.

In DeFi, many processes are already automated, as I already mentioned how effectively apps are managing portfolios, plus the whole system is open-source, which encourages developers to do more experiments with the network for automation.

Ok, all these are the benefits of DeFi, but there are always two sides to a coin, so if there are benefits also there are drawbacks that exist.

Here are some drawbacks of DeFi.

Drawbacks of DeFi.

#1. Smart Contract Problem.

Smart Contracts are the heart and soul of any DeFi app, so it has to be perfect without any flaws.

If any bugs found out by a person who has the wrong intention, like a hacker, then the app could be exploited and can lead to loss of funds.

#2. Centralization.

Yes, you read it right, centralization is a big issue in DeFi. Now you can argue; from the beginning, you’re saying DeFi is decentralized, so how this point makes sense.

But hold on a bit and realize, every app is not exactly decentralized. They’re decentralized only as their most central components. This means that some apps may be partially decentralized while still keeping some centralized aspects that can act as Achilles heel.

#3. Research Before Investing Into Any DeFi Project.

It is not exactly the drawback of the DeFi system, but I included it because at last investing is your decision to make.

Realize one thing before taking any step forward in DeFi. DeFi is still in its infancy, too many projects come and go, so you have to be more conscious about your decision by collecting as much information about the project.

Conclusion.

Before wrapping up, I would say that DeFi is revolutionizing the entire finance sector, and yet it has a long way ahead. It’s worth joining now on a long journey.

Now it is up to you to join the DeFi movement.