What is DeFi?
DeFi is a relatively new term that is used to describe the decentralized finance sector. It is a divergent form of investment market which does not depend on a centralized or regulated entity.
DeFi exists as an alternative form of financing as opposed to traditional finance or TradeFi. TradeFi is a more centralized market based on conventional technology with limited transparency and technical constraints.
The main focus of DeFi is on decentralization that is present at various levels which qualifies in different aspects such as design, distribution, regulation, disclosure etc. DeFi usually relies on a peer-to-peer structure that operates without intermediaries using smart contracts.
Smart contracts are automation protocol that carries out predetermined actions based on the set parameters. In this manner, DeFi brings democratic governance in the stead of banks, brokerage, and Non-Banking Financial Companies (NBFCs).
How does DeFi Work?
DeFi protocols are based on blockchain protocols that are called smart contracts. At the same time, DeFi projects are usually open-sourced meaning that anyone can view and utilize the source code of a blockchain network.
In this manner, there is greater transparency for all participants at all levels. DeFi users can make transactions using smart contracts such as wallet transfers, leveraged trades, staking, and other services etc.
DeFi blockchain networks ensure simple and economic access to investing opportunities, leveraged trading, and swaps. DeFi has given rise to decentralized exchanges such as Uniswap that offer an efficient borderless trading market for both retail and commercial investors.
At the same time, DeFi ensures that the digital transaction records on a blockchain are immutable to ensure security for all participants.
What are DEXs?
DEXs stand for decentralized exchanges. They are an important part of the DeFi ecosystem. Traditional exchanges are heavily regulated and impose considerable restrictions on investors and listing firms.
However, DEXs are usually more trading-friendly and economical in comparison. At the same time, DEXs contain Automated Market Makers (AMMs). AMMs are DeFi editions of market makers and bring more liquidity. AMMs are a substitute for order books on centralized trading platforms.
In this manner, investors can offer liquidity at an AMM and earn returns in the form of trading fees. At the same time, DeFi firms do not have intermediaries or custodial services.
Additionally, DEXs are able to interact directly with a blockchain network for processing transactions and accessing different types of services. Since DEXs are non-custodial wallets meaning that users have full control over their private keys, reserves, and transaction details.
What is DeFi Insurance?
DeFi is now incorporating innovative insurance solutions for investors. The existing insurance system has a complex audit mechanism. At the same time, it has extensive requirements such as government approvals and paperwork. However, in DeFi the application of smart contracts makes the process faster, cheaper, and more efficient.
In the current economic pretext, the onslaught of inflation, lowering interest rates, fiat currency devaluation, and decreasing purchasing power are some of the biggest issues. These issues plague the larger population of the world that has a fixed income and little opportunities to invest.
The problem has continued to persist as individuals do not have any options to use as store of value or hedge against inflation. DeFi has resolved these issues by the way of introducing hassle-free and accessible investment options.
At the same time, DeFi sector has extended an additional layer of security for investors through risk-savings and peer-to-peer transactions. DeFi leverages DLT or distributed ledger technology that removes trading barriers for both issuers and investors. In this manner, issuing firms can easily offer latest trading options to an extended market and investors can access a wide variety of trading options.
Additionally, DeFi has revolutionized the cross-border payment sector by making it as accessible and robust as ATM transaction. All these transaction methods make DeFi ideal for adding a whole new audience that can draw loans from banks with easier collateral and interest repayment requirements in comparison to TradeFi.
DeFi has contributed in many sectors such as gaming, supply chain, health care, social media, and others. However, the stakeholders in the sector are still working on measuring its global impact and introducing new innovative solutions to it.