"If you want to run a regular money exchange business with scale, it can be very expensive and risky. For decentralized finance (Defi) exchanges, though, rather than business owners, investors, and their creditors putting up capital for all the transactions to take place, Liquidity Providers (LPs) do it for them, making a Defi exchange much better than a traditional centralized financial business." – Mark Cuban
The billionaire, who became a household name by selling Broadcast.com to Yahoo! for USD 5.7 billion in stock at the peak of dot.com, is now a liquidity provider on Defi exchanges. Cuban earns rewards helping users swap between tokens and sometimes boasts over 200% in yearly returns.
Mark Cuban is not the only one swept away by the benefits of Defi. It is pretty much gaining a lot of traction among the masses of late – although the industry is still at a nascent stage. Closely representing an open finance model, Defi eliminates the middleman from financial transactions, enabling users to use digital currency and take ownership of the same instead of intermediaries like banks or credit card agencies. It is based on Ethereum – one of the top cryptocurrencies. In laymen's terms, using Defi ensures that you don't need permission from governments or corporates to manage your finances or qualify for purchasing certain financial products.
You would have probably heard about Web3 around casually everywhere, but what exactly is it? From a contextual perspective, Web3 is an internet ecosystem where you can refrain from allowing companies such as Google to access your private information in exchange for using their services. This type of internet will be powered by advanced technologies such as artificial intelligence and blockchain, and all user information will be published on the blockchain's public ledger. Instead of being stored on servers, information on the internet would basically be recorded on the network, and any changes would be recorded on the blockchain, preventing data misuse and manipulation.
Essentially, Web3 will be 'decentralized' – it cannot be controlled by regulations set up by governments or corporations and will only be under the ownership and control of the user, even if it is stored on a server belonging to the government or a corporation. In the words of the Not Boring founder Packy McCormick – "Web3 is the internet owned by the builders and users, orchestrated with tokens."
The fact that Web3 is decentralized makes Defi one of the most prime use-cases of Web3. With this internet ecosystem coming into practice, deploying Defi, which uses cryptocurrencies to provide financial transactions sans intermediaries, would be easier. Defi can leverage Web3 to ease the processes such as receiving a loan, saving cryptocurrency, buying financial derivatives such as stocks, earning better interest than a bank, and money lending.
Traditional banks offer conventionally low-interest rates on savings and other financial products, such as fixed deposits and recurring deposits, consequently leading to a low saving stimulus. One of the reasons for this is that traditional banks promote loans with commercial bank money on which they levy a relatively high interest, thereby generating a huge corpus of fiat money and earning substantial profits for the establishment rather than the masses. This may have also triggered substantial consumer mistrust over a period of time.
A conventional finance system levies high commissions on high-interest loans. These fees are substantially at peak because of their high operating expenses, thereby making their products and services more expensive as opposed to those of other fintech establishments.
Unlike online banking, where conducting transactions can be a breeze, a conventional finance system requires you to be present in the establishment more often than not. Whether it's a transfer or something as simple as updating your statement, one is required to be physically present in the bank's office and within its business hours only, which proves to be a huge disadvantage.
'Banking hours' usually coincide with the work hours of many companies; thereby, employees mostly need a work permit to visit the bank. Also, for many, the distance to travel between the bank and workplace may be long and hectic, making it an additional complication for the user.
Traditional banks have many huge operating expenses. Apart from the standard administrative offices, they also have separate establishments for client service. One of the reasons for this is that having more in-person offices gives the bank more popularity.
Other than that, operating expenses include:
Although teller machines are available on a large scale for most banks, the ATM network is not really very reliable all the time. For one, the ATM units may be largely available across one city but very scarce in another region. Many units have low availability of cash and massive limits on daily withdrawal. In many cases, they simply have momentary failures, making it problematic for users to rely on ATMs.
One of the principal cons of the conventional banking system, and one that has been around for a very long time, is its slow processing. Some of the processes carried out in banks and similar traditional institutions are extremely slow and long-lasting. There are numerous times when transactions carried out between 2 branches, or two different banks are incredibly time-consuming, despite being rather simple in reality. Many banks have weekend and holiday restrictions as well, making it extremely frustrating for the user.
The shortcomings of the traditional banking system have led to customers looking for alternative financial products with better interest rates and more flexibility. The Millennial Disruption Index, a 3-year study from Viacom Media Networks, found that 53% of millennials claim their banks don't offer anything different from other banks. An astonishing 71% said they prefer spending their time at a dentist appointment rather than listening to what banks say.
Although the practices of traditional banks have been in question for a long time, the 2008 economic crisis brought much to light pertaining to the disadvantages of the conventional finance system. The concept of alternative finance began to gain prominence from then on, although Defi gained acceptance after the Ethereum network went live in July 2015. In a nutshell, the generic interest for a transparent relationship between finance platforms and the public and the rising demand to explore non-traditional financial products has been fueling the growth of Web3. Defi is one of the strongest pillars of Web3, with crypto firms and blockchain companies rapidly looking out to create more Web3-based positions.
Defi pulse's total value locked in decentralized finance is USD 70.97 billion until January 2022. Experts claim that the decentralized finance industry presently represents only 0.1% of its maximum potential, and it is expected to depict substantial growth in the years ahead. Ethereum network transactions alone have grown 33 times since then to around 1.2 million per day presently, and many of these transactions have come from Defi services like Uniswap and lending and borrowing protocols like Compound, BondAppetit, and Aave. For the record, Uniswap enables more than USD 1 billion swaps per day, while the latter represents tens of billions in terms of market valuation.
Statista claims that country-wise, between April 2019 and June 2021, the US ranked first in terms of Defi acceptance, followed by Vietnam, Thailand, China, and the United Kingdom. A surprise entry at the sixth position was that of India, where Defi acceptance has grown by leaps and bounds since the last few years. According to an earlier Chainalysis report, India ranked second worldwide with respect to crypto adoption, behind Vietnam, but ahead of China, the US, and the UK. The same report also suggested that the adoption of cryptocurrency globally rose 880% on account of P2P platforms commanding cryptocurrency usage in emerging markets.
Another report by Chainalysis also states that large institutional transactions, especially above USD 10 million, held more than 60% of DeFi transactions in the first quarter of 2021 as opposed to <50% for all cryptocurrency transactions. In essence, the adoption of cryptocurrency at the grassroots level seemed to be highest in emerging countries, while the adoption of DeFi was found to be strongest in high-income countries that had already been a part of cryptocurrency usage.
Given that the industry is still at a nascent stage, its acceptance among the masses is still a very long way to go. However, it is still managing to generate substantial waves worldwide – even if cryptocurrency is banned. Take an example of China – the country has cracked down on crypto, but this has only managed to increase the popularity and usage of DeFi. MetaMask users have grown ten times to 10 million in August 2021. And still, this apparently represents only a 5% penetration rate amongst crypto users worldwide, which in itself amounts to 221 million. A consensus drawn from these numbers is that general crypto users can prove to be a very massive market for DeFi in the years to come.
Nexus Mutual is a decentralized platform that enables investors to obtain insurance coverage against smart contract exploits. Last year in December 2021, its token, WNXM, rose by 38% despite the current volatile condition of the cryptocurrency market. Experts surmise that the key reasons for WNXM's sudden price change include:
In March 2021 for instance, Singapore-based cryptocurrency platform Hodlnaut inked a partnership with Nexus Mutual. The collaboration aimed at increasing Hodlnaut's maximum insurance capacity with the growth of the Nexus Mutual community-owned fund. In February 2021, Nexus Mutual received funding of USD 2.7 million; Collider Ventures led the round. During the last five months of 2020, Nexus witnessed its capital covering risks in the Defi ecosystem rise from USD 4 million to USD 100 million. This has made the company an indispensable pillar of DeFi transactions.
Compound (COMP) is a cryptocurrency (Ethereum) token enabling community governance of the Compound protocol, which is a series of decentralized interest rate markets allowing users to supply and borrow Ethereum tokens at different interest rates. It is said to be one of the pioneers of the liquidity pool concept, which pushed the Defi boom of 2020. Ironically, it operates very much like a bank, where people deposit a crypto coin and receive interest on the same.
Recently in December 2021, crypto exchange company Coinbase and Compound signed a deal wherein the latter claimed it is opening up decentralized finance (Defi) to customers wanting high yields from borrowing and lending crypto assets. It will start with DAI, a stable coin cryptocurrency having a value nearly equal to that of the US dollar, and Coinbase's customers' DAI will then be deposited with Compound.
MetaMask is a Web3 browser plugin with over 1 million active users monthly. It is an Ethereum wallet where users can store Ether and other ERC-20 tokens. It is also popular for interacting with decentralized applications and has been creating a storm in the Defi industry. Just a little over a year ago, in December 2020, ConsenSys announced a new offering from MetaMask that aims to provide traders, custodians, and cryptocurrency funds with state-of-the-art features and controls to connect Defi protocols and applications.
MetaMask Mobile, as the offering is called, makes it easier to use Defi applications. There's a new token swaps feature here that helps better execute digital assets and delivers an overall simple experience. MetaMask's Version 8 has already brought new levels of privacy to Web3, thereby enabling users to create a new account just for that site or to select one or more accounts they can associate with a website.
Avalanche is a popular U.S.-based digital exchange platform. AVAX, the Layer-1 blockchain, is quickly becoming a strong competitor for Ethereum. In a bid to be more energy-conscious, Avalanche deploys the PoS (proof of Stake) Protocol to make decentralization and scalability easy. It has been working to solve what is called the Blockchain trilemma, compared to the slower PoW Protocol that Ethereum is moving onto.
Despite the recent cryptocurrency crisis, Avalanche recorded an astounding 76% growth from its January low of USD 53. In November 2021, Avalanche's price hit a record high of USD 110. This sudden spurt may be on account of increasing Defi growth on the Avalanche ecosystem, claim experts. Recently in February 2022, Valour Inc., a subsidiary of Defi Technologies, obtained approval from the Nordic Growth Market stock exchange to list Valour Terra (LUNA) SEK and Valour Avalanche (AVAX) SEK – two new ETPs (exchange-traded products). Both these will enable institutional and retail investors to gain exposure to the native tokens of the Avalanche and Terra networks.
There is no doubt that Defi has a major place in the global economic system of the future. It challenges the conventional financial system by eliminating intermediaries and empowering the public, totally unbundling finance as we know it. The demand for Web3 will rise in the years to come, given its benefits such as easy implementation, fewer computational resources, and higher performance, inadvertently increasing the deployment of Defi. With the generation of Stablecoins, blockchains, NFTs, and more, Defi is only set to depict commendable growth in 2022 and beyond.
It does have limitations, certainly. There is no major consumer protection plan in place, neither is there any security against hackers. Defi lending transactions also require collateral equal to 100% of the loan value. Despite that Defi apps are changing the landscape of the finance system with the help of the blockchain and other revolutionary technologies. Defi is certainly slated to be the future of finance and is here to stay as it manages to replace error-prone legacy systems and innovate newer trading opportunities.