Have you ever thought about why Decentralized Finance (DeFi) emerged quickly in the financial technology world? Well, let us explain to you what the hype is all about.
First off, let’s get to know Decentralized Finance or DeFi per se. DeFi is a system that provides financial services without the need for intermediaries.
For better understanding let’s look at its opposite, Centralized Finance. In Centralized Finance, your money is within the banks or institutions, and hence, the control is theirs. For example, you purchased a bag using your credit card. It will be charged from the seller to your bank, and will then be forwarded for payment.
The difference is that, in DeFi, asset and business owners are allowed to control their own transactions using the said technology. It promises that it can do almost all the things a normal financial institution can do, but even better. They claimed that since intermediaries and normal paper works are no longer needed, the transactions within DeFi are also faster.
The way it works is through a computerized peer-to-peer ecosystem, which does not have any barrier and is open to all. Meaning, it is like a digital option to brokerages and venture banks such as Wall Street or the City of London, but since it is digitized, there are no added costs for office spaces and employee salaries.
With all these benefits of DeFi, its Total Value Locked (TVL) blew up from USD700 million to about USD20 billion in a period of only one year and is currently assessed to be as much as $200 billion based on this link.
In fact, DeFi’s first project, Maker, has been a topnotcher with regards to TVL of ether among all DeFi systems ever since it started. For a little background, it is a permissionless loaning platform that created DAI, the very first Ethereum-based decentralized stable coin.
This emerging system definitely keeps drawing people and other financial institutions to even consider DeFi products as a form of exchange. To back this claim up, the United States (US) has just announced that stable coins will be offered as income returned on the users’ investments.
Institutions Drawn by DeFi
According to Dexalot’s COO, Tim Shan, three major enterprises namely State Street Corporation, Fidelity Investments Inc, and BNY Mellon, have now put their money into the digital currency industry and started offering services of the same.
State Street. This $40 trillion-worth custody bank already began to have crypto-based services as its investment approach to their private-reserve clients by launching their digital division for the past year.
As per Shan, even the most traditional Repurchase Agreement (Repo) markets started to lend on bitcoin, from their usual transactions using treasuries, securities, and bonds.
Though DeFi started with its goal of only having services like loaning and to be used in a proof-of-stake process, others are optimistic about its progress.
James Taylor, the Chief Business Officer of Unizen, a line that caters to both central exchange and decentralized trading, emphasized that DeFi is undoubtedly drawing businesses since it presents improved credit risk management and higher return of investment than the usual bonds, and therefore gives more confidence to the clients.
Global regulators are now more engrossed in this financial technology due to its fast-paced progress. It has been emphasized by the Chairman of United States (US) SEC and former investment banker, Gary Gensler, that DeFi isn’t exempted from surveillance. More so, it is worth noting that one of the main concerns is its legal organization type.
Filling in the spot of the business’ regulatory system, United States’ Congress has formed a paradigm to regulate it in the country. The said framework consists of specified roles for its different agencies.
As for the global framework of cryptocurrency and computerized assets, the ex-chief of BIS Innovation Hub, Benoît Cœuré, spilled that talks about the issue have intensified because of the emerging DeFi industry.
In addition, UDHC’s Chief Executive Officer (CEO), Steven Becker, compared DeFi to oceans. In his view, even though you can’t control oceans, you can still control ports and shipping systems. Hence, the company’s main point of business is now on decentralized finance with regard to government laws.
Educational development, and operation and user-friendly approach. These are the suggestions of a governing body at HyperDex, Stefano Jeantet. Jenatet claimed that developers must break the information barrier and thrive to have an operation that is less intimidating for customary investors.
In conclusion, more input from regulators must be obtained in order for the public money (i.e. pensions, taxes, etc.) to be funded in DeFi freely.
Answers from Institutional Markets
Several institutions have answered questions thrown at the industry. First is VALK. This end-to-end digital transaction platform in United Kingdom (UK) is included in UK’s Financial Conduct Authority’s regulatory sandbox. This allows them to have goods and service testing in an environment with controlled parameters.
VALK created a digital wallet that authorizes companies to be in charge of their DeFi fund on a single environment using one account. This is called Merlin. It is one of those programs that is indeed an answer to the flourishing DeFi system.
Another one is from Aave. This $12 billion worth of TVL enterprise has introduced “flash loans”. It is one of their flagship products that allows clients to get loans without collateral, the first in the said financial industry.
Where are we now?
According to VALK’s study, DeFi holds 30% of the investment in the global market and is anticipated to add 39% further in the next six months.
However, it was also identified that investors are worried on the regulation side, which is about 54%, and 52% on being secured.
As a whole, 84% of the participants are still waiting for the regulatory system to be improved in 3 years, and 12% for the bank-related aspects.
Antoine Loth of VALK and Mr. B. Mahoney of Alkemi, a liquidity network company, have the same perspectives. They expressed that since DeFi is quickly emerging, it must be transparent and liquid, just as what financiers are looking for.
It was found out through VALK’s research that 69% of funders are into DeFi through web browsers as their digital wallets, 48% through tangible ones, and about 43% through custodians. On the other hand, 27% of them are into privacy-preserving computation, and 83% are on merging-based programs.
In conclusion, decentralized finance (DeFi) has really evolved rapidly, but its journey is still long. One cannot say yet that it is already a replacement to the traditional institutions we have in the financial world.
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