What are DeFi tokens?
For several months now, DeFi is a term which can no longer be ignored. You read about DeFi everywhere, but what does it mean and what does it stand for? DeFi is directly related to financial smart contracts, decentralised applications (DAapps), and protocols that are unique to Ethereum (ETH), the second-largest cryptocurrency after Bitcoin (BTC). Some of the better known DeFi-platforms include decentralised stock markets, loan markets and branded physical assets, such as gold. It even expanded with other financial services, like derivatives, payment networks and insurances.
As a beginner in the world of crypto, it can presumably feel like you are reading a foreign language. We will explain the most significant elements, so that the remainder of the blog is easier to understand.
These constitute the core that makes Ethereum unique. They facilitate the operation of applications or scrips on the network to create digital resources. That way, complex irrevocable conventions, such as payments or transfers, will be authorised – without the need for an “intermediary”, which would normally be a bank or other established financial institution.
Decentralised applications (DApps)
DApp is a software application that operates on a distributed peer-to-peer network, as opposed to being hosted on a centralised server. It could be like any app that you open on a web browser or smartphone, except that it operates on a decentralised network, like Ethereum.
Decentralised exchange (DEX)
A decentralised stock market is like an online trading platform, such as eToro, apart from the fact that it is run by resourceful contracts, with the help of the Ethereum-blockchain. Unlike the traditional assets, it also allows you to trade cryptocurrency coins. The most important advantage of Dex is that, because it is centralised, it greatly reduces the potential risk of external hacks or internal fraud.
The main pros of DeFi
- Instead of relying on people for the management of processes, DeFi relies on rules which are written in code (resourceful contracts).
- The moment the smart contract is implemented on the network, the DApp can manage itself with a minimum of human interaction (automatically).
- Due to the decentralized nature of the blockchain, the smart contracts are essentially open source and can be audited by anyone. This results in a high level of user trust because anyone can learn the code from the contract or find bugs. All transaction activity is also public for anyone to view. Privacy is preserved as no transaction is directly linked to your real identity.
- DeFi and the DApps were created to be accessible worldwide, free from the restrictions of international borders. Wherever you are, you can access your DeFi services with just an internet connection. Keep in mind that there may be local regulations about Cyrptocurrency!
- DeFi is 'permissionless', meaning no middlemen or long forms to fill out. You can interact directly with the smart contracts from your crypto wallet.
- Since DeFi is 'permissionless', anyone can build or modify them. Think of smart contracts like an open-source API: if you don't like the interface of one of your DApps, you can just use a third party, or even build your own.
- New DApps can be freed up or modified by seamlessly combining other DeFi products, such as digital Lego pieces. Size is not an issue, with large and complex DeFi platforms such as decentralized exchanges or prediction markets having the ability to form completely new products.
The main cons of DeFi
- Decentralized blockchains are currently slower than their centralized counterparts and that affects the Dapps built on them. Despite this, many developers are optimizing their Dapps to address this shortcoming, and the technology itself is constantly being improved.
- DeFi transfers all responsibility from the intermediairies to the user. If you accidentally transfer money to the wrong address or forget the passphrase of your wallet, your money is gone permanent. There is no bank customer service you can call to undo the transaction or to regain access to your account.
- Blockchain technology is quite complex and the extra steps required to use DeFi services can be quite difficult for new users. This is compounded by the risk of a mistake that could result in the loss of your money. Many believe (with good reason) that creating a more user-friendly experience is key to achieving mainstream cryptocurrency adoption.
What is DeFi currently used for?
While the potential use cases for DeFi are huge, it is an emerging technology that is still in its development phase. Outside of the Dexs, DeFi’s main financial service offered is decentralized lending and borrow use case. This allows users to invest in digital assets to earn interest as well as borrow stablecoins pegged by the US dollar. In a way, it is like the blockchain version of fintech peer-to-peer lenders.
The future of DeFi
DeFi certainly has the potential to evolve on how global financial services will operate in the future. However, it is important to remember that blockchains and decentralization are not a solution for everything. Identifiying good use cases that can really take afvantage of this emerging technology could be the catalyst for mainstream adoption.
On Coinmarketcap.com is a full page devoted to DeFi tokens. At the moment there are 100 different tokens in circulation.
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