Decentralized finance and How Does It Work?

Decentralized finance and How Does It Work?

Recently, the term "Defi" resulted in a stir in the decentralized world. Many believe that Defi, or decentralized finance, can completely change the global economy, making the financial sector more transparent and accessible. It leverages on decentralized networks to transform financial products into transparent and reliable protocols that work independently. 

Defi use cases and applications.

DeFi has the opportunity to create a unique niche in space. There are almost 1.68 billion people worldwide who do not have access to the financial services required. Even with a simple Internet connection, they will be able to access smart contracts and experience immense economic growth and security with DeFi.

What are the DeFi apps?

DeFi or "decentralized finance" is a broad term and refers to digital assets, decentralized applications (DApps), smart financial contracts and protocols that run on public blockchains like Ethereum. Public blockchains have several highly disturbing properties.

Decentralization: Each node on the network maintains a copy of all data stored on the blockchain, negating the need for centralized authority. Imagine a decentralized bank or financial system that does not depend on the whims of a central regulator. This is one of DeFi's most exciting promises.

• Transparency: Since everyone on the network maintains a copy of the blockchain, all data stored on it is open for you to view.

• Without permission - A public blockchain, instead of a private/licensed one, is open to everyone. Using this property, DeFi will create a free system in which people worldwide who do not have what it takes to get financial services can participate without extensive paperwork.

• Resistance to censorship: Blockchains take advantage of sophisticated cryptographic hashing functions to be immutable. 

• Programmable - Public blockchain like Ethereum is open source systems and welcomes developers worldwide to build their specific applications. The openness to innovation has led to the creation of special DeFi applications.

Why do we need DeFi when we have cryptocurrencies?

They are considering that cryptocurrencies like Bitcoin are already decentralized and has no limit by nature.

• Old cryptocurrencies have decentralized the act of issuing and storing money. However, they have not decentralized the central financial system itself.

• Comparison of pure cryptocurrencies with DeFi is like comparing US dollars with loans. It is a financial service that can have different use cases.

• Cryptocurrencies still rely on centralized exchanges for their use. DeFi incorporates decentralized exchanges to ensure that there are no centralized points of failure within the ecosystem.

• Centralized organizations manage most cryptocurrencies.

The current DeFi system

The vast majority of DeFi applications are based on the Ethereum blockchain, as it is the most common smart contract platform in the world with a large developer community. You can think of Ethereum as a global supercomputer that leases its computing resources to developers worldwide who want to build their applications on top of it.

What are DeFi loans?

In a traditional bank, a user deposits his money on the platform and earns interest when someone else borrows it. The main difference is how the platform handles middle money.

In the traditional credit structure, financial institutions are issued loans, such as banks or third-party lending services. These institutions perform a thorough background check on the borrower to assess whether or not they will be able to repay the loan. The verification includes:

• Annual salary.         

• Credit score.

• Previous violations and some other forms of verification.

As such, many people are even excluded from the process. Even if they do, they will still have to pay exorbitant interest rates, making the whole system highly inefficient.

DeFi loans aim to democratize this whole process and connect borrowers to a wide range of creditors. Instead of having institutes acting as intermediaries, smart contracts directly connect the borrower and the lender. The smart contract is responsible for:

• Dictate the terms of the loan agreement based on predetermined times.

• Distribute interest accordingly.

Both the borrower and the lender can benefit significantly from the open nature of DeFi loans.

Borrowers

• Zero credit checks that make loans available to a wide variety of investors.

• Access various public services. For example, a borrower can temporarily borrow some EOS tokens and place them in the EOS system to participate in the network's governance.

• Immediately enjoy the asset they borrow on different exchanges to participate in margin trading.

Creditors

• The opportunity to obtain passive income through interest.

• Due to transparency and the lack of mediators, the lender achieves higher returns and has a clearer understanding of its risks.