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What is DeFi? How decentralized finance could mean the end for traditional banking - Photo by Shubham Dhage on Unsplash
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What Is DeFi in 2022? How Decentralized Finance Could Mean ‘Death Sentence’ For Banks?

What is DeFi?

DeFi, is an abbreviation for Decentralized Finance, is another key word that has entered our lexicon, joining Bitcoin, cryptocurrencies, NFT, blockchain and meta-currency.

So what is it DeFi?

Today, most financial transactions in the economy are digital. We are still using banknotes and coins on occasions, but it is marginal. It is a logical step that this largely digital finance is evolving in a decentralized manner. DeFi supporters will tell you that this new system will eliminate the need for banks and traditional financial third parties to process all types of transactions.

Smart Contracts

Any contract you make in the real world, whether you are taking out a mortgage or a mortgage or wanting to trade a few stocks or bonds, is based on rules. So this rule base can be coded. And this is exactly what intelligent contracts are, pieces of code that automatically execute actions if certain parameters are met. The revolution of smart contracts is that instead of being on a computer, they are cut by anyone who has a copy of the blockchain in question. In this form they can not be modified and will remain exactly the same code that will work in exactly the same way, forever.

Why do we need DeFi?

Why should we replace the traditional financial system with a decentralized version? According to some experts, DeFi has some advantages over its centralized counterpart. The first is efficiency. Removing intermediaries causes less friction and makes the processing of a financial transaction more fluid. The second advantage relates to costs. In traditional finance, transaction intermediaries are charging fees that are generally higher than what you currently pay in DeFi applications. The final point of DeFi’s sale, experts agree, is that it is a more open and democratic system. According to the Global Findex 2017 report, worldwide there are about 1.7 billion adults who are ‘bankless’, which means that they are excluded from the financial system. With DeFi, you do not necessarily have to have a bank account to access the funds, but you do need an internet connection.

What can you do with DeFi?

With DeFi, the idea is to have access to all the functions accessible with a crypto token. You can borrow and insure, make derivatives, crowdfund and gambling, among others. Take a simple example like crowdfunding. Let’s say you want to raise funds for a charity cause. In the current centralized system, you have to trust a third-party platform to raise funds from donors and give them to charity when the funding goal is achieved.

What is DeFi?
What is DeFi? – Photo by Shubham Dhage on Unsplash

While in a decentralized system, you can replace this broker and save on platform fees. You can simply set the parameters of this exchange and encode it into an intelligent blockchain contract. If the criteria in the ‘smart’ contract are met, the money is automatically sent to the charity. If not replenished, the funds are automatically returned to all persons who have donated.

Is it safe?

DeFi promises to democratize finances safely, conveniently and efficiently, but does that seem too good to be true? This comes with some important risks to consider. The first are defects in intelligent contracts. Since they are immutable, if you have an error in the code, it will be repeated constantly. The second risk concerns hackers, who may find breaches in the code and exploit it to their advantage. The third risk is related to the instability of cryptocurrencies. The ultimate risk has to do with the difficulty for newcomers to understand what DeFi projects to choose and which to invest in.

Wikipedia’s Definition of DeFi

Will DeFi mark the end of financial institutions as we know them?

While DeFi seems to offer everything that traditional finance does and even more, will it be the end of the financial system as we know it? Experts say it is more complicated than that and intermediaries will not disappear automatically, but their role will have to evolve. They will find themselves in need of proving their added value to the public as they will no longer be in a monopoly situation.

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