As the new decade unreels, a new wave of disruption seems to be coming to the shores of the global financial system. That wave is called decentralized finance protocols.
Decentralized finance, or DeFi, simply refers to financial software that is built on the blockchain to make it easy for anyone to piece together digital assets and financial smart contracts. Think of DeFi as a Lego system for the finance industry.
According to Defi Pulse, an analytics site that tracks the sector’s growth, the entirety of the DeFi ecosystem achieved its highest valuation in 2019 when its value peaked beyond $600 million in June. In 2020, the value locked in the entire ecosystem has more than doubled, peaking at a value of $1.2 billion.
The potential of DeFi protocols
Incidents such as the global financial crisis of 2008 highlight serious weaknesses in the traditional global financial system. DeFi is emerging as a palatable solution to provide an alternate future for the traditional financial sector.
In fact, beyond the finance sector, DeFi has the potential to increase innovation as well as improve operational efficiencies in various ways. As DeFi applications widen across different sectors and industries, more and more investments are steadily pouring into the DeFi ecosystem.
The DeFi ecosystem has largely been populated by Ethereum-based protocols as a result of its early beginnings at the tail end of 2018 with the launch of MakerDAO. However, more diversity is underway as the sector matures and increases in liquidity, a report says.
From decentralized credit and lending systems, predictions markets and asset management, DeFi’s applications have caused quite a stir in the mainstream space for their capacity for enabling multiple efficiencies. As DeFi solutions continue to grow while bringing about financial inclusion and empowerment, here is a look at the sectors where DeFi is flourishing in 2020.
Prediction markets are created for the benefit of researchers, speculators and traders looking to bet on future events. Generally, their main purpose is for market participants to take advantage of the outcomes of events. The predictions can range from exchange averages to quarterly sales reports of a specific company, to elections and even commodity prices.
One of the companies using Ethereum’s blockchain to bring about decentralization to this sector is Veil, which is built on top of Augur (Ethereum’s leading prediction market protocol) and enables anyone to create, report and trade in their predictions.
From politics, finance, sports and worldwide events, the Augur predictions market can correctly rule on the occurrence of real-time events while ensuring trustless communication and bet settlements on a decentralized network.
Another company at the forefront of enabling decentralized finance in the predictions market is Gnosis. With Gnosis, anyone can create customized forecasting applications with conditional tokens that make it possible to trade the outcome of an event.
Digital wallets and asset management
If blockchain was the internet, then digital wallets would serve as the equivalent for browsers. Simply put, digital wallets act as the gateways to blockchain, and therefore all interactions with the blockchain are made on a digital wallet. However, finding a balance between simplicity and security while developing digital wallets is a challenge.
Also, managing digital wallets requires accurate knowledge of private and public keys, as mismanagement of these keys can lead to irreversible losses of the wallet’s contents. Furthermore, the steep learning curve — not to mention technical talk about hot and cold wallets — mostly goes over most people’s heads.
These challenges can become barriers to mass adoption. DeFi tools can, however, be used to improve simplicity in terms of asset management on a digital wallet.
MetaMask is a good example of how this can be done. The company has created a platform that enables interactions with distributed networks on a simple browser. This means an Ethereum decentralized application can be run on a browser without the need for using the full Ethereum node. Users can also open a wallet on their browser in just 30 seconds without giving up personal details.
Balance — an Ethereum wallet developing company that is working to build a simple, user-friendly interface for an open-source financial system — is also pioneering this sector. In terms of security and simplicity, Argent has boosted security and simplicity by giving users full control of the wallet. Users also get to choose easy-to-read wallet addresses unlike the complex cryptographic texts found in most digital wallets.
Another application that gets as close to a decentralized bank as it can is Zerion. The company has created a simple user interface with support for multiple wallets, not to mention a detailed transaction list of users’ DeFi investments.
Managing a digital wallet can be complicated for most people. Not only can a user lose their crypto funds through exchange hacks or misplacement of a private key, simply sending crypto to a wrong address leads to an irreversible loss of crypto funds.
For that reason, providing DeFi insurance is a sure way of giving users a decentralized experience similar to what traditional companies are offering in the sector. DeFi insurance protocols like Etherisc can be used to collectively build risk transfer solutions.
With Etherisc, whenever certain conditions are met as a result of unprecedented weather calamities, flight delays or attack from hackers, a smart contract self-executes to dish out immediate payouts. Nexus Mutual is also implementing DeFi insurance, but instead of only covering risky events, they cover users against the failure of smart contracts.
By pulling funds from multiple individuals into a smart contract, several people get to share risks, thereby eliminating the need for an intermediate insurance company. As a result, DeFi is also making insurance payouts more cost-effective.
Identity and KYC
It goes without saying that in a digital world, the most important data is personal data. However, there is less and less privacy at a time when such data is increasingly being referred to as the new money.
Multiple online businesses such as exchange platforms and even social media companies are beginning to ask users for their passport and national identification documents to prove nationality or address for verification. Unbeknownst to most people, personal data stored by most centralized institutions can easily be stolen and sold to third parties, especially if users have weak passwords.
Decentralized identifiers easily solve this problem by enabling users to create and manage their data, therefore, reducing the risks that come with centralized storage of personal data. Selfkey, for instance, offers decentralized identifiers that not only eliminate the need for centralized authorities but also give users self-sovereignty over their data. Instead of disclosing too much personal data while interacting with online platforms, Selfkey users can selectively choose what data to disclose during authentication processes.
Other companies building tools to enable online data privacy include Civic, a wallet provider for safe crypto and personal data management; Telegram Passport, offering unified authorization for online identity verification made by the creators of the Telegram messenger and Telegram Open Network; and uPort, a company focused on creating scalable and secure data exchanges.
Freelance markets and payments
Freelance work and the gig economy is seen by most to be the future of work. However, even as the number of freelancers in the modern workplace continues to grow, one of the biggest challenges that freelancers face is getting paid for their work.
From delayed payments to high fee charges from third-party service providers, freelance workers are mostly forced to move from one platform to the other as a result of a poor payment structure. With decentralized finance, smart contracts can be used to guarantee payment for work done.
Also, since crypto payments are instant and global, the gig economy can get rid of third-party service providers who charge exorbitant fees. Gitcoin is one of the companies pioneering DeFi in the freelance and payments sector, providing a marketplace for open-source development. Once an open-source project is complete, funds from the users of the product are directed to developers who contributed to the open-source project.
Ethlance is also making life easy for freelancers with its autonomous platform that connects freelancers to employers with zero service fees and free membership. Freelancers can also use services such as the Ink Protocol to access a decentralized payment system that can be integrated with any marketplace. The platform enables peer-to-peer transactions with a reputation system that can be imported or exported for use on multiple marketplaces.
The decentralized finance space is promising
Given that there are multiple inefficiencies in the current global financial system, DeFi tools offer an easy solution that can eradicate cybercrime, increase liquidity and reduce costs. Furthermore, DeFi protocols are capable of giving everyone access to quality financial services regardless of their status or location.
Related: Decentralized Finance, Explained
According to market analysts, the value of Ethereum locked in DeFi applications is growing even though the price of ETH has fallen since its last peak in June 2019. Crypto Wolf, a Twitter-based analyst, believes that Ethereum’s price will follow the growing trend of DeFi application in a parabolic curve.
However, despite the rapid growth of DeFi applications, a lot remains to be seen as to whether blockchain itself — the building block of DeFi applications — will be able to accommodate the transactional demands of the mainstream public.