What is DeFi?
DeFi is an abbreviation of the phrase decentralized finance which generally refers to the digital assets and financial smart contracts, protocols, and decentralized applications (DApps) built on Ethereum. In simpler terms, it’s financial software built on the blockchain that can be pieced together like Money Legos.
To get a feel for the products and services that exist in the Ethereum DeFi ecosystem, you can check out our DeFi rankings which tracks the current value locked into popular DeFi smart contracts.
Computers have disrupted nearly every industry over the years. Each innovation builds on the previous one, and digital products and services become more sophisticated. Through technology, we’ve catered the world to fit our needs. From digital assistants to home automation, programs now affect many aspects of your daily life. So why would money be any different?
What is decentralized finance and who is it for?
To better understand DeFi, we should first take a look at how traditional finance came about. Although it sometimes feels like money has always been around, that’s simply not the case.
Humans originally bartered for the goods and services. But as human societies formed and developed, so did our economies. We invented currency to make exchanging things of value easier. Subsequently, currency helped usher in new innovations and higher levels of economic productivity. However, progress didn’t come without its cost.
Historically, central authorities such as governments have issued the currencies that underpin our economies. Central banks and institutions were expected to carefully manage and regulate the supply of currency in circulation. As the size and complexity of our economies grew, these central authorities gained more power as more people placed trust in them.
You trust your government to not print more money overnight. You trust your bank to safely store your money. And, when it comes to investing, you trust your assets to a financial adviser. By handing control of your money over to others, you hope to earn a profit. But the sad truth about our current financial system is that the power that comes along with this trust isn’t always rewarded.
We often have very little say in how corporations handle our investments, or even how our governments manage the economy. And in most cases, investors only receive a fraction of the returns generated from the risks taken by these central authorities.
DeFi is trying to build something different
Decentralized finance aims to create a financial system that’s open to everyone and minimizes one’s need to trust and rely on central authorities. Technologies like the internet, cryptography, and blockchain give us the tools to collectively build and control a financial system without the need for central authorities.
There’s a saying in the blockchain space: “Don’t trust, verify.” Because with a blockchain network, you as an individual can verify any and every transaction that occurs on the blockchain.
DeFi allows everyone to take charge of their financial well-being
Almost all DeFi applications are built on the Ethereum blockchain, the world’s most popular programmable blockchain. Ethereum is a blockchain network that maintains a shared ledger of digital value. Instead of a central authority, the participants that comprise the network control the issuance of ether (ETH), the network’s native cryptocurrency, in a decentralized manner.
Developers can program applications on Ethereum that can create, store, and manage digital assets, also called tokens, on the blockchain. These are called smart contracts or decentralized applications (DApps). They’re contracts or agreements enforced by the Ethereum blockchain. Or rather, applications or scripts that run only as programmed on the Ethereum network. You can build complex irreversible agreements without the need for a middle man.
Decentralized finance has the opportunity to bring about a more resilient and transparent financial system. Anyone with an internet connection is able to access and interact with smart contracts built on the Ethereum blockchain. Many smart contracts are built to be open-source and interoperable with existing smart contracts. So, users can verify the smart contracts’ code and choose which services work best for them.
