On May 20, Forbes magazine published a publication entitled “DeFi is changing global finance faster than the US Federal Reserve can print money.” This is one of the cases during the coronavirus pandemic when words are often heard that the world is changing dramatically, and new technological solutions are beginning to firmly enter the life of mankind. So, we are witnessing a restructuring of the global financial infrastructure, in which decentralized finance (DeFi) is beginning to play an increasingly important role. DeFi is most often understood as various applications based on the Ethereum blockchain, which provide users with a wide range of financial services.
Projects on the DeFi market alone do not seek to replace traditional financial services. Nevertheless, they begin to solve those problems that the traditional financial infrastructure does not cope with or does less effectively. At the same time, the current policy of the US Federal Reserve, which poses an increasing risk of a strong depreciation of the US dollar and the possible introduction of negative rates of return on government bonds and bank deposits, contributes to the growth of DeFi’s popularity among both US citizens and among American institutional players.
The DeFi ecosystem today has a wide range of directions:
• Loans. ETH, USDC, BAT, WBTC can be used as collateral, and the largest project on this market at present is Maker DAO (51.89% of all funds raised in DeFi), which transforms these assets into loans. For example, the Nexo project is developing along the same path.
• P2P lending (Zano).
• Liquidity Pools (Kyber, Uniswap, Bancor).
• Crypto insurance (Nexus Mutual).
• Percent-deposits placed with ETH, DAI (Maker DAO decentralized stablecoin), USDC, Tether and BTC. There are more and more such projects, and the leaders among users are the Celsius Network and Bitwala.
• Bonus points for purchases (Fold, Loli, Pei and Donut).
• Cryptocurrency derivatives (futures and options).
• DeFi investment funds. So, the PieDAO BTC ++ portfolio consists, for example, of WBTC, Synthetix BTC, Provable BTC, imBTC coins purchased in equal proportions.
Bitcoin also began to come to DeFi. So, on BTC, placed as collateral for a deposit, a new token is issued through a smart contract. Access to this token can be obtained in a digital wallet on the Ethereum blockchain. This is how the tBTC, sBTC, renBTC, pBTC tokens appeared on the market.
At the same time, tokens such as WBTC and imBTC have a common characteristic: in their work, individual custodian providers of bitcoin storage services are involved in exactly the same way as in the situation, for example, with the stablecoin USDC. WBTC received an additional boost to development when it began to be used as a guarantee by the Maker DAO. As a result, on May 13, 1,000 WBTCs were released, plus the previously issued 1,300, which is more than the number of bitcoins in the entire Lightning Network (927 BTC).
The partially centralized nature of WBTC and USDC has led to criticism of the Maker DAO decision to include them in the list of available assets. However, risks from third parties storing USDC and WBTC US dollars and bitcoins to secure these coins can be mitigated using DeFi insurance tools. At the same time, the functioning of WBTC provides additional demand for bitcoins, which is a positive signal for the cryptosphere.
Those stablecoins, which originated mainly for DeFi and are provided with various crypto assets, receive support in the cryptosphere for the same reason as WBTC. So, on May 5, one of its founders, Tyler Winklevoss, announced the listing of DAI on the Gemini crypto exchange. And on May 20, it became known about the large-scale issue of this coin.
In the case of dollar stablecoins (USDC and others), the emerging demand for American currency in the DeFi sphere and outside it may eventually turn out to be an innovative tool for the US Federal Reserve. Thus, the development of the stablecoin market may reduce the risk of depreciation of the US currency, but until the US Federal Reserve decides to launch its own digital dollar. Then CBDC from the American authorities will begin to fulfill the function that dollar stablecoins are now performing.
However, the further evolution of the global financial system will involve the competition of the digital dollar, other CBDC, infrastructure and services with what DeFi can offer by then. Until this time, rivals of the Ethereum blockchain (Liquid from Blockstream, Cosmos, Tezos and Algorand, as well as new players) should make DeFi more diverse so that Maker DAO does not dominate it.
High commissions for BTC transactions, as well as a long time for their confirmation, led to the fact that projects that are an alternative to the oldest cryptocurrency began to appear on the cryptocurrency market. So DeFi follow the same path of diversity. On May 20, the rate of the native token of the Maker DAO project, MKR, fell sharply in price by 60%, as researchers from Santiment warned. Evolution is what makes the DeFi system flexible: the Ethereum 2.0 expected in the coming months will increase competition in it.
The variety of DeFi service providers is also important in terms of competition efficiency with various CBDCs. There is no doubt that such a competition with DeFi will unfold, and the user of the new financial era will determine for himself what suits him best. In this case, the classical financial infrastructure will either integrate DeFi-solutions, losing its many intermediary functions, or will come to naught.
DeFi by their nature contribute to the development of solutions for “linking” various blockchains, as the built-in financial communications “link” various cryptocurrency projects into a single ecosystem. So, the pBTC token is already compatible with both the Ethereum blockchain and EOS. And this trend will become stronger over time.
Another important point is that DeFi can fill the financial needs that business and citizens are starting to face in a number of developing countries. The presence in such states of monetary units that are not world reserve currencies leads to limited opportunities to increase the issue of national currencies. Central banks cannot lower interest rates to about zero or lower, as the US Federal Reserve, the Bank of England, the ECB, and the Bank of Japan do, because they fear, and quite reasonably, that they will “drop” the exchange rate of national currencies.
In such a situation, the possibility of attracting financing through DeFi becomes a convenient alternative for both individuals and legal entities, and for state budgets. This is especially true for countries that live under US sanctions and risk not getting dollar swaps in the future for their financial systems: their airbags are rapidly declining due to the economic stress caused by the COVID-19 pandemic, and they need to look for borrowing funds. If this becomes difficult to do with the help of a classic financial infrastructure, then it is DeFi that can provide new ways to replenish budgets. Another option is a large-scale emission of their currencies, which in the end will not cause economic growth, but will lead to catastrophic and uncontrolled inflation.
It is curious that DeFi is now needed by both the US authorities and the leaders of countries for which sanctions were imposed: everyone has their own interests, but they agree on the benefits of integrating the capabilities of decentralized finance. This is not surprising: DeFi is an evolution of the global financial system, which is being implemented before our very eyes.
Stablecoins, such as DAI, can potentially act as a tool to stimulate the tokenization of various tangible assets, according to an AlfaBlock study. Moreover, the potential is huge: for example, real estate is valued in the world in the amount of $170 trillion.
There are prospects, and they can be seen in the flow of funding. Investors are scrutinizing which projects are only at the very start of their development, in terms of assessing their capitalization, and are ready to support them, as reported in the report of the Fitzner Blockchain Consulting.
In April, the amount of funds raised in DeFi projects was 56.1% more than in March ($4.84 million versus $3.1 million). Moreover, DeFi accounts for almost 40% of all investments that go to various startups of the cryptosphere. This is the largest specific share. In second place with an indicator of 12.9% are funds allocated for the creation of blockchain infrastructure. The latter is logical, given that startups in this area enter into contracts, for example, with the US Department of Defense. Moreover, on March 2, it became known about the creation of the Ren Alliance organization, which supports 51 projects in the field of DeFi. The initiator of the launch of such an organization was the Polychain Capital crypto-investment fund.
Investors are ready to finance projects in DeFi. The majority of players in the cryptosphere have heard about this infrastructure (89%, according to a CoinGecko poll of May 20), however, only 10% of respondents used the services of this industry. This suggests that DeFi has great development potential. Meanwhile, famous investors become its investors, and not always from the world of finance: for example, actor Ashton Kutcher.
Now the amount that investors spend on DeFi-projects, in absolute terms, look insignificant. However, this suggests that creating a service provider in the innovative financial industry is tens of times less expensive than opening a classic bank or investment fund. DeFi is an infrastructure created by decentralized financial “3D printing”, which also allows you to build buildings ten times cheaper and much faster than if you do it in a classic way.