The advent of public blockchains/DLT networks and/or smart contract platforms has allowed to build applications on top of them providing access to a number of financial services/products in a decentralized way. The list of services is long and includes credit, exchange, derivatives, insurance, identity management, asset management etc. The applications derive decentralization from the public blockchains they are built on and that’s why called decentralized applications or DAps. Following are the properties of public blockchains that make the DAps built on top of them decentralized and better to their counterparts in the current financial system.
1) Permissionless: Anyone in the world can connect to a public blockchain network and access the financial services/products built on top of it without requiring any permission from anybody. There are various barriers in the legacy financial ecosystem that prevent a wider access to financial services. These barriers are status, wealth or location of the entity/individual accessing the services. DeFi has potential to provide a wider access to financial services as anyone in the world, having an internet connection and a smartphone can access DeFi services/products.
2) Distributed: In a public blockchain network complete transaction record is kept simultaneously on a number of computers around the world thus avoiding any single point of failure. This also makes Daps more secure.
3) Trustless: No central authority is required as a trusted third party to validate any transaction on a public blockchain. By removing any intermediaries DeFi has made possible cost effective access to financial services in comparison to that in the current system.
4) Censorship resistant: Public blockchains are censorship resistant as there is no single entity having absolute power to censor. Instead, the power is distributed across a number of computers on the network.
5) Transparent: The transactions on a public blockchain are publicly available and anybody can audit them.
6) Programmable: On a public blockchain using smart contracts, developers can program business logics according to their requirement.
Maker, built on Ethereum smart contract platform is the most popular DAp providing credit services. Anyone can get a credit by locking anyone from a number of crypto assets as collateral on the platform. The credit is provided in DAI which is a stablecoin soft-pegged to the USD. Holders of DAI can also earn interest, according to DAI savings rate.
At the current time of privacy and security concerns with financial transactions and zero to negative interest rate on bank deposits, the importance of DeFi can’t be ignored.