In 2018, when the crypto community was dealing with the biggest crypto market crash, a different blockchain term, DeFi or decentralized finance, and its application was gaining traction. However, the idea had been inside the Ethereum ecosystem since the beginning.
The concept was fascinating enough, that in 2019, the most popular projects that were realized on the blockchain network were all DeFi. In the last quarter, mainly, decentralized finance saw exploding growth with names like Maker DAO or Compound Finance monopolizing the DeFi market.
Why did DeFi become the talk of the town?
Amid the coronavirus outbreak in Q1 2020, the already struggling global economy saw a sudden downfall. The share market started to plunge, and oil prices were plummeting. When businesses were closing down, when banks limited their operations, and shops weren’t opening, DeFi was blossoming. In fact, it wouldn’t be an exaggeration to say that DeFi’s locked fund count went up. The numbers that started as small as $200k in March 2019 kept on rising till February.
It created a picture that people were entrusting DeFi more than their banks or traditional saving methods. According to data provided by DeFipulse, the number of locked funds with DeFi reached over $1.2 billion in mid-February 2020. That might appear small, but seeing how young DeFi is, the progress is nothing short of overwhelming.
DeFi’s rapid increase was halted by multiple attacks made on bZx and the stock market crash, aka Black Thursday of March 12th, though the effects on DeFi weren’t as severe as the major cryptocurrencies that were down by 40%.
Cryptocurrencies that were earlier considered to be not-correlated with stock markets fell. The whole idea behind crypto was to create digital finance that stays unaffected by what happens to the traditional market. Still, the fall in prices established a connection, at least that’s what as it seemed initially.
DeFi could have proven to be strong among the market crash had the bZx incident not happened. Seeing the exploitations, some consumers grew fearful of their investment and as a result, their confidence in decentralized finance platforms reduced.
When everything looked doomed, there was an indicator that shined bright. During the first three months of 2020, including the bZx attack and Black Market crash, the number of active users was pretty much consistent. Meaning, the people who had used DeFi were still using DeFi, at least the majority of them were. In DeFi’s own little world, the number of active and consistent users is a metric to gauge growth, and it was positive. Since there’s no intermediary to act as a transaction verifying authority on Dapps, the whole process becomes seamless and quick. There’s no lead time or high transaction fee and, most importantly, “no involvement of any third party” whatsoever.
This graph published by CoinTelegraph shows exponential growth on DeFi assets despite the pandemic and massive global economy slowdown.
Addressing the Problem at large
The fact that the present financial system at large has accumulated massive wealth is not hidden. But not many of them know the centralized nature only favors those closely connected to the center of this. Meaning, the means of building wealth remains mostly with a few while the rest of the people can’t access it.
Although the rise of the internet and smartphones bridges a gap with around 2 billion people using digital banking and other finance or asset management tools, the inequality remains in force. Now, if the unfairness is added with a bunch of conditions, (refer to the bullet points), the scenario becomes even more chaotic.
- Permission to access: Geographical region, the wealth of individuals, and other factors could and do prohibit access.
- Centralized Authority: A single institution has complete control over the records in a central server.
- Validation: A central and third party are needed to carry out and validate the transactions
- Ambiguous: No transparency at all. Only an authorized institution can see or audit the transactions.
- Dictatorship: The central authority can choose to shut off its network whenever they want. They can declare a transaction invalid and wouldn’t reverse if a faulty change has been done in most cases.
- Totally Rigid: Highly inflexible, central authority dictates term and user costs are kept at high.
With Decentralized Finance based Dapps, the above problems find an easy solution:
Global access to financial services – Anyone with a smartphone and connectivity to the internet would be able to access the financial services and benefit from it. DeFi levels out the playing field, so a daily wage worker would find themselves using the same services as a multi-billion dollar CEO.
Boundaryless/cross border transactions – The existing system allows cross border payment with extensive monitoring and a very high fee. On the blockchain, the intermediaries’ charging commission get eliminated, and transactions become highly affordable. The transactions are transparent too because anyone can audit it.
Better security and transparency – Unlike central institutions, on DeFi, a user has complete control over their assets. They can make a transaction whenever they wish to without having a third party to validate.
No Censoring – Blockchain isn’t a single server that can be turned off in a jiffy; thus, the transaction made on a decentralized system becomes immutable.
Easy to use – Since everything becomes boundary-less, the usability of Dapps become easier as well. It would be like if a farmer in the remote region of Vietnam could apply for a loan in Australia.
Why does everyone with a critical and economic mindset see it as a tech that might replace the traditional financial system soon?
History has a lot to teach, and countries falling one after another reflect the underlying issues. Without digging too much into history, let’s go through some of the recent incidents:
In Venezuela, the government’s inadequacy led to printing more money. The monetary dump crashed the economy, and inflation catapulted 1,000,000%. The mistakes made by the government caused severe consequences for Venezuelan citizens.
As inflation got out of control, people looked towards digital assets. Citizens in Venezuela entrusted decentralized systems. They started using Bitcoin to get away or to help their families living elsewhere, though crypto alone couldn’t save their economy.
Calling Argentina bankrupt wouldn’t be an overstatement. The country is about to default on its global debt for the ninth time. Analysts are calling it the worst ever economic crisis to hit the country in its entire history. When the country is facing severe challenges economically, citizens fear for their lifetime’s worth of investments that are ready to be devalued. As it happens, more and more people are buying cryptocurrencies.
According to a report, Argentina witnessed a 1000% rise in BTC purchase between 2018 and April 2020. Inflation is rampant, and devaluation of assets are in order as the country lost 30% of its value in just a year.
The catastrophic events taking place in those countries tell of how poorly and ineffectively the governments managed their assets. But who has to face the consequences? Innocent citizens, obviously.
Is DeFi the Solution?
Coming back to DeFi, as the central bank continues to borrow and dump, it is showing its inefficiency to remain reliable and why the financial system hasn’t witnessed a revolution for over a century now. The old and barely functional system is in need of a complete overhaul, and blockchain is the only tech available to stir the revolution. DeFi carries the potential to make the whole finance ecosystem more resilient, transparent, and less prone to fragility.
No doubt, the tech has barely learned to crawl and will require lots of work before it starts to run. The infancy reflects that DeFi is blooming. However, there’s still some time before the tech is ready for mass adoption. Though it’s happening already and growing steadily. Decentralized Finance can be the answer to the rotting system that the world has in place. In due time, we prefer DeFi to be seen as a solid financial system than as a band-aid to the ailing economies now plagued by crashing fiats.