Decentralization of Finance - Game On!

Peter Sumer is a blockchain die-hard, always exploring the technology’s potential to make life better and simpler for everyone. This time, he will be spreading the gospel at Next Block Expo in Poland on May 24 and 25, 2023.

One such application is the form of decentralized financial transactions, or DeFi. For this purpose, blockchain technology simply checks all the boxes: transparency, fast and low-cost transactions, and above all – extremely high accessibility for users.

DeFi - Defying the status quo

Up until recently, if a consumer wanted to access capital and financial services, he or she did not have a choice but to rely on centralized financial institutions. The firmly-entrenched fiat system was governed by a rigid hierarchy and overlooked by a central regulatory body which regulated and oversaw the operations of lower-lever links of the chain, such as banks and brokerage houses.

The question is whether there is a better way to transact business (Peter has no doubt, there is) – circumventing the up-until-now dominant centralized financial system.

Suppose we want to use a different, decentralized system for real-world application of all the transactions we desire. What would be the underlying architecture of such a DeFi system? And can it compete on equal footing with the old schools? What's more, could it be better across the board and beat out the status quo?

It turns out that blockchain holds just the key to the world of alternative de-centralized transactions – and arguably is poised to be the keystone for achieving gradual decentralization of the entire financial sector. So, let’s go a bit further and explore the so-called DeFi world for better transactions.

Real world DeFi applications

When we peek under the hood, DeFi is a financial technology-based blockchain, which in-turn is based on secure distributed ledgers, similar to those used by cryptocurrencies.

The potential use cases for a typical client would include insurance or margin trading, as well as various lending and borrowing operations. These would utilize digital currencies, such as the likes of stablecoins, and most importantly, they would be transacted over decentralized exchanges.

DeFi stablecoin transactions

By definition, Stablecoins are pegged to major fiat currency or asset, which makes them potentially less prone to volatility.

When DeFi transactions are conducted via stablecoins, these can take both custodial and non-custodial form. For custodial transaction, a third party takes custody of the private key instead of the actual crypto owner.

As for the non-custodial transaction, the crypto owner holds their own private key, and therefore, their funds are privately held. In this case, however, there is the underlying risk that the user forgets his/her wallet key.

Utilizing stablecoins brings with it the unrivaled benefit of faster execution of transactions, in addition to lower transaction costs. And last, but not least, blockchain-based transactions are a guarantee of unparalleled security and transparency.

DeFi lending & borrowing

Decentralization of finance brings several key advantages to clients in the market for lending and borrowing services. For one, these types of transactions come with no maturity of loan repayment. Then, there is the potential to draw leveraged loans.

Next, over-collateralization is a real thing, whereby an asset value used as a collateral on a loan exceeds the loan value.

Collateralization is commonly used by borrowers to reduce credit risk for the creditor and enhance the loan’s credit rating.

Flash loans come with the unique benefit of being able to borrow money from the smart contract without any collateral. These loans can be used to jump on a quick investment opportunity on the crypto market and generate profit.

Margin trading comes with a slew of distinct advantages. Traders benefit from spot and margin valuations of their favorite digital currencies. Next, for their trades, borrowers get access to instant credit. To secure a loan, they have the option to choose from multiple assets for the loan collateral.

Last but least, borrowers in the DeFi system can look forward to benefiting from great leverage flexibility.

Wrapping thoughts

Decentralization of virtually anything is a good thing. If we take a hint from history, whether it is communist regimes bent on centralizing and planning all aspects of human existence, or central bankers attempting to steer the global economy through drastic measures such as printing unlimited amounts of money,  decentralization of finances is merely the next logical step in the unstoppable move of human evolution in the direction of more freedom.

Once it reaches a critical mass, there is no stopping it. So, keep an eye out for the next blockchain DeFi innovation to simplify life wherever you live.

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Peter Sumer

COO of BITmarkets