What is DeFi

The ecosystem behind Decentralized Finance explained simply

It’s been on everyone’s lips for quite some time now, and it reflects the idea of decentralization better than pretty much anything that came before it. We are talking about Decentralized Finance or called DeFi for short. It’s an idea on which big-name projects such as the decentralized lending platform MakerDAO are already built and celebrate great success. But there is so much more behind DeFi. It’s an entire ecosystem. Credit protocols, security coins, stablecoins, derivatives, exchanges, and much more adorn the wonderful world of DeFi. Sound interesting? Then wait and see because DeFi has so much more to offer.

In this article, we will clarify the most important question of all: what is DeFi? Then, we’ll introduce you to the vision behind it all. We will explain what DeFi is all about and which promising projects are already working on it at full speed. As always, it’s worth staying tuned because this will be not only educational but also exciting.

What is DeFi?

DeFi is essentially just a conventional financial instrument built on a blockchain. Primarily, the Ethereum blockchain is used for this purpose. DeFi applications are mostly based on open-source protocols for creating and issuing digital assets. Their advantage, among others, is that they are designed to offer notable benefits of operating on a public blockchain, such as censorship resistance and improved access to financial services. In this way, the DeFi movement addresses an important core criterion of cryptocurrencies, and that is the promise of making money and its transaction universally accessible. And that is for every person, no matter where he or she lives in the world.

The DeFi movement takes this promise even a step further. It aims to provide a global, open alternative to every financial service available today. These include the ability

• ·        to save,
• ·        take out loans,
• ·        trade,
• ·        take out insurance

and much more. All that is needed is a smartphone or computer with an internet connection.

This makes it possible to use smart contracts. Those who have already read our knowledge article about Ethereum already know that smart contracts are self-executing contracts. These make it possible to develop far more sophisticated functions than simply automating the sending and receiving of cryptocurrencies. Such decentralized applications are called dApps.

·        In the context of DeFi, dApps already exist that can

1. ·        The creation of stablecoins,
2. ·        the completion of a credit transaction
3. ·        executing automated advanced investment strategies.

·        What makes DeFi different from the traditional financial system?

The key question, of course, is why use these DeFi-dApps at all? After all, traditional banking or Wall Street counterparts already exist for all of these products mentioned. Unfortunately, this is only true in certain parts of the world. There is also the following difference. At their core, dApps and their associated business processes are not managed by a company, institution, or individual. Instead, the processes are automatic, and the associated rules are hardcoded in the smart contract. There, they are visible to all and transparently represented in the form of code.

Once the smart contract is implemented on the blockchain, it can execute itself with little or no human intervention. DeFi-dApps are thus visible to everyone but pseudonymous. They cannot be directly assigned to the real identity of the user. DeFi-dApps can be used from anywhere in the world where an internet connection is available. They are censorship-resistant and, thanks to the automated execution of the smart contracts and the visible code, conclude contracts and/or their use trustworthy and transparent, even without intermediaries.

Not without reason, DeFi is currently one of the fastest-growing sectors in the crypto field. More than $600 million worth of cryptocurrencies have already been invested in smart contracts in question, and thus in infrastructure. What exactly are some of the most important and popular use cases and projects in the DeFi sector, let’s take a closer look now.

1. open credit protocols — accessible to everyone

Open credit protocols have probably attracted more attention recently than any other category in the field of DeFi on Ethereum. Largely due to the meteoric rise in Dai's use and other P2P protocols like Dharma and the creation of liquidity pools like Compound Finance, decentralized lending is garnering powerful attention, and rightfully so. Open, decentralized lending offers numerous advantages over traditional lending structures. It enables

1. ·       The integration of lending/borrowing of digital assets,
2. ·        the insurance of digital assets,
3. ·        instant transaction processing and new methods of secured lending,
4. ·        broader access to people who are unable to access traditional services
5. ·        standardization and interoperability, which can reduce costs through automation.

Secured lending using open protocols such as MakerDAO and Dharma are designed to minimize the need for trust. They achieve this by making use of the functionality of Ethereum-based smart contracts. Open protocol lending is entirely confined to the public blockchain and has some intriguing long-term implications for expanding financial inclusion worldwide. MakerDAO is the most well-known decentralized lending protocol.

2. issuance platforms and investment

Issuing platforms encompass a wide range of platforms, including multiple exchanges that simultaneously serve as issuing media. A significant portion of issuance platforms are in the security token space.

Well-known security token issuance platforms such as Polymath and Harbor provide issuers with the framework, tools, and resources to launch security tokens on a blockchain. They are preparing their own standardized token contracts for securities (i.e., ST-20 and R-Tokens) that allow for automated compliance and customizable trading parameters to meet regulatory requirements. Besides, they are similarly integrated with service providers such as broker-dealers, legal entities, and others to assist issuers in their process. Dual exchange/issuance platforms include Overstock’s tZERO, for example.

Issuance platforms and investment management systems are likely to grow rapidly in importance as more participants enter the open finance world while providing growth for the DeFi ecosystem.

 

3. decentralized betting platforms

Decentralized betting platforms are among the more compelling components of open finance that are highly complex but offer tremendous potential. Augur launched a censorship-resistant platform based on Ethereum last year that allows people to bet on just about anything. Other projects, such as Gnosis, are aiming for something similar.

Betting platforms, or prediction markets, have long been popular financial tools for hedging risk and speculating worldwide events. Decentralized prediction markets enable the same thing, but with cryptocurrencies and without the ability to censor the markets. Everything from political and weather forecasts to hedging all kinds of risks on financial or adverse events in the real world is already offered in Augur.

4. exchanges and open marketplaces

The role of exchanges is fulfilled by decentralized exchanges (DEX). A DEX is a P2P marketplace for assets on Ethereum between two parties, where no third party acts as an intermediary in a transaction. Thus, they differ from centralized exchanges like Coinbase & Co. in this respect. Some DEX also uses some highly innovative methods of exchanging tokens such as atomic swaps and other non-depository means of exchanging one asset for another with minimal settlement time and risk.

Other types of open marketplaces focus on exchanging non-fungible tokens (NFTs), often referred to as crypto-collectibles. Platforms such as OpenSea and Rarebits facilitate the search and buy/sell of crypto assets ranging from NFTs in games such as Cryptokitties to virtual land parcels in the game Decentraland. Some marketplaces, such as District0X, are even said to allow users to create their own exchanges and vote on management procedures. Current examples of dexs that offer cryptocurrency trading include Binance DEX and Ether Delta.­

5. stablecoins

Stablecoins now come in a wide variety of models. They differ in part in how they issue coins, how their reserves are checked, and the mechanism for fixing their price. Stablecoins are tokens issued by a blockchain that are intended to maintain a stable value. There usually is a peg to an external asset such as USD, gold, or others to achieve this. Roughly, the following 3 categories can be distinguished in stablecoins:

• 1.      Crypto collateralized
• 2.      Fiat collateralized
• 3.      Non-collateralized

Crypto collateralized stable coins include Maker’s Dai. Fiat-backed stablecoins, however, are by far the most popular stablecoins on the market. First and foremost is Tether, although there are now numerous alternatives. The models for these stablecoins do not differ much from each other. With all of them, users have to trust the providers. Some offer regular and voluntary audits to create the necessary trust through transparency.

Unsecured stablecoins are neither centralized nor backed by crypto assets. They are built on an algorithm to maintain a stable value. To put it simply, the algorithm considers supply and demand as parameters and adjusts them accordingly, always to keep them in a balanced ratio. The basis was the pioneer in this category but failed due to regulatory concerns. As a result, the project was scrapped.

The future of DeFi — potential or all hype?

The final question, of course, is how great the potential of the whole DeFi movement is? Basically, it can be stated that there are many things in the field of cryptocurrencies that are simply overhyped. The immeasurable potential is attributed to the vision so that the actual product has no chance at all to live up to the exaggerated expectations. What follows is severe disillusionment and disinterest. However, with DeFi, it is a bit different because there are already some finished products like MakerDao, and the market has received them well.

Nevertheless, we are still in a very early phase of the whole DeFi movement. However, the potential behind it is huge. Even if only one spate of DeFi, such as Lending, were to succeed in the future, that is already more than enough. If the DeFi ecosystem can offer loans at better conditions than most national banks and other lending institutions, this could lead to global adoption.

But this is also where we are already at one of the biggest hurdles that the DeFi sector still has to overcome. For one thing, more education is needed so that the masses even know that this alternative exists. As before, only a tiny percentage is even concerned with the issues surrounding cryptocurrencies and blockchain technology. Even fewer deal with the DeFi sector in particular or have even heard of it. On the other hand, the user-friendliness of such products must be improved enormously to set the necessary course for the broad masses to use it and for global adoption to take place.

Decrypting NFTs

Every generation had their personalised currency. Millennials had Pokémon and wrestling cards, Generation X had baseball cards and mailing stamps and the baby boomers had their magic 8 balls and comic books. While we would like to believe we live in a single paper currency economy, this isn’t true. Children exchange video games for favours, adults offer old wine for reciprocity and retirees trade favours with cigars. It is not just the incarcerated who have parallel economies, we all do!

Why does the original near mint condition 1988 Spider-Man comic fetch thousands at the pawn store? And why not my reprint on glossy paper? Its ‘fungibility’ of the item which complement or moderate values. Since the barter system, we have agreed on the value of different commodities, based on their demand. Demand for consumption, hoarding or fashion-ability. Commodities which are replicated and can be exchanged for the same ‘value’ of the same item are called fungible.

A five-dollar note and 2 kgs Taj Mahal basmati rice bag is fungible. However, a five-dollar bill with Mohammad Ali’s autograph or the first basmati rice ever grown in outer space are ‘non-fungible’. The same applies to digital commodities, 1 cryptocurrency can be exchanged for another, making it fungible, but the first tweet ever is an ‘original’.

 

What is a token?

Non-fungible digital commodities have recently been making headlines for their commercial lucrativeness. Memes, social media posts, sports clips, gifs, images etc are sold for millions of dollars. There is an interesting difference between physical non-fungible items and digital non-fungible tokens. Non-Fungible Tokens (NFT) don’t necessarily have to be intrinsically ‘original’, however the ‘token’ is unique. When you purchase a cat meme, a token is generated against that purchase, which is recorded under your name and identification. This token is unique and non-fungible, hence making your cat meme NFT!

To put it more simply, an NFT is a digital asset, even a digital version of a real-world occurrence, with a receipt which confirms your ownership. NFTs can be recording of ‘real-world’ art-form, soundbites, memes, tweets, painting or video clippings. One can cash on digitizing existing popular culture phenomena or create your own crypto art.

How to make Crypto Art or NFTs?

Making crypto art and putting it out isn’t too complicated nor does it require intricate knowledge about block chain technology. Your fist step will be to decide which blockchain you want to support and issue your NFT. While there are many including WAX, Cosmos Trom, Binaca Smart Chain etc., Ethereum is by far the most popular and robust choice at the moment.

The catch is here, how and where you sell your NFT is dependent on your block chain. It is the block chain which records and confirms your token giving you ownership of an NTF. Each blockchains have their ecosystems which allow you access to marketplaces and digital wallets. In other words, you can’t use the British pound to buy bread in Australia, your access to different platforms and markets is restricted by the blockchain.

Ethereum, which is the most popular blockchain for NFT. The Ethereum wallet gives you access to the thriving markets of OpenSea, Rarible, Mintable and Makersplace. Once your art is ready and you are prepared to sell it as crypto art. You should explore the different market space and decide on your appeal and personal preferences. From here, it’s quite straight forward. However, just as in an arcade you can only trade in their currency. Here the currency is ether! Ether is your cryptocurrency. You will have to link your wallet which has your ethers to your profile on NFT the marketplace. And you are good to buy or sell NFTs!

Mechanics of the crypto art market

So, first of all purchase some ether from Coinbase website and store it in your Metamask wallet. Coinbase and Metamask are the most reliable and popular platforms in the crypto world. However, they are the preferred choice for those who trade in larger volumes on cryptocurrency, hence can justify the higher operating costs. New users can explore alternatives to Coinbase, Liquid, Gemini, Binance, Bitstamp, Kraken, BitMEX. It is imperative to weigh the pros and cons of each of these. While initially a preferred choice for all users due to its user-friendly interface, increasingly Metamask is found to be expensive. Fortmatic, TrustWallet and Portis are other wallets which are compatible with Opensea.

Once your crypto wallet is set up linked with your Opensea profile, you can update your information. The Opensea dashboard is very professionally designed and easy to use. You can ‘create’ your collection and upload your art, name it, add description and detail, and link to the artist’s website. To add more value you can add properties, which demonstrates the uniqueness of the crypto and other details like levels and stats. However, these are popular largely within the gaming community. An important aspect is unlockable content. Which is a message you can deliver to the buyer, it could be pleasantries or contact details or links for more value in addition to the sale.

The money spinner, gas prices!

Now comes the interesting bit of gas price. Before that you will have to choose your selling model, from highest bid, set price and bundle. Affiliate boundaries to increase opportunities of sale. Schedule sale time for a future date and time. And you post a listing. Here comes the gas fee. Gas fees are a steep ask for most amateur content creators. It is the cost you pay for your listing. It does vary depending on your urgency, if you are willing to upload the art over a few more days, your fee reduces. If you want it uploaded immediately, you will have to pay the maximum set price. This cost varies depending on the day of the week and the time of day. It is said, cheaper costs are found during weekends. Further, when you go to buy an NFT you have to pay a smaller gas fee.

Hype or Future?

NFTs could be a bubble as crypto sceptics have claimed. But similar claims had and are being made about crypto currency, the crypto market has seen some recent downturn with dogecoin, but so, did Bitcoin and it has bounced back! Increasingly more and more countries are looking at ways to monetise this technology and users are increasing. Its acceptability moved past a fad.

NFTs future may not be created, but it has opened up a whole new world of content creators and artists. For example, Niio Art has demonstrated how users can rent art without owning it for a time period. Blockchain has used a new age to authentication, and this is set to continue revolutionizing creative business models. NFTs are a manifestation of this revolution, which will keep evolving hence investing in it may not be a bad idea.

 

What is a blockchain oracle?

A blockchain oracle is responsible for sending external data to a blockchain. Essentially, they bring data from the real world and give it to the blockchain to utilize. Oracles fulfill this need because blockchains only have access to data that happens on their network. By expanding the amount of data blockchains have access to, it can significantly increase the number of capabilities of the applications that run on it.

Oracles are extremely beneficial for smart contracts because they are the basis for Dapps and have many potential use cases that couldn’t occur without the use of real-world data. An oracle isn’t the source of the data but it instead acts as a messenger, by relaying information from other sources and confirming the information is correct before sending it to its desired destination on the blockchain. It is important this information is correct, otherwise the oracle would be feeding incorrect information, which can be extremely problematic.

Blockchain Oracle example

Let’s say you wanted to bet on the winner of a football match with your friend. You could create a smart contract with the odds and both you and your friend lock your desired bet into the smart contract with a payout for the winning person. But the smart contract won’t know the winner because it isn’t able to access this data. After all, it doesn’t run natively on the blockchain. Here, an oracle would query its trusted source for the information of the winning football team, verify the information is correct, then feed it back to the smart contract. Now that the smart contract has access to the result of the football match, it can payout the winner accordingly.

Let’s look at another example. A farmer depends on the weather for their crops to grow well, and to make money from those crops. Insurance companies can provide protection to farms, however, farmers can be limited with their choices of only local providers which may give them an unfair deal. The farmer could instead enter into a smart contract with an online insurance company where the criteria are based on the amount of rainfall in the region. By using an oracle, the smart contract can receive accurate rainfall data from national weather bodies, and use it to provide coverage based on the amount of rainfall in the region. Below you can see a visual representation of a smart contract, powered by Chainlink, that demonstrates this example.

The different types of oracles

Software oracles

A software oracle is an oracle that pulls data that originates from online sources. This could include information like weather, crypto prices, or even flight schedules. Since software oracles are connected to the internet, they can feed information in real-time. Because this allows them to provide information that constantly updates as necessary, they are the most common type of oracle used by blockchains.

Hardware oracles

A hardware oracle is an oracle that pulls data from a physical device in the real world. This could include devices like a photocopier or a barcode scanner. For example, a supply chain may be responsible for packing and shipping boxes of electronic parts. At the end of the packaging line, someone may scan the box to mark it’s been packaged. A smart contract can be created where the oracle feeds it information about boxes that have been scanned, which the smart contract can make decisions based on.

Inbound and outbound oracles

Inbound and outbound refer to which way the information is being sent. If an oracle is sending information to a smart contract, then it is inbound. If an oracle is sending information from a smart contract to an external source, then it is outbound. An inbound oracle might supply information to a smart contract about the winner of a football match. An outbound oracle might use a method to unlock a smart contract and send the payout of a bet to the winner’s address.

Centralized and decentralized oracles

A centralized and decentralized oracle refers to the control structure of an oracle. If an oracle is centralized, its information is coming from a single entity and can be considered a single point of failure. There is a risk in using a centralized oracle because if that single entity were to fail then the oracle would be unable to function properly. This single point of failure also poses a security risk because only one entity needs to be attacked for the oracle to be rendered useless.

A decentralized oracle has multiple entities that it uses to provide information. In this instance, the oracle has multiple points of failure and can be considered more trustworthy from an information and security standpoint. Moreover, a smart contract could also utilize multiple oracles to achieve consensus for the necessary information, similar to how blockchains need consensus to confirm transactions — this is an example of consensus-based oracles.

The oracle problem

Since oracles act as the middleman between blockchains and external information, there is an underlying problem that faces them from achieving widespread adoption. Blockchains can’t pull data from external sources so they require oracles to fulfill that. If an oracle is compromised, then this also compromises the smart contract. This is the oracle problem. For the oracle to be trustworthy for a blockchain it needs to be secure from attacks, decentralized to reduce the concentration of failure and provide correct data.

If you have questions and requests, leave comments below the article.