Second only to NFTs, DeFi — decentralized finance — has seen the greatest growth during the current crypto cycle. The premise is an ecosystem that leverages blockchain technology and smart contracts to provide cheaper, faster, and more equal access to financial services. The goal: replace technical bottlenecks and intermediaries with open-source code to transform legacy financial products — borrowing, lending, trading, market making — into trustless and transparent protocols that run without intermediaries.
The goal is ambitious and the industry is in its infancy. The risks are significant. More pressing, in my opinion, is the fact that the name itself is a misnomer. DeFi, broadly speaking, is neither decentralized nor really finance in its current instantiation.
To be clear: I think the mission of DeFi is the right one. There are 33 million underbanked households in the US. There are 1.7 billion underbanked adults globally. I also believe the technology being built in DeFi will completely alter financial markets. DeFi is what Fintech was supposed to be. However, I’m skeptical that the current DeFi ecosystem will be enduring. That should be the expectation — technology never just works from day one. The best pieces stick, and creative destruction determines the final product.
The four most common DeFi use cases:
Decentralized exchanges allow users to trade cryptocurrencies peer-to-peer without trusting an intermediary with their money. Coinbase, for comparison, is not a DEX — it is no different from a traditional brokerage model. Lending platforms use smart contracts to replace banks — users can borrow cryptocurrencies or lend their own at algorithmically determined interest rates. Yield farming allows users to earn returns by providing liquidity to protocols. Derivatives on DeFi exchanges connect buyers and sellers directly, backed by incentivized collateral pools, rather than relying on futures commission merchants.
The total value in DeFi protocols has exceeded $170 billion — roughly 1% of all US commercial bank deposits. The technology is real. The current instantiation is fragile. Both can be true.