What is Decentralized Finance (DeFi) and how is it disrupting the old-world order?

The world changed dramatically when gold was found.

The shine made man yearn for more and more. One of first and widely accepted “store of value” and “mode of exchange” was found some time in the 4th million BC. This is when what we know of modern-day finance began. There were those who initially produced and those who bought it in exchange for gold (as a mode of exchange), barter was disrupted. As some became more successful as compared to the others, they accumulated more gold but could not consume it, so they lent it to those who needed it, in exchange for goods and services or more gold (store of value).

As time went on, this became more and structured. Then came formal money lenders (loan sharks). They held all power, even greater than that of kings in some cases. This was further disrupted when the concept of money was introduced initially, as coins of equal value, which changed over time in real terms but not notional terms. As the need for more money came up, the world evolved further, banking structures were setup and the currency notes entered (that only held notional value backed by real bullion stocks). As the need for more money came up, the world evolved further, banking structures started to assume control over everything. This gave birth to centralized finance. Banking structures became more complex and controlling, financial engineering led to the creation of different financial assets and this led to a rapid expansion of wealth and its creation. Now there was complete chaos in the world of finance and an order needed (wanted) to be brought in, by those who assumed they know better and can do better, central banks came in and started to regulate others. This in turn created significant barriers and inequity in access to capital.

In the present day, regulatory bodies set the rules and the Governments amends the rules over time. As a result, there are only a few avenues for consumers to access capital and financial services directly. Access come at a price that banks, exchanges and lenders charge, and every transaction is charged to profit these.

During the 2009-10 financial crisis, we all realized the vulnerability of the financial structures that were created over time. This is when, someone, presumably in Japan under the pseudonym of Satoshi Nakamoto, created the first ever crypto currency (we will be elaborating on this in another post, another day), Bitcoin to take away some of the power that the financial system had. Blockchain (we will be elaborating on this in another post, another day), made it possible, as is the case with technology eventually it creates a level playing field. Initially, everyone made fun of the concept, those who understood it, feared it and those who didn’t ridiculed it but, it was the beginning of the end of the world of finance as we know it.

Today, 12 years later, Bitcoin has led to significant developments in the world of crypto. The basic premise of crypto assets based on blockchain is peer-to-peer transactions, so in a way we are moving away from the centralization and back to the early days of finance where access and equity were not dependent on a third party.

This is giving way to Decentralized Finance (DeFi). DeFi is a challenger to the centralized financial system, it is taking away the power from the financial intermediaries and giving it back to the people through peer-to-peer exchanges. DeFi takes the key elements of traditional finance i.e., lending, borrowing and trading and allows regular people to do these. An example of how this benefits people and become more inclusive is:

Well, you might think, you can already do this through various payment platforms such as Benefit pay, however, you really are not doing so since there is a bank account linked to these platforms and these seemingly peer-to-peer transactions are reliant on centralized systems. Also, your universe of lending is limited to those you know and cannot go beyond that or else there can be significant risks and security issues (the main one being, the borrower runs away).

This is where DeFi solves the problem through its two building blocks – blockchain and crypto assets. Being based on a distributed and anonymous ledger makes the transactions secure and encrypted also, maybe more so than private ledgers that can be targeted (by cyber-criminals).

At Falak we are all about innovation, we work with our clients to look for alternatives to make their businesses perform better and get better returns for their owners. Innovation and strategy are key to what we do for our clients and educating everyone on the innovations that can potentially benefit them is pretty much, our purpose. So, this is where we will end this conversation and pick it up another time to delve deeper into the cryptic world of crypto!