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Decentralized Finance (DeFi) in Layman’s Terms

This post is the first in a series that covers the underlying technical aspects of Linen App, such as Decentralized Finance (DeFi) and related subjects. The series is meant to be a point of entry as well as a source of reference for our readers who have little-to-no experience with DeFi. We’ll cover everything you need to know about this new field of finance in an easy-to-understand way.

Technological advances greatly influence how we access and use our money. Decentralized Finance, also called programmable finance, is the newest, perhaps most-promising technological development in recent years. In this post, we cover everything you need to know about DeFi.

What is DeFi?

DeFi stands for Decentralized Finance. It attempts to recreate traditional financial services via a decentralized financial infrastructure. This decentralized financial infrastructure is based on blockchain technology, a concept we’ll explain in-depth in a later post. For now, think of blockchain as a distributed public ledger that records transactions.

What makes DeFi services different from their conventional counterparts? Because they are decentralized, they do certain things differently. For example: 

1. Accessibility: You don’t need a central authority’s permission to access DeFi services like banks and credit unions require. An internet-enabled device is all you need. 

2. Independent control: No central party or authority can reverse transactions or turn off the services. You control your assets.

3. Transparency: Transactions are publicly auditable. You know exactly where your money is at all times. 

4. Trustworthiness: Transactions are enforced and governed by computer code or a “smart contract.” Basically, money is programmable according to predefined computer code, which is publically available for anyone to audit. 

DeFi is an experimental ecosystem  

DeFi is different from traditional finance, but that doesn’t necessarily make it better. Occasionally, we see DeFi sold as a replacement for existing financial systems like banks or cash. In reality, DeFi is heavily reliant on those banks and other financial intermediaries. It may be wiser to think of DeFi as a programmable extension of the existing system, not as being entirely independent of it.

This reliance may change in the future. As things stand, however, DeFi needs all the help it can get from conventional financial sources because it’s still a work in progress. 

Examples of DeFi applications and services 

  • Stablecoins: Stablecoins are a type of cryptocurrency. They’re more “stable” than other currencies like Bitcoin because their values are usually pegged to the U.S. dollar. Some examples of stablecoins are USDC and DAI. 

  • Asset exchange: Asset exchange, if you’re not unfamiliar with the financial term, is the exchange of assets like stocks or cryptocurrency where the amount of total assets involved in the transaction remains constant. Some of the notable examples of DeFi exchanges are Uniswap, 0x, and Kyber.

  • Insurance: Think of regular insurance except the rules of insurance events are encoded and the claims are paid out automatically. This is still an emerging branch, and not many companies offer DeFi insurance. A notable player is Nexus Mutual. 

  • Indexing/Baskets: Indexing and baskets of stocks, similar to exchange-traded funds (ETFs), happen on DeFi. Currently, TokenSets is the dominant player.

  • Derivatives: Derivatives, the price fluctuations a security derives from its underlying asset, can be transferred to a decentralized platform. A notable player is Synthetix.   

  • Supplying (depositing) to liquidity pools: You can supply your digital assets (stablecoins, cryptocurrency) to various liquidity pools, and borrowers can put up collateral and borrow from liquidity pools. Major players are Compound, MakerDAO, Aave, dYdX, and bZx. 

  • Smart securities: Smart securities allow you to buy into an asset like real estate or equities. RealT is a good example. 

  • Prediction markets: The trading of the outcome of events is also possible on DeFi platforms. Augur is the major player.   

DApps offer DeFi services

The DeFi services mentioned above are offered via decentralized applications (DApps). DApps are built on blockchains using smart-contracts. Who creates these DAapps? Any developer with the motivation and know-how can build them. DApps can be programmed to offer any financial service you can think of. The programming code for these DApps is open source, which means it’s accessible to all and published in specialized open repositories. Everyone with knowledge can read the code and see what it does.  

Further, DApps are not limited in nature. Developers – and you – can combine multiple DApps, much like building legos, to create a brand-new financial offering. The sky’s the limit for what’s possible in DeFi.  

DeFi is going places

Decentralized Finance is appealing to many and has enormous potential. Not only is it transparent, but it also makes it easy to control and access your funds. People worldwide are taking notice. Approximately $1B of value has been held in DeFi applications at present, and the graph continues to rise. 

One day, DeFi may be as big a revolution as the internet. Just like how the internet changed communication and work, DeFi could revolutionize how we use money. It’s still early for DeFi, and there’s a lot of work to be done. But we can confidently say that the DeFi movement is slowly but surely gathering steam.       

How does Linen App tie into DeFi?

Linen App offers access to the Compound Liquidity Pool and provides fast, convenient access to Compound, a DeFi DApp that allows you to earn returns on stablecoins and other cryptocurrencies. To put it simply, Linen App provides a gateway to Compound. It also furnishes a self-custody wallet that stores a private key to your funds and allows you to transact on a blockchain. Our payment partner, Wyre, assists in transferring funds from your bank account, exchanging them for stablecoin USDC, and sends them to your Linen App wallet. 

We built Linen App to be easy-to-access, even for people with little knowledge of DeFi. In the future, we plan to add extra functionality because we want Linen App to be the go-to app for DeFi-related services. 

We briefly touched on the Compound DApp – also known as the Compound Protocol – in this post. We’ll cover it in more detail in upcoming posts. The next post in our series will cover blockchains.