Hey there mate, it’s me again! I trust your week is going great. I’m back with an even more interesting topic for you this week.
Have you ever wished that there were no banks and that you could just make all your financial transactions in the comfort of your homes with no central authority interfering? well, I used to have that on my wish-list until I came across the word ‘DeFi’.
In today’s article, we’ll see the meaning, origin and importance of DeFi. Ever came across the word DeFi and had no idea what it meant? No worries, relax, sit back and enjoy your read!
From our previous articles, I believe you now understand the concept of blockchain, bitcoin, the idea around money, and how it all began. Any object, generally acceptable for the exchange of goods and services, is considered to be money. Whether we like it or not, money is now an important factor for our day to day activities. One important thing we need to note is that money has no value until it is generally acceptable for the exchange of goods, store of value, and transfer of wealth. The key phrase there is ‘generally acceptable’. If any monetary value is not acceptable by the majority, then it cannot be money.
In the beginning, there wasn’t any generally acceptable object used as money. Although, there were exchanges; people exchanged goods and services with any object they desired. This concept is termed ‘trade by barter’. Money came much later as people evolved over the years from natural objects to coins, to paper and then to digital versions (cryptocurrencies). From 600 B.C to around 700 B.C, coins were used as a means of exchange of goods and services. These coins were metal and some were made of silver, while others were made of gold. Around 700 B.C the Chinese transitioned from coins to paper money.
Paper money is simply a country’s official currency circulated across the state, for transaction purposes. The printing of these paper money is in the hands of the government. Now you might be wondering, why don’t the government just print money for everyone and let all be rich? Good question! The reason the government will not do this is because, if there is so much money in circulation, money will lose it’s value. If you have too much of a particular thing, your value for it reduces. Think of something you’ve had so much, maybe food. You’ll find out that you lost interest in that food quickly. This is the same with money. If the government gives everyone money, then there will be no value for money and the economy of that country will depreciate drastically.
From paper money, we gradually transitioned into mobile payments and virtual currency. The 21st century gave rise to these two forms of money. Mobile payment is simply making payments for goods and services through your devices such as smartphones or tablets. Virtual currency is simply crypto currencies or better still, digital currencies. These virtual currencies are made with blockchain technology and the very first one is called bitcoin. Now we have done justice to that in our first and second part of our series, ‘UNDERSTANDING BLOCKCHAIN TECHNOLOGY’.
I’m super sorry for boring you with a brief history of money. This is just to set the stage for DeFi and stable coins. Without wasting much time, let’s go straight to the meaning of DeFi.
I will not bore you on all the technical know-how of defi, because this is supposed to be a friendly read. Hence, I’ll speak on a general level, but don’t worry I’m sure you’ll get it.
In order to make a transaction from one person to another, there has to be a middle man. This middle man can be the bank, or any financial service like insurance companies, credit card companies or stock markets. Remember our friends Alice and Bob? For Instance, Alice is in Africa, while Bob is in Europe; and Alice wants to get some money across to Bob in Europe, she has to go through the bank and this will incur really high transaction fees. Other centralized financial services are no different. They charge really high fees for transactions and this is a major problem of centralized financial services.
Hey there, think about this: what if we were our own banks? What if there are financial services that are owned by no one? Why do I have to get an agent before making a contract? Is there a way we can just remove the bank and it’s exorbitant transaction fees? Yes mate! This is very possible and the best part is, they already exist.
This concept is known as DeFi. It is short for decentralized finance. “It was born in an August 2018 Telegram chat between Ethereum developers and entrepreneurs. They were discussing what to call the movement of open financial applications being built on Ethereum”. It runs on the blockchain technology, hence the name, DeFi.
I’m sure you’ve heard of the word ethereum. It is simply the second generation of blockchain, as Bitcoin is the first. That was just an aside. Now let’s go on..
You can think of it (DeFi) as financial services that have no central authority. Financial services that are controlled by no one, and at the same time, by everyone. You see, everyone wants to put their money in an effective and efficient platform and this is in no way degrading banks but a more efficient and effective way has been built and this is DeFi. These decentralized financial services provide users more control over their money through personal wallets and trading services explicitly catering to individual users instead of institutions. Simply put, you are now your own bank.
Sounds interesting, doesn’t it? But how exactly does this thing work? I’ll give you a head start!
The idea about finance is actually looking for an efficient way to store money and as well make profit. This is what makes individuals and companies wealthy. Until Alice removes the money in her closet, and puts it in a more efficient use, it won’t yield profit. It’s that simple. In earlier times, banks were essential in making money efficient because they store money, and invest in good companies to yield profit. However, this has changed; instead of getting interests from the bank, we receive more debit alerts. So annoying!
A lot of people argue that DeFi is the same as cryptocurrencies (receiving and sending). Well, I’ll give them a 4 out of 10. DeFi takes it even further. DeFi allows us to make any kind of financial service like saving, loans, trading, insurance, investment, and more without the need for a middleman. What removes that middle man from the equation, is known as smart contracts.
Smart contracts are simply programs written and run on the blockchain network to execute some functions automatically, if some needs are met. Normally, to form a contract with a person, there has to be a middle man. It can be an agent, or even the bank, but smart contracts have replaced the middleman. Instead of putting your trust in humans, smart contracts automatically execute the function of that middleman. This can be done with just using your smart phone and internet. It will even save costs because you’ll have to pay an agent but not your smart phone haha!
Another importance of DeFi is that it is very transparent. You might be wondering how no one is in control of this thing since it is built by humans. But guess what! Even the codes used to build smart contracts and DeFi are open to everyone. You can even build yours. It is user-friendly.
DeFi was first implemented in the second generation of blockchain, which is ethereum. This is a good infrastructure for the use of DeFi. However, to build reliable financial services that people would want to use, then we’ll need a more stable currency. E.g Dollar$. DeFi is run on the blockchain platform so it needs a digital currency to operate. Bitcoin, ethereum, and other cryptocurrencies are unstable. Price rises and falls and this is dangerous for investors. This is where stable coins come in.
For the sake of your time, I’ll talk about stable coins in the next part of this very article. Let’s take it one step at a time. For the meantime, I’ll quickly give you a recap on the idea behind DeFi.
- Financial services with no central authority. It is not controlled by one but by all.
- They make use of smart contracts; which remove the middleman (bank, agent) from the equation.
- It can be done with just your internet and smartphone.
- Anyone can build a smart contract. It is user-friendly.
- To build reliable financial services, DeFi uses stable currencies.
Come quench your crypto thirst in ZOEPOOL.
Follow us on Twitter Instagram
Join our Telegram group chat here https://t.me/joinchat/HIH_E2mxQyw1MjM0
See you next Thursday!