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Decentralized Finance (DeFi) is the most exciting and powerful application of distributed ledger technology. Through the power of blockchain technology, it promises to build an autonomous financial ecosystem free from the control of individuals, entities and regulators.
DeFi is growing rapidly. Today, hundreds of projects exist and many more are in the works. But despite the clear advantages of DeFi, hundreds of thousands of crypto users still use centralized platforms that are managed or controlled by a central entity.
Decentralized Finance vs. Centralized Finance
Centralized Finance (CeFi) is a traditional market structure where centralized entities control the access and flow of funds. It is dominated by a centralized entity (company, government, organization) that defines and controls the system. These entities can exercise extreme control and choose who to work with. They can be censored or banned, and they can be censored or banned.
In CeFi, centralized companies act as middlemen. This gives them significant control over users’ funds. Banks are a good example.
“If you define centralized,” says Warren Whitlockfounder and CEO of Stirling, “Everything has to go through a hub. If I want to send you money, which is the easiest financial transaction, I send it to the bank, and the bank sends it to you… …if you have a bank and I have a bank, then they have to get along.”
In the crypto space, centralized financial entities may offer similar services to banks.but as WendeoSoCal Crypto Meetup host and YouTube Crypto Educator said, “They’re not really banks because there’s no consumer protection. They’re not run by these very strict entities that have to apply for licenses and comply with regulations.”
DeFi, at least true DeFi, is the exact opposite of CeFi. It introduces a peer-to-peer approach to finance that brings more power to users.
In DeFi, there is no central authority to control and coordinate transactions, or control access to funds. Therefore, it is more resistant to censorship and regulatory action than CeFi. Users can also control their funds. DeFi is transparent because DeFi transactions take place on the blockchain.
“When we talk about DeFi, we focus on the protocol, the client, the client, and to a certain extent, control over their funds… DeFi is like your own bank to a certain extent,” Wendy O said.
“When we use blockchain technology, everything is on-chain; in most cases, you can see it, unless there is a ready transaction, or, you know, an OTC transaction is sometimes done.”
But despite these benefits, many continue to opt for centralized protocols.
Centralized finance is more attractive to ordinary people than decentralized finance. Even in cryptocurrencies that were originally built to be decentralized, most people trust the CeFi protocol for money.
The biggest reason for this is that people feel it is safe to put their money into centralized financial protocols. On the other hand, they believe that DeFi projects are riskier, especially when it comes to investments.
This is not far from the truth. Many DeFi projects offer unrealistic rewards to attract as many investors as possible. This model may work in the short term, but it is not sustainable in the long run. This makes investing in DeFi protocols very risky considering that many DeFi projects have failed.
Even for seasoned investors, this risk is too high. Wendy O explains why she prefers centralized platforms like Celsius and Voyager:
“One of the reasons I do this is because of the interest rate they offer, like 8%. It’s not necessarily high. A lot of staking platforms and mining pools on decentralized protocols are returning 100% APY, 50%”
CeFi is also generally more convenient than DeFi. Take cryptocurrency exchanges as an example. Centralized exchanges (CEXs) like Binance provide a single platform where users can find most of the tokens they need. On CEX, traders can easily and conveniently exchange tokens from different chains.
But that’s not the case with decentralized exchanges (DEXs). DEXs typically limit users to tokens that are compatible with the blockchain on which they are built. Therefore, if traders want cryptocurrencies from different blockchains, they have to use multiple exchanges or use a bridge platform, which takes a lot of time.
When DeFi isn’t really decentralized finance
In addition to CeFi’s massive appeal, there’s another problem. Most DeFi projects are not really DeFi. Instead, they have some CeFi properties.
toneThe former Wall Street Quant and FinSummit founder said: “Everything in the DeFi space is pretty much the same as in traditional finance. It’s just that different people are doing it. And they’re using different terms. Instead of the word database, for example, they’re using The word blockchain.”
It’s easy to see why. Many DeFi protocols are not truly decentralized. They can operate autonomously, but like centralized entities, they are subject to the actual control and supervision of groups or individuals. There are teams behind projects, who are basically like a board of directors or a development group, meeting and making key decisions to set their direction.
This has some important implications. For example, if a project loses key people or decision makers, they suffer. It also makes projects somewhat vulnerable to regulatory action, as regulators can influence projects by picking key individuals.
Creating successful DeFi projects requires true decentralization, revolutionizing the space.
“It’s almost like the Internet itself, the Internet has helped a lot of companies, but it’s the same company,” Tone said. “Netflix and Blockbuster are the same company. They just took the Internet and knocked Blockbuster out. Amazon is mail order, only them. Using the internet, they became one of the biggest companies in the world.”
A project that takes decentralization seriously is Safe chainOn the one hand, it is building a full-chain decentralized exchange that allows users to exchange their favorite tokens in one place. Once ready, this project will make DeFi more accessible.
But perhaps more importantly, the project operates internationally as a decentralized entity. It’s not really located in a place with a home office address. On the contrary, the frontend and node structure of DEX is completely decentralized.
This process is ongoing and innovative solutions are being developed and improved every day. Even within the blockchain ecosystem itself, projects without innovation are quickly overtaken by competitors who can do more. This creates an incredibly fast-paced environment that continues to create some of the most unique and revolutionary ideas this century has seen.