DeFipedia Blog

Our DeFi experts demystify and explain decentralized finance, how it works, and how to capitalize on its growth potential.
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Decentralized financeWhat Is DeFi: Beginner’s Guide to Decentralized FinanceHow many times have you scratched your head in silence as your friends go on and on about this newfangled finance topic known as DeFi? How many times have you Googled ‘DeFi’ only to be tyrannized by the flurry of jargon? This has to end.  In this article, we will explain what DeFi is and how it makes a difference. What Is DeFi? DeFi, short for decentralized finance, is an umbrella term for the emerging peer-to-peer financial services that run on blockchains.  Cryptocurrencies like bitcoin are built on blockchain technology. They facilitate decentralized transactions, throwing centralized financial institutions and middlemen out of the picture. However, the scope of blockchain technology is not limited to coins and payment executions. DeFi applies blockchain technology to deliver complex financial use cases like insurance, lending, borrowing, yield farming, trading, staking, crowdfunding, and lotteries. Here, instead of a central authority or a third party, a smart contract facilitates the transactions. Smart contracts are programs stored on a blockchain that run when predetermined conditions are met. Unlike traditional contracts, smart contracts don’t require tedious paperwork or expensive intermediaries. They are automatic and self-executing agreements, featured by transparency and immutability.  Decentralized Finance vs. Centralized Finance How does DeFi stand apart from centralized finance? Here is a quick look.  In centralized finance, assets and transactions are managed by a set of people or institutions. Centralized finance is not confined to institutions based on fiat currency. For example, many popular crypto exchanges like Coinbase and Binance use a centralized business model similar to traditional stock exchanges. When it comes to decentralized finance, DeFi protocols do the part. Instead of humans, you place your trust in predefined algorithms. As you sign up for centralized financial services, you hand over the control of your assets to the platform. If the platform’s security is at risk, so are your funds. In decentralized finance, you keep your assets in decentralized wallets like Metamask. Here, nobody can access your funds except you, as long as the password is hidden. The Benefits of DeFi Transparency DeFi replaces trust with transparency. The transactions on a DeFi application can be seen and verified by anybody.  Atomicity DeFi transactions are made indivisible by blockchain technology. All the sequential actions in a transaction have to be completed for it to process, or else they fail collectively.  Anonymity DeFi applications provide users with better anonymity than their centralized counterparts. They don’t ask for your name, phone number, or ID. All you need is a wallet address to get started. If your jurisdiction bans cryptocurrency, the government can always freeze your assets in centralized applications. Your best bet in this scenario for the safekeeping and transaction of digital assets would be DeFi. Faster trading DeFi can facilitate the exchange of cryptocurrencies faster since decentralized exchanges rely on automated market-maker (AMM) protocols rather than limit order books.  Open around the clock DeFi services like lending, borrowing, yield farming, and insurance are available throughout the day.  Accessible to all The most attractive feature of DeFi is that it makes financial freedom feasible for all. Passive streams of income like yield farming and liquidity mining opened our eyes to the massive potential of DeFi. When applying for a DeFi service, your income, financial statements, and credit score don’t matter.  The Risks of DeFi For starters, smart contracts lack the human element, which is key to making decisions in many circumstances.If any error makes its way to the smart contract, all transactions are at risk. The blockchain ecosystem is still figuring out interoperability and cross-chain transactions. The erratic fluctuations and volatility in the market can lead to huge losses. Moreover, if you lose access to your wallet, all your funds are gone. There is no way of retrieving them.  What Is the Future of DeFi? In the last two years, DeFi has played a key role in bringing cryptocurrencies to the mainstream. The innovative streams of revenue characterized by transparency and anonymity continue to lure people in. The huge market caps of DeFi tokens stand testimony to its success.  However, DeFi is not without its share of limitations. Like all blockchain applications, DeFi is still in its infancy. The industry is prone to scams, frauds, and failures like its centralized counterpart.  With a more robust infrastructure, will DeFi and DeFi 2.0 find their way to the masses? Only time will tell. 
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Decentralized financeBrief History of Bitcoin: The Beginning of DeFiUnderstanding the history of DeFi requires an understanding of the cryptocurrency genesis. Bitcoin was the first decentralized payment solution; some argue this could even be the first DeFi protocol. Regardless, the creation of Bitcoin led to the arrival of Ethereum, which lay the building blocks of DeFi as we know it today. What Is Bitcoin? Bitcoin is a digital currency that functions free of any central control of traditional banks or governments. It relies on a peer-to-peer network built on blockchain technology. Every transaction is recorded on the Bitcoin network and is publicly accessible by anyone with an internet connection. Users can access this cryptocurrency through crypto exchanges that help connect buyers and sellers. Why Was Bitcoin Created? The anonymous group or person, Satoshi Nakamoto, established Bitcoin in 2009 as a response to the financial crisis of 2008. Satoshi had the idea of disintermediating banks from their control over financial transactions. Several years down the line, Bitcoin has evolved and is now hailed as an icon of decentralization and financial autonomy. Some investors also see Bitcoin as a hedge against inflation due to its deflationary structure and fixed supply of 21 million coins. How Has the Value of Bitcoin Changed Over the Years? The Bitcoin price chart currently sits around $38,000. However, this has not always been the case, as this cryptocurrency has always had a volatile price history. In the early days of Bitcoin valuation, the cryptocurrency was almost zero. However, all that changed when its price jumped from $0.09 to $29.60 within the span of a year (2010 - 2011). Consistent price fluctuation has become synonymous with the Bitcoin market. Bitcoin has continued to experience several rallies and crashes throughout its existence as speculative retail investors and traders entered the space. In 2017, the BTC price broke new heights by attaining a massive spike of $2,000 from $1,000. At this stage, mainstream investors, government institutions, and even traditional banks started to recognize the presence of bitcoin and started trying to adjust to the upwardly mobile prices that BTC reflected at the time. A couple of years later, cryptocurrencies have grown in popularity across the board, with Bitcoin remaining the leader of this new class asset. Institutional investors have started taking an interest in Bitcoin, and as their money tricked in, the price soared, reaching highs of more than $60,000 in 2021. How Is the Bitcoin Price Influenced? The price of Bitcoin depends largely on perceived value, supply, and demand. Its price is not regulated by any individual, government, group, or entity. By design, there will only ever be 21 million bitcoins created, eliminating the mass production of bitcoins and curbing inflation. Its deflationary mechanism means that the closer Bitcoin gets to its limit, the higher its price will be, as long as demand remains the same or increases. Aside from its in-built inflation control system, other factors that may influence the price of Bitcoin include: Fluctuations in supply and demand.Media attention on cryptocurrenciesThe implementation of regulations for managing Bitcoin's utility and scalabilityThe cost of Bitcoin miningSynthetic products and Bitcoin derivatives Will We Use Bitcoin for Years to Come? Bitcoin's value proposition as a decentralized payment solution hasn't budged in the last twelve years. With governments around the world taking a harsher approach towards controlling the financial capabilities of their constituents, we may see more people flock towards Bitcoin and its offerings to counter government overreach and censorship. As traditional investors and Wall Street bankers start to embrace Bitcoin, the lines between conventional financial assets and Bitcoin become blurred. Leading Wall Street investors allocate up to 5% of their portfolios to Bitcoin, which may indicate that the cryptocurrency has grown big enough that its market cap will catch up with gold in the future. Perhaps, one day, it could be worth more than gold! El Salvador was the first country to adopt Bitcoin as its legal tender. If their experiment proves successful, we may see more nations that suffer from similar economic predicaments to El Salvador toe this line. This could bring Bitcoin to the level of true mass adoption, ushering in the age of the "hyperbitcoinized world." However, there is still a chance that things will go downhill. Governments may frown upon the growth of Bitcoin since they cannot control it, and they may implement massive regulations that stifle its adoption rate. This type of heavy-handed regulation likely won't kill Bitcoin, but it could seriously tank its price, bringing about a long-term bear market. Whether bullish or bearish, the future of Bitcoin remains unpredictable. The best thing investors can do is constantly do their research and keep up with the news to stay afloat in this space. In the end, the users and the Bitcoin community should brace for future challenges to the Satoshi experiment. Overcoming these obstacles will require innovation, perseverance, and education.
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Decentralized financeLimitations of Bitcoin: Scalability, Smart Contracts, and MoreBitcoin derives its value from its relative scarcity, market demand, and the marginal cost of production. Bitcoin commands a high valuation, with a total market cap of $1.11 trillion as of November 2021. Bitcoin is currently trading roughly 50% lower than its latest all-time high of around $69,000. Despite Bitcoin's price decline, online communities are still buzzing with miners discussing best practices, investors consulting on profit strategies, and developers seeking improvements to the network. Annual Bitcoin conferences are always packed with new attendees every year. Sustained activity and growth in these communities suggest widespread interest in Bitcoin and its offerings and an increase in the popularity of Bitcoin amongst users. While Bitcoin price has retracted from its all-time high, these Bitcoin maximalists remain convinced about the crypto's long-term viability and see it as a guaranteed 'win' for champions of decentralization, individual freedoms, and financial sovereignty. What Is Bitcoin? Bitcoin is the proto-cryptocurrency; it utilizes peer-to-peer technology to complete payments on its network and exists independently of any government, state, or financial institution. The Disadvantages of Bitcoin Despite gaining a lot of ground since its creation and offering several benefits over traditional currency, Bitcoin is still not widely accepted. The skepticism with Bitcoin stems from issues that its critics view as a demerit to using this form of digital money. Some of these disadvantages include: No buyer protection It is practically impossible to undo a Bitcoin transaction if the seller doesn't deliver the products promised. Without the availability of smart contracts, Bitcoin transactions are irreversible. Deflationary issues The total number of Bitcoin is capped at only 21 million Bitcoins. This in-built deflationary mechanism promotes scarcity and rewards the early birds as the value of Bitcoin increases with time. The deflation could trigger spending spikes, causing sharp and unpredictable fluctuations in the Bitcoin market as investors struggle with the decision to sell or spend. Use limitations Bitcoin isn't widely accepted. Although there is an increasing number of organizations accepting Bitcoin payments, it still hasn't reached the mass adoption phase. This restriction puts a limit on where one can spend Bitcoin. Volatility There is a correlation between Bitcoin price and investor sentiment. News headlines or the opinions of influential figures in the crypto space can significantly affect the demand for Bitcoin and sway its price. Due to this, Bitcoin doesn't offer the level of price stability possible with traditional financial assets. Valuation guarantee Since Bitcoins have no central authority, no one entity can guarantee their value. So, if a considerable percentage of Bitcoin owners decide to abandon the system, its value will plummet, hurting users who have large sums invested. The Greatest Limitations of Bitcoin Regardless of all the merits Bitcoin brings to the table, certain things still hold it back and limit its utility, particularly the absence of scalable growth infrastructure and smart contracts. Scalability Scalability is the ability of a protocol to grow without being hampered by its structure or available resources when faced with increased demand. Bitcoin suffers from scalability problems since the network cannot handle large quantities of transactions quickly. The average transaction processing capacity on the Bitcoin network is seven transactions per second, which is unimpressive when compared to traditional payment services like Visa and Paypal that process thousands of transactions in seconds. If Bitcoin becomes widely adopted in its current state, there is a chance that the network may freeze or seize operation. Bitcoin developers are constantly looking for solutions to the network's scaling problem. Several proposals have been put forward, including the Layer 2 solution—Lighting Network, blocksize increment, and other efficiency improvements like Schnorr signatures. Smart Contract Issues Smart contracts are computer protocols that allow the digital verification, control, and execution of contracts. Smart contracts, like regular contracts, specify rules and penalties around an agreement and enforce those responsibilities. Blockchains benefit from the deployment of smart contract functionalities since developers can leverage this to build new dApps and various programs with diverse utilities on the blockchain. Ethereum, Solana, and Polygon have all benefitted from integrating smart contracts. These blockchains now have hundreds of valuable dApps on their networks. The absence of smart contract functionality on the Bitcoin network prevents developers from creating useful applications, reducing its overall utility. The Problems of Smart Contracts Scalability Smart contract-powered blockchains allow for the creation of interesting decentralized applications. However, scalability issues become apparent as the demand for these dApps continues to increase. Many smart contract blockchains suffer from long transaction times, delays, and costly transaction fees. Immutability The immutability of smart contracts means that their performance is guaranteed to take place based on their coding. This limitation gives no room for any modifications or reversals. Therefore, a smart contract's performance is irrevocable in the event of any errors in the code. Readability Non-developers find it challenging to comprehend smart contracts because they are written in programming languages such as Java, Python, and C++. Serialization Smart contracts are executed serially by miners. Miners cannot execute another smart contract until the complete implementation of the current contract, which limits their performance. Is Bitcoin Viable as a Currency Option? Bitcoin's deflationary design of the 21 million Bitcoin hard cap ensures its scarcity, which drives its demand. However, scarcity isn't enough to justify its status as a viable currency. On the surface, Bitcoin constitutes the idea of what a currency should be. It serves as a medium for exchange and is tradeable for goods and services. The question is, does Bitcoin properly fulfill its role as a currency? A proper currency must: Remain valuable over a long periodHave a limited supply Be divisible/portable These are why gold and silver have remained a great medium of exchange throughout human history. Bitcoin appears to tick all the right boxes; however, Bitcoin critics point to issues with volatility and slow transactions, which they claim make Bitcoin unusable as a currency. People who share this sentiment only view Bitcoin as a community asset. Before passing judgment on Bitcoin's viability as a currency, one must consider the fact that the limitations of Bitcoin may not always be there as developers are constantly working on improving the network and deploying new Layer 2 solutions that solve scalability issues. Therefore, whether or not Bitcoin becomes widely accepted as currency in the future hinges on the successful implementation of its scalable solutions.
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Decentralized financeHow Ethereum is Changing the Crypto NarrativeThere are still many people who haven’t heard about Bitcoin, although Blockchain data available on Statista shows over 300% increase in the number of crypto wallets from 21 million people in 2017 to over 81 million at the time of writing this article. That is only a part of the current crypto trend that is now the subject of ministries of finance and governments across all continents of the globe. From Eastern Europe to Asia, Africa, North America, South America, and Australia, governments are having face-offs with what they have dubbed a potential threat to financial stability and a haven for cybercriminals. Nevertheless, the advantages of cryptocurrencies continue to unveil in unimaginably positive ways, making it obvious to most countries that it means more good than evil for everyone and can reduce wealth inequality. In some quarters, citizens have scorned governments and public officials as clueless baby boomers, yet the public keep using crypto in cases where they would have given their rights away quite easily thanks to the blockchain and decentralization. The buzzword making headlines today in crypto is Bitcoin. It is the flagship cryptocurrency that introduced the world to the power of blockchain technology when applied practically. The next thing to Bitcoin in crypto is Ethereum, and the popularity of Ethereum is merited because it gave more use-cases to the technology and made adoption possible at the same time. So Bitcoin is more popular because many people love to be conservative, but there is more in cryptocurrency than Bitcoin, and Ethereum is the true gamechanger. What Is Ethereum? Ethereum is a decentralized universal computer for applications on a public virtual machine—known as the Ethereum Virtual Machine (EVM)—that brings everyone on the network to a consensus or agreement on the state of the network. All users of Ethereum can ask this computer to perform a wide range of transactions which are then broadcasted to the network for validation and verification by other participants on the network. The EVM changes in its state with every transaction initiated on the network, which is added and broadcasted throughout the network so that nodes or computers participating on the network can update their copy of the ledger to the latest state. Transactions on Ethereum are known as requests, and they are verified, validated, and stored permanently on the blockchain, updating the state of the EVM with each group of transactions in a block. The network uses cryptography to secure transactions and ensure verification and validity. Ethereum supports the uploading of reusable codes to the EVM that developers publish to the EVM data layer. These codes or programs uploaded to EVM can be called by anyone using the Ethereum network with specific parameters that instruct the EVM to perform some defined computations in the code. The codes are known as smart contracts, and developers pay a fee to the network to make smart contracts public. The possibilities with the parameters for smart contracts are nearly unlimited, and each parameter represents a unique use case for the Ethereum network. Ether (ETH) Ether or ETH is the native currency of Ethereum. It is used to incentivize validators of transactions or miners on the Ethereum network. Transactions on Ethereum require payment of fees known as gas fees to these miners. Ethereum gas is a unit of computation needed for transactions on Ethereum. These computations consume some resources, and gas settles the cost of those computational resources. Ethereum Gas Fees Fees on the Ethereum blockchain are denominated in gwei or giga-wei, which equals to a billionth of an ETH. Wei is the smallest unit of Ethereum which takes its name from Wei Dai, founder of the popular B-money cryptocurrency project. Currently, Ethereum uses a proof-of-work consensus whereby each transaction is calculated by multiplying the gas limit or base amount of gas you are willing to consume for a transaction by the gas fee denominated in gwei. Suppose an anonymous user, Bob, decides to send 1 ETH to another user, Charlie, with a gas price of 200. We can arrive at the gas fees paid in ETH given that the gas limit for Ethereum transactions is fixed at 21,000 units thus: 21,000 x 200 = 4,200,000 gwei = 0.0042 ETH, arrived at by 4,200,000/1,000,000,000, which is the amount of gwei in 1 ETH. So Bob will send 1.0042 ETH from which 1ETH goes to Charlie, and the remaining 0.0042 goes to the miner for verifying and adding the transaction to a block for validation and inclusion on the EVM state. With the recent London hard fork or upgrade, however, Ethereum has made efforts to make the gas fee more predictable by introducing a target block size of 15 million and a maximum block size of 30 million, which determines a base fee. Since Ethereum is the most popular blockchain for building decentralized applications, it has often been difficult to verify transactions. With this upgrade, a base fee determined by the level of demand for the spaces in a block is set and incremented by 12.5% when the target is exceeded. That base fee is burned, and the tip incentivizes miners. So transactions on Ethereum are now given by: (Gas limit x base fee) + tip So in our previous example, if Bob was to send 1 ETH to Charlie at a base fee of 100 gwei and a tip of 10 gwei. The calculation will be: 21,000 x 100 + 10 = 2,310,000/1,000,000,000 = 0.00231 ETH 0.0021 ETH is burned of this amount, while 0.00021 ETH goes to the miner as fees. Going by the block size rule, when the block space demand crosses 15 million, the 100 gwei base fee becomes 112.5, representing an increment of 12.5%. Smart contracts on Ethereum are written in solidity, and deploying them requires higher computational power than the average transaction. Ethereum is moving to proof-of-stake soon, which will decentralize the current concentration of ETH among a few by allowing anyone with 32 ETH to become a validator. Ethereum powers some of the most popular DeFi applications, such as Uniswap, Bancor, Balancer, and Curve. Ethereum vs. Bitcoin: Key Differences Support Ethereum is more practical and value-driving to the crypto and blockchain than Bitcoin. Even though people often cite cases of forks such as the Ethereum Classic, which represents a division of the Ethereum blockchain, Ethereum still outperforms the flagship cryptocurrency on several points. It is also important to note that Bitcoin has forks of its blockchain, such as BCH and Bitcoin Gold. Mining and Staking Ethereum currency uses a combined proof-of-work/proof-of-stake algorithm, thanks to the Beacon chain, which shipped on December 1st, 2021. Bitcoin uses a proof-of-work consensus. Proof-of-work requires miners to solve a piece of mathematical computation to add new blocks to the state of the network. Although Ethereum supports the creation of decentralized applications that have limitless use cases—most of which are still being explored today—Bitcoin only recently got the Taproot upgrade that allows the creation of apps on top of the Bitcoin blockchain. However, Ethereum is still a step ahead in technology. There are plans to make ETH a complete proof-of-stake blockchain that will be live in months, according to Vitalik Buterin at the ETHDenever event. Mining Ethereum is not different from mining Bitcoin at the moment. The only way to create ETH and BTC out of nothing is by solving complex mathematical puzzles required to generate a block. The popular function used for solving blocks is SHA 256, developed by NASA, which hashes strings to get target results for new blocks to be created. As Ethereum upgrades to proof-of-stake, staking will create blocks on the network through a similar process that qualifies verifiers on a base amount of token holdings, such as 32 ETH. Market Cap and Transaction Fees The total maximum supply of ETH is 120 million. However, the number will keep going down due to the burn mechanism introduced by Ethereum, which sends a fixed number of ETH to an only-deposit-to address from each transaction. On the other hand, Bitcoin has a total fixed supply of 21 million. Transaction fees on Bitcoin are cheaper than Ethereum gas fees. The current gas fees on Ethereum in the past ranged from $15 to $52.46 in gwei since January. Transactions on the Bitcoin blockchain costs just $2.30 on average. Going by the market share, Bitcoin holds twice as much value as Ethereum. The flagship cryptocurrency holds more than $700 billion in value, while Ethereum’s market share is in the neighborhoods of $300 million. Ethereum has steadily lost value to other programmable blockchains like Solana due to its high gas fees. However, the fees are down to a reasonable level since its all-time-high. Energy Consumption Energy consumption is measured in watts, or joules per second. Suppose you think about a joule as a unit of energy. In that case, we can then say a watt is a unit of energy per second. Bitcoin uses 124 TW/H or terawatts per hour, an energy usage around five times New York City’s energy consumption. Ethereum consumes an average of 48 TW/H, which is much smaller than Bitcoin’s energy consumption by a factor of 3. With the proof-of-stake upgrade of Ethereum, the energy consumption will go down by 2,000% to around 2.4 TW/H. Functionality Bitcoin was the first cryptocurrency that removed the world from the shackles of centralization. It serves as digital money and a store of value, and with the current taproot upgrade, it will be possible to build decentralized projects on Bitcoin. Ethereum is a decentralized computer for everyday applications with limitless opportunities. The Future of Ethereum Keep in mind that even though Ethereum fees are high, we are yet to explore the impact of dApps on the Bitcoin network, so it is hard to compare both blockchains on that level. In terms of energy consumption, however, Bitcoin is so far behind Ethereum that companies like Tesla have stopped accepting Bitcoin. Even though Bitcoin supporters think this is unfair because banks consume about 140 TW/H, the number of people using Bitcoin is fewer than those using Banks. You can imagine the energy situation when everyone starts using Bitcoin. Ethereum is energy efficient, and several upcoming upgrades will make the platform even more preferable to Bitcoin.