Decentralized Finance (DeFi) has become an exciting, highly valued movement in the blockchain space, with impressive innovation and growing traction over the last two years. In February, the Total Value Locked (TVL) in DeFi projects passed $1 billion for the first time. The value pulled back the following month, but DeFi TVL is now again flirting with that milestone. While $1B is a relatively modest amount by conventional financial sector standards, decentralized technologies clearly have the potential to power innovative and diverse products and services. And the Maker Protocol is front and center.
The Maker Protocol gained popularity as Dai became DeFi’s most-used cryptocurrency. But DeFi is a fast-moving area, even for blockchain tech, so the question is not simply which protocols are establishing a DeFi foothold, but also how are existing services being used, where are new products headed, and what trends are taking hold?
Many trends and themes have emerged within the DeFi movement. Here are five to keep your eyes on in the coming months, and beyond:
The Ethereum blockchain continues to dominate the DeFi landscape despite the loss of some market share to other DeFi and smart contract platforms (including Tron, Binance Chain, Neo, Waves, and others). Every major DeFi protocol, barring Bitcoin’s Lightning Network, is built on the Ethereum blockchain, and new projects join all the time. Even with ETH’s volatility, the long-term upward trend in TVL in DeFi is intact. ETH locked in DeFi, arguably a great measure of adoption as it signals the proportion of all ETH used for DeFi rather than its volatile USD equivalent, is at around 80% of its all-time high.
Moreover, complex transactions associated with DeFi have increased five-fold in the last two years. Ethereum analysis firm Covalent forecasts a “flippening” event, where DeFi transactions overtake simple ETH transfers.
Finally, thanks to the composability of the Ethereum blockchain and the Maker Protocol, the new solutions built on top of both make the DeFi ecosystem incredibly valuable. Composability helps to create ‘network effect,’ a powerful phenomenon where the value of goods or services grows as the number of users increases. It’s because of network effect that the Maker Protocol accounts for over 50% of TVL in DeFi. To date, over 600 projects have integrated Maker’s Dai into their apps built on top of the Protocol.
There is a large and growing appetite for stablecoins as traders seek on-(block)chain ways to hedge and store value. Tether (USDT), a centralized stablecoin with the majority of its supply hosted on Ethereum, maintains its multi-billion-dollar dominance. But other centralized and fiat-backed alternatives are gaining ground — and they all take the form of ERC20 tokens:
- Circle’s USD Coin
- TrustToken’s TrueUSD
- Paxos Standard
- Gemini Dollars
While the Ethereum blockchain itself is decentralized, and all of these tokens can be transferred and traded openly, they are centralized in how they store value. Because they are run by organizations that hold the funds that back them in one or more bank accounts, their value can be frozen or even confiscated. Simply using a decentralized infrastructure does not remove all single points of failure.
The Dai stablecoin is different. Dai is unbiased — available to anyone, anywhere — and is not caged by the parameters of a central party. While there is considerable interest in centralized stablecoins, Dai is the foremost decentralized stablecoin and the most popular stablecoin in the DeFi space. Thanks to its openness, stability, and censorship resistance, Dai has also gained traction in Latin America as a tool for surviving hyperinflation.
Dai is gaining traction across Latin America — especially in Brazil, Colombia, Venezuela, and Argentina.
What began as a handful of DeFi projects has given way to a wave of experimentation and innovation in the space, including offerings of decentralized versions of mainstream financial products. Think of Dai as the financial “glue” that connects many of these services.
Dai allows anyone to access the stability of the US Dollar (something not always easy for those outside the US), and deploy it throughout the DeFi world. At one end of the spectrum, this includes simple services like low-cost, fast international transfers (Dai is ideal for remittance). At the other end of the spectrum, Dai has been integrated into more complex products, including:
- Insurance (e.g, Nexus Mutual)
- Predictions Market (e.g., Augur and others)
- Decentralized leverage trading (e.g., dYdX)
- Lending Protocols (e.g., Compound, Aave, InstaDApp, and more)
- Synthetic assets (e.g., UMA)
All of the above allow users access to products that would otherwise remain out of reach. The DeFi space will almost certainly welcome more and more novel and experimental projects in the months and years to come.
“Decentralized Lending Protocols” is a hot new sector in the DeFi space, though it’s nothing like taking out an unsecured loan in the conventional finance world. DeFi “borrowers” don’t sign piles of paperwork to ensure repayment — they instead put up crypto collateral via smart contracts on the blockchain. This allows them to free-up cash for day-to-day expenses or trading, without selling the crypto they believe will appreciate in value. If they allow the collateral to become insufficient as a result of market movement, the lending protocols liquidate the collateral instantly. This area of DeFi is soaring in popularity.
Exchanges are moving beyond the paradigm of separate, purely centralized, or decentralized services, with new platforms that include the best of both paradigms. DeFi’s composability enables businesses and users to have their cake and eat it.
Aggregators — services that link traders to different DEXes — offer easy access to liquidity from multiple sources at the same time. Peer-to-Contract (P2C) platforms, such as Uniswap, are complementing the traditional Peer-to-Peer (P2P) approach. In the P2C model, users buy and sell from a smart contract that automatically calculates the price based on supply and demand. This removes the need for order books, reduces complexity, and simplifies the user experience.
Additionally, exchanges are integrating other services, so that users can acquire crypto and then immediately deploy it. In December 2019, an update for decentralized exchange infrastructure 0x protocol enabled staking of ZRX tokens. Liquidity aggregator protocol Kyber now does the same. And Oasis.app offers a unified DeFi hub, providing an easy-to-use interface for users to generate Dai and exchange it for other tokens on the built-in DEX, or else acquire Dai on the DEX and earn by locking it in the Dai Savings Rate (DSR).
Meanwhile, centralized exchanges are integrating decentralized protocols. Coinbase Wallet offers users access to Compound (lending) and dYdX (margin trading), and OKEx has integrated the Dai Savings Rate (DSR). And OFC has adopted a smart contract-driven insurance protocol. All of this points to further convergence and blurred edges as centralized services facilitate access to decentralized opportunities.
DeFi is a promising movement that is now where Bitcoin found itself five years ago: Gaining traction but still establishing its most attractive use cases. While specific trends have emerged in DeFi, that process of evolution, experimentation, and ultimately consolidation likely has many more years to run.