Early look at DeFi on Ethereum

Blockchain killer app or flash in the pan ?

DeFi (Decentralized Finance) is the new new thing on the blockchain, like with new new things ( remember ICOs ?) there is a learning curve and a ton of new concepts and issues, rather than go deep into any one of them I’ll try to give you an overview and point you to other resources if you want to learn more, let’s dig in…

Don’t sugar coat it doc.

Think about what financial products you use… A checking account that gives you 0% interest, a savings account that gives you 6% APR , a loan you have to beg for at 12% APR, Insurance and credit cards to name a few, what all this instruments have in common is that there is a middle man ( your bank ) and this middle man nickel and dimes you, sets and changes the terms whenever it pleases and generally treats you like crap, DeFi at its core wants to eliminate the middle man, decentralize the whole process and in the parlance of our times let’s you be your own bank.

While this sounds great ( unless you are a bank ), it is literally day zero of this effort, and as such there are multiple issues both intrinsic ( you do know how to operate a bank don’t you ? ) and growing pains, mainly horrible UI/UX, a lack of on-boarding , early adopter risk and well the products themselves are a bit on the weird side.

Building Blocks

If DeFi is to be successful, it needs to successfully emulate fractional banking ( or a similar mechanism ), which in turn facilitates lending and interest rates.

The story of fractional banking as told in economics classes is that you give your money to the bank so it can keep it safe, the bank then lends it to others and charges them interests and the bank gives you back the interests minus the cost of running the bank, an important detail is that the bank does not have every single customers money at hand since it is not expecting all the customers to come and demand their money at the same time (a run on the bank) , hence the fractional part, banks are also required to have at least some percentage of the costumers money at hand, this are called reserves and currently in the US they are a low low 10%.

The problem with traditional banks

Somewhere along the way the above story changed into something else, banks have played fast and loose with credit on one end, and the service has become both inefficient and one sided on the other, your checking account doesn’t give you interests, there’s fees everywhere and we had the 2008 financial crisis as a result of lax regulation.

The reason is clear, banks as a group operate a monopoly and banks control the money which in turn controls politics. Cryptocurrencies flawed as they might be are a very clear competitor to this system across the board, the currencies themselves be it Bitcoin, Ethereum or a yet to come one are fast turning into a competing Fiat ( government backed currency ), ICOs are an alternative to the VC model of funding, and now DeFi can be an alternative to the bank monopoly.

Now that we have an overview of what DeFi is, let’s look into a couple of products already running on the Ethereum Blockchain:

⚙️ Why Ethereum ? While some DeFi products might come up in other cryptocurrencies/blockchains, due to its programming nature and track record, Ethereum is where most of the progress is happening right now and as such I'll focus on that for now.

Maker DAO, Dai,MKR and CDPs :

➸ https://makerdao.com

Quick Explanation: Maker DAO is a Decentralized Autonomous Organization, Dai is an Ethereum Stablecoin pegged to the Dollar, is an utility token and a CDP is a Collateralized Debt Position, they all work together to provide DeFi products. is aecentralizedutonomousrganization,is an Ethereum Stablecoin pegged to the Dollar, MKR is an utility tokenand ais aollateralizedebtosition, they all work together to provide

That’s a lot to unpack and clarify, so let’s go slower:

DAI:

DAI is an Ethereum based stable coin; this means that 1 DAI should equal 1 USD and that you should be able to exchange back and forth from ETH BY YOURSELF in a DECENTRALIZED Manner.