“Part One-What is Decentralized Finance?”
What is decentralized finance or DeFi? Decentralized finance refers to the shift from traditional banks or credit unions to peer-to-peer finance enabled by decentralized technology built on a blockchain. Defi removes banks’ control of our money, financial products, and services. We gain control and privacy over our data. The goal of DeFi is to get rid of all the banks that are involved in our financial transactions. The components of DeFi are stablecoins, software, and hardware that enables the development of applications. Defi is built on three main components: a blockchain, cryptography, and smart contracts.
First, blockchain technology is a digital ledger of transactions duplicated and distributed across the entire network of computer systems on the blockchain. A blockchain is a chain of blocks that contains information. This system of recording information makes it difficult, or impossible to change, hack, or cheat. It distributes a digital ledger of data that continuously adds information in chronological order. As of 2022, there are more than 10,000 active cryptocurrencies based on blockchain, with several hundred more non-crypto currency blockchains. A simple analogy of blockchain technology would be a Google Doc. When we create a document and share it with a group of people, the document is shared instead of copied or transferred. This creates a decentralized distribution chain that gives everyone access to the document at the same time. You are not locked out, awaiting changes from another party. All changes to the document are recorded in real-time, making changes completely transparent.
Next, cryptography is one of the fundamental backbones of a blockchain. Cryptography is used to protect digital data. It secures information and communication techniques derived from mathematical concepts/ algorithms. It transforms messages that are hard to solve. Cash withdrawals from an ATM and computer passwords are examples of cryptography. Cryptography is written in secret code so that no other person except the intended recipient can read it. It’s an encrypted message that replaces letters with other characters.
Lastly, smart contracts are the backbone of decentralized finance guidelines and applications. A smart contract is a fancy word for a piece of code that automatically executes something in a prearranged way. This piece of code is stored and executed in a distributed manner. A transaction agreement is automatically executed, controlled, or legally documented according to the terms of the agreement. Smart contracts cannot function without blockchain technology. An excellent way to understand a smart contract is to consider the ride-sharing service Uber. When you order an Uber on your phone, the request gets sent to Uber’s big computer server. Uber uses their unshared software to match you with a driver. The software maintains all the key information including your credit card details, the driver’s star rating, and the kind of car they have. The driver takes you where you need to go and the fare is debited from your bank account. Some of that money goes to the driver, however, a significant cut goes to Uber themselves, to pay for their expensive, centralized framework. Smart contract applications can include trading, investing, lending, and borrowing. The advantages are direct dealings between investors, simple record keeping of transactions, detection and reduction of fraudulent activities, enhanced trust, saved money and resources, and unchangeable contracts. Smart contracts offer you the accuracy, speed, autonomy, trust, safety, and savings we all want in finance.
In summary, it is never too late to jump into the world of decentralized finance. DeFi technology is the future! It brings solutions to today’s financial problems and our unbanked society. It creates a trusted, unfiltered, uncensorable storeroom of data and information accessible worldwide.
Part two of my article on DeFi is coming soon. Please follow Harlem DAV on Twitter, Instagram, and LinkedIn for more educational information about this topic.
