NFTs (non-fungible tokens) and cryptocurrencies experienced a surge in popularity in the 2020s, with companies such as Tesla investigating the possibilities of decentralized currency systems.
No matter your stance on the current changes in the financial sector, it is clear that technology is playing a major role in transforming the industry. We are in the midst of a rapid digital transformation that has taken us by surprise and those that are able to seize the opportunities presented may benefit greatly.
It is still too early to accurately predict the outcome; however, the current trend appears to be heading towards a confrontation between governments, banks, fintech, big tech and the relatively unfamiliar concept of decentralized finance (Defi).
Just what does Defi mean?
DeFi, short for Decentralized Finance, is a term used to describe any financial product or service that is publicly available and runs on blockchain technology. It can include a variety of different offerings, ranging from lending and borrowing services to asset trading.
The absence of government oversight and the involvement of a neutral third party, such as a market exchange or payment processor, are notable features in the provision of these goods and services.
Envision a world where you can pay for goods and services with digital currency. There would be no need for third-party providers such as ApplePay or PayPal, as you can transfer the necessary funds directly from your digital wallet. Furthermore, there are no additional or hidden charges associated with this method of payment.
It is a vision that may be of interest to libertarians – a financially unregulated environment with minimal governmental presence, yet with the added security of a public blockchain that is comparable to that of traditional financial systems.
So, why should one use DeFi?
Each user is free to keep and use their own property.User has complete control over their own funds; there are no intermediaries or transaction fees.
To put it simply, DeFi does not need authorization from anybody.Users are able to carry out transactions with any party they choose without incurring any fees from their financial institution or being subject to any regulations.
There is openness in business dealings.Most blockchains function as a public ledger, so all transactions are visible to anybody who wants to look.
All dealings occur instantly.Interest rates are changed many times each minute, and the blockchain is updated as soon as a transaction is completed.
Information stored in DeFi cannot be altered.Data on a blockchain is very difficult to alter.
There are a lot of free DeFi protocols out there.In contrast to proprietary software, the source code for Ethereum and other projects is completely open and accessible to everyone. Developers are able to quickly and easily connect DeFi apps to create new financial products and services without needing approval.
It is important to exercise caution when evaluating potential investments, as something that appears too good to be true may not be genuine. Unfortunately, many DeFi projects, such as Axie Infinity and the NFT market, have failed in 2023 as a result of unrealistic promises and over-marketing. One of the most popular cryptocurrencies, Luna, recently experienced a significant crash, resulting in a loss of billions of dollars for investors.
Blockchain technology is generally considered to be secure, however, Decentralized Finance (DeFi) systems are still vulnerable to malicious human interference, as is any other form of financial system. If your credit card information is stolen, you can take steps to have the card temporarily disabled; however, if your cryptocurrency wallet is stolen, you may have limited options for recourse.
It is likely that the complexity of DeFi systems is the primary obstacle to their widespread adoption. Despite the fact that NFTs have become a common topic of discussion, after two years there is still a lack of clear understanding of what they are or how they operate, and configuring a cryptocurrency wallet is oftentimes a cumbersome task.
Traders Are Making Moves
Governments across the world are carefully monitoring the Decentralized Finance (DeFi) sector due to its high levels of volatility. With some companies now worth more than $90 billion, it is impossible for governments to ignore the sector. For example, the Wall Street Journal reported that the US Securities and Exchange Commission (SEC) was investigating cryptocurrency exchanges that had previously been unregulated.
The Financial Action Task Force (FATF) has released new recommendations for governments worldwide, encouraging the collection of data on key figures in the cryptocurrency industry. These regulations are particularly relevant to individuals who have the power or considerable influence over decentralized finance (DeFi) operations.
When considering decentralized financial systems, it is worth examining how traditional market regulations apply. It is unlikely that governments would attempt to exercise control over the DeFi market, however, it is possible that restrictions may be put in place in relation to the exchange of DeFis for fiat currency.
It is essential to note that the underlying technology and infrastructure of DeFi systems are highly appealing to various monetary systems around the world. Central Banks are encouraged to consider digital money as an alternative to the gradual decrease of physical currency.
China has become a leader in the digital wallet space with the launch of its own payment solution. The Chinese population is highly receptive to digital payment methods and Tencent’s Digital Wallet is now used by one billion people.
What Does This Mean for New Businesses?
We anticipate that the market will experience a substantial expansion of digital wallets in the near future, with offerings from governments, large tech companies (e.g., Apple Pay), and decentralized finance (DeFi) infrastructure. As the industry continues to evolve, financial organizations, such as banks, will likely seek out pioneering solutions.
It is reasonable to anticipate that both Fintech and Big Tech companies will be looking to acquire smaller businesses as larger organizations continue to strive for destination platforms – comprehensive ecosystems that fulfil the needs of consumers.
Recent DeFi activity has been slow, though it is expected to recover in the near future. The downturn can be attributed to the presence of fraudulent schemes and unscrupulous individuals operating within the market.
It is expected that the DeFi sector will be further strengthened due to the introduction of new regulations and increased public knowledge. This presents an immense prospect for organizations looking to expand into new markets.
Particular attention should be given to developing tools that serve as a safeguard for the public, assisting in bridging the knowledge gap between experienced DeFi users and those considering giving the technology a go. With gross margins of between 65-80 percent, DeFi could potentially be a serious competitor to more established payment processors, such as Visa and Mastercard. However, in the present circumstances, this seems unlikely.
Traditional payment processors have earned their place in the market through trustworthiness, yet they are still subject to disruption. Until DeFi reaches the same level of simplicity and reliability as current solutions, it will only attract a limited audience.
After the smoke clears, we’ll be in a whole different world, and startups would be well to look for ways to capitalize on these shifts.