DeFi stands for Decentralized Finance, an umbrella term for all financial instruments and services deployed on the blockchain network. DeFi allows the users to get seamless access to almost all financial services offered by centralized financial institutions. The range of services includes deposits, lending, borrowing, trading assets, and derivatives. With advancements in the blockchain space, DeFi is serving the financial needs of the common public without much paperwork or a third party. Furthermore, as DeFi is fueled by cryptocurrencies rather than fiat, the transactions are faster, global, P2P (Peer-to-Peer without any centralized system), and secure.

DeFi expands on the basic premise of Bitcoin, creating an alternative to fiat currencies without any associated transactional costs. DeFi is one of the booming industries that have the potential to create more open and accessible financial markets.

Significance of Decentralized Finance

DeFi is all about the financial freedom and ease of access it offers end users. The users need not store their funds anywhere (banks or any other financial institution) at the expense of their trust. Instead, they can hold their assets in a cryptocurrency wallet with private keys only known to them. DeFi harnesses the power of blockchain technology to eliminate the need for intermediaries in any financial transaction. To accomplish this, DeFi uses various security protocols and software advancements.

DeFi gives access to every financial service offered by the bank, with just a smartphone and an active internet connection. The users can trade, lend or borrow assets through DApps (decentralized applications) that store the transaction details on the blockchain network. These data are validated through consensus mechanisms before getting appended to the blockchain. The data are widely distributed across all nodes in the network, making them impossible to tamper with.

Role of Smart Contracts in DeFi

Cryptocurrencies and Smart contracts are two inevitable aspects that help DeFi eliminate intermediaries. The banks or other third-party payment processors act as financial guarantors who carry out your transactions. Smart Contracts in DeFi replace these financial institutions in DeFi.

Smart contracts are lines of code that can hold users' funds and transfer them to any other wallet based on certain conditions. The conditions to be met are pre-coded and cannot be altered once the smart contract is live and running on the blockchain. For example, when you stake a certain amount of coin 'X,' the smart contracts could be programmed to automatically send you the staking rewards after the tenure is complete. The rewards are always sent to your wallets, and no one can add another wallet as a recipient to steal your rewards.

In the case of banks, the internal processes and audits are impossible to trace through. But, at the same time, smart contracts are open and can be inspected or audited by anyone. This means the community will quickly scrutinize bad contracts.

Use Cases of DeFi

People engage with DeFi in so many ways, but the following are the common ones:

Lending/ Borrowing - A fair concept allows you to lend your crypto assets sitting idle in the wallet to earn you some rewards. The borrowers can gate it from the lenders and pay the interests.

Crypto loans - The users can place them as collateral to get instant loans. There is no paperwork or waiting periods like in traditional finance.

Staking - A process where you stake your cryptocurrencies to support the Proof-of-Stake consensus mechanism in return for rewards.

Yield Farming - The users can add liquidity to the liquidity pools in return for rewards. This enhances the functioning of AMM engines.

Trading - What if you can buy stocks without any brokerage? It is possible in DeFi to make Peer-to-Peer trades of specific crypto assets.