How Decentralized Finance Works
Decentralized Finance Works
The term “decentralized finance” refers to the growing ecosystem of financial applications and protocols built on the blockchain technology. These platforms enable people to borrow money from anywhere in the world without requiring credit checks or private information. Because they use a distributed ledger, they can offer better interest rates than banks and other traditional lenders. These protocols are open to anyone, including big banks. The founder of one such protocol, Aave, explained how the technology works.
The technology behind decentralized finance is a network of applications developed on public blockchains. These applications include lending, interest earning, and currency exchange. As Juan Nuvreni describes in a YouTube video, decentralized finance news applications enable borrowers and lenders to interact through one single platform. For instance, a borrower might apply for a loan, use the same platform to receive the cryptocurrency, and repay the loan using a decentralized application.
As a decentralized system, decentralized finance functions through decentralized applications that are developed on public blockchains. The applications can help users borrow, sell, or exchange digital assets. The borrower can also use the same platform to obtain cryptocurrency, making the entire process transparent and convenient for both parties. The World Economic Forum has outlined a toolkit for enabling decentralized finance services. To help guide policymakers and other stakeholders, the World Economic Forum has created a “toolkit” for decentralized finance.
How Decentralized Finance Works
In DeFi, borrowers enter their loan needs into a dApp and let an algorithm match them with peers. Once the borrower accepts the terms, the transaction is recorded in the blockchain. After a consensus mechanism has verified the transaction, the lender can start collecting repayments from the borrower. Payments via a dapp follow the same process, and then funds are transferred to the lender. This way, borrowers and lenders can benefit from the benefits of a decentralized system.
The core of DeFi is a stablecoin. Many of the companies behind the concept of DeFi have started using stablecoins to avoid the volatility of typical cryptos. This is because volatile cryptos can become unstable and disrupt the system’s natural balance. While using a stablecoin will not cause the same problems as using a volatile crypto, it will help a decentralized finance project remain viable and profitable.
A decentralized finance platform can be useful for people who are looking to borrow money. Instead of a bank, a decentralized application allows individuals to access loans without traditional credentials. This means that everyone in the world can use a DeFi platform to borrow money. This makes it possible to access a variety of financial services, including lending and currency trading. In contrast, a bank will only be able to process a loan if the person has a traditional credit score.