Is Anyone Really Using It?

Supposedly, decentralized finance is the fiat and traditional banking system disruptor. Who’s using it? Are you?

Crypto investors may be buying the coins of the big DeFi players. But ask them if they have ever used it to borrow or send money to someone, and they will likely say no.

Numerous DeFi platforms were created to lend in stablecoins backed by fiat. As investments, they have suffered the crypto winter. MakerMKR
started the year at $2,355 and is now $704. Aave began to 2022 at $258. It’s now $85.

The global DeFi ecosystem reached a high of $183 billion in November 2021, so this is no slouch of a sector in the cryptocurrency/blockchain space. For sure, hardcore crypto fans believe DeFi will render traditional finance obsolete in their very closed world, at least for them.

The reality is that most people have never heard of or used DeFi. Investors own the tokens, but don’t use the service. Everyone interviewed for this article agrees that DeFi lacks accessibility, has a lackluster user experience and often comes with high gas fees (think of it as a transaction charge). This, coupled with the learning curve itself, means many potential users who like cryptocurrency stay away from DeFi services.

More importantly, what’s so great about sending someone StellarXLM
lumens through its own blockchain instead of dollars through Western UnionWU
(which allows for bitcoin transfers)?

Well, it’s the fees, of course. Sending Lumens is cheaper. Then if you want dollars, you have to transfer it to dollars, and there is often a fee there. People will use the brands they know to transfer money to one another. If Venmo and CashApp allow for bitcoin transfers, who needs Maker coins in real life? Investors can get interest for those coins, which is fine, but 10% yield on a coin that lost 80% of its value is not all that interesting.

All told, being able to get around government-issued money sounds like a good idea. Especially in a world where the programmable currency is being discussed at central banks in the creation of a central bank digital currencies (CBDC). Adding political censure to the mix and being able to hide from the “powers that be” who can shut your bank account down sounds all too attractive. Everyone in the crypto world wants DeFi to work. Everyone who has had it with centralized political power should also want it to work. DeFi has the wind at its back, as an idea.

What will it take to make the idea adoptable?

“The first wave of DeFi solutions created the foundation for a new era of finance. The second generation builds on this, learning from the challenges encountered and enhances functionality of first-gen protocols and widens the reach to traditional institutions,” says Rachid Ajaja, founder & CEO at AllianceBlock in The Netherlands.

Ajaja says several core challenges need to be addressed in the DeFi world. Developers need to build better infrastructure to make it easier to build programs; market participants need better industry standards such as implementing know your customer rules; and “identity management” without compromising on the core tenets of decentralization.

“DeFi is inherently complicated,” Ajaja says. “Tackling these challenges will reduce the barriers to entry.”

That may be one signal for a quasi-mass adoption, but even when the Canadian government blocked bitcoin transfers to activist groups tied to a trucker protest in Canada this year, no one suddenly hopped on the bitcoin bandwagon.

That action showed the government could shut down crypto. If anything, it made DeFi interesting. But no one knows about Maker DAO or Aave outside of the investor community. And so DeFi remains a speculative investment rather than a way to avoid Justin Trudeau shutting down access to your money.

DeFi and Centralized Finance: Will They ‘Merge’?

Like everything crypto investing, DeFi is for “some time in the future”. If we knew when and which token would benefit from it (to become the Citibank of DeFi), we would all pile into it as investors.

“The ‘when’ depends on how soon regulation takes place,” says John Patrick Mullin, Co-Founder & Co-CEO of SOMA.finance, an SEC-compliant multi-asset decentralized exchange platform. “The masses tend to adopt new products when they see that they’re backed by legitimate organizations,” he says. “I think centralized finance and the new decentralized finance companies will have to work together to bring the best of both worlds – you get financial freedom from DeFi, and you get the sense of security from centralized finance.”

DeFi might become a household name when the big, well-known centralized finance companies (or CeFi in crypto parlance) join hands. CeFi is also crypto. Coinbase is a CeFi company. Account holders can earn interest on savings at Coinbase, borrow money in cryptocurrency and spend with a debit card linked to your balance with Coinbase. Decentralized finance is similar: you can do most things that traditional banks and CeFi firms support — earn interest, lend, trade assets and more. It is also global, peer-to-peer lending.

“CeFi is getting squeezed from both sides. On the one hand, they are entering a market where users are accustomed to zero fees, peer-to-peer transfers, and a self-custody experience,” says Kevin Lepsoe, Founder of Infinity Exchange, an institutional lending Protocol for Web3 based out of London. “On the other hand, they’re dealing with governments (with their CBDCs) and corporates who want direct access to the capital markets. It is critical that CeFi invest in DeFi, and encourage regulation to stay relevant and validate their continued existence.”

So the “merge” will be a hybrid of DeFi and CeFi crypto lending platforms. And the company that does this with DeFi will likely be the company that makes DeFi a branded product line that’s part of a bigger player – be it Coinbase or Crypto.com.

“DeFi and CeFi are inherently complementary in nature and offer differentiated financial services and products that solve different needs,” says Lucas Huang, co-founder of DeFi lending protocol Aurigami in Dubai.

Early this summer, Aurigami closed a $9.5 million investment round co-led by Dragonfly Capital and Polychain Capital, with participation from other prominent crypto venture firms, including Coinbase Ventures.

“I think that the conundrum DeFi faces as it strives for mass adoption is how it should respond to intensifying regulatory attention while keeping with self-custody and privacy,” Huang says. “What is certain is that the DeFi landscape and experience in a years’ time will be drastically different from where it is today. We are building. We are learning as we go.”

DeFi: It’s Too Hard. Just Gamble on the Tokens

Despite the market route, investors still like crypto.

BlackRockBLK
set up a cryptocurrency fund for its high-net-worth clients. Professional investors like that will want to invest in good platforms with promise. We will find out who those are in time, or these investment firms will dump DeFi out of their own fiduciary responsibilities.

DeFi has to produce, in other words, and not just be a place investors can park some capital and make yield. It has to answer the question of – why would I want to borrow in this currency or lend to someone in it? Why would I want to transfer money to someone in Timbuktu on this platform, in their token, instead of through a bank wire, straight to a bank the end-user has worked with for years?

Among the doubts, DeFi is finding its users.

“More people have better access to this technology, and entry barriers are always being lowered. This is being done slowly, step by step,” says Mark Smargo, CEO of Fuse, a DeFi mobile payments network. “First the tech is sexy and innovative, and then everybody uses it and then it becomes boring.”

For traditional consumers of financial products, DeFi is too complicated. Talking to a crypto-enthusiast about it is – probably – quite boring unless you’re of the same mind. Otherwise, only high-risk investors want to hear about it.

DeFi is still in its start-up phase.

“Every layer of the technology stack in DeFi needs to be radically better before mass adoption starts. The user experience needs to be far more intuitive,” says Adam Simmons, Chief Strategy Officer at RDX Works Limited, a decentralized finance protocol that provides access, liquidity and programmability of any crypto asset worldwide.

It also has to be user-friendly. Most DeFi today is accessed via wallets that are often browser extensions, and secured by a long string of words, called a seed phrase (which people must remember; it’s a password on steroids).

“The next step is a need for radically better developer experiences,” Simmons says. “DeFi has grown over 200-times in dollar terms over the last two years, yet the number of developers has only doubled to around 18,000. Experienced developers in the space command some of the highest salaries in tech, but because of programming language and fundamental technology limitations, billions of dollars are lost to hacks or exploits each year. For DeFi to thrive, we need to provide the proper tooling to get more of the 24 million developers worldwide to build powerful and secure DeFi applications quickly.”

Lastly, to support mainstream adoption, Defi has to be built on a network that can scale to millions of transactions per second. DeFi on Ethereum is nowhere near that.

“The wave of DeFi we saw in 2020-2021, and continuing to now, was really not built for mass retail adoption,” says Ran Hammer, VP of Business Development at Orbs, a blockchain infrastructure company based out of Tel Aviv.

“A lot of the DeFi platforms are very niche. As DeFi systems become more user-friendly and more connected to real economic productivity, there will be some overlap with CeFi,” Hammer thinks. “The more cutting-edge parts of Ceci will start utilizing some of DeFi’s technical breakthroughs, and parts of Defi will interface more with retail and the regular system. There will always be native DeFi doing their own thing and many people will remain within the conventional system anyway.”

*The writer of this article is an investor in Stellar lumens and bitcoin.