CeFi and DeFi
What is meant by CeFi?
CeFi simulates the traditional financial industry in that it allows people to get loans, pay bills and earn interest on their cryptocurrencies.
Lenders transfer risk to companies that have custody of their client’s funds/assets, using the funds to provide interest to the lenders.
Centralised Finance (CeFi) offer many of the same services as DeFi:
- Crypto trading
- Derivatives trading
- Margin trading
Those that prefer the CeFi platforms place their trust in the people behind that platform. One of the advantages of CeFi is accountability; someone is accountable should something go awry.
Most prominent CeFi corporations include Binance, Coinbase and Ripple, the later being a decentralised global payment system, that in truth simulates the traditional financial industry by taking custody of the client’s assets, hence it is CeFi.
What is DeFi ?
DeFi is the birthchild of Ethereum, arguably the most popular crypto company. The token ETH is second only to Bitcoin (BTC).
Decentralised Finance (DeFi) only exists because of Smart Contracts. A smart contract is a computerised arrangement between two people that is processed by the blockchain; the agreement is sent automatically without the need of an intermediary, it is also transparent so cannot be altered and is stored on a public database.
Over the last few years the in-phrase was ‘Smart-Contracts’ now in 2020 the new crypto buzz-word is DeFi (Decentralised Finance), and everyone is jumping on the bandwagon. More than sixty-two projects offer DeFi.
Decentralised financial (DeFi) services automate financial agreements by using Smart Contracts making lawyers and banks unnecessary; This means that they can offer the same deals as banks but at a much lower cost. DeFi users put their trust in the technological protocol as opposed to the CeFi controlling governance, in which the users prefer human accountability.
DeFi Services include:
- Borrowing and lending of cryptocurrencies to earn interest.
- DeFi enables the trading of cryptocurrencies on a decentralised exchange (Dex).
- Provides a dApp to bet on the outcome of an event.
- No-loss lotteries that reward one lucky winner the interest made in a shared pot and everyone gets their original investment back.
- DeFi enables the creating and exchanging of derivatives in real-world assets like precious metals or currencies.
- Enable the purchase of stablecoins which are cryptocurrencies pegged to the value of individual currencies or commodities.
- Allows the use of the smartphone to buy stablecoins and lend them on the increase the earned interest.
- There are many dApps (decentralised applications) that are still at the planning stage that could have a powerful influence on everyday life. Such as those that involve mortgage agreements or the purchase of land.
The drawbacks associated with DeFi
Presently, the most popular use of DeFi is ‘yield farming’; which involves moving of funds around various markets to guarantee the trader earns the highest possible rate of return. Of course, high-yield trades are riskier. It is possible to invest some funds to yield-farm on a more secure and stable exchange, but the premiums will be less dramatic. The risks associated with yield-farming with Defi are well known, even renowned audited protocols are vulnerable to hacking.
However, high-risk trades garner the highest profits. And DeFi inevitably embodies hazardous ventures.
“Honestly I think we emphasise flashy DeFi things that give you fancy high-interest rates way too much. Interest rates that are significantly higher than what you can get in traditional finance are inherently either temporary arbitrage opportunities or come with unstated risks attached.”Ethereum co-founder Vitalik Buterin
Wildly fluctuating interest rates can mean that investors have no way to determine profits over extended periods.
The usual avenues that provide insurance against losses do not apply to DiFi applications; therefore, market instability or a company exiting the markets with the funds could leave investors high and dry.
Decentralised exchanges (DEX’s) can be vulnerable to market manipulation; this is when traders position buy and sell orders ahead of more valuable client orders intending to extract large profits. What’s more deployment of ‘bots’ in the blockchain system are rising to make this form of market manipulation easier.
In 2019, a Cornell University paper found that there is an extensive and growing deployment of arbitrage bots in the blockchain designated solely to decentralised exchanges (DEX’s).
“Like high-frequency traders on Wall Street, these bots exploit inefficiencies in DEXes, paying high transaction fees and optimising network latency to front-run; i.e., anticipate and exploit, ordinary users’ DEX trades. We observe bots engage in what we call priority gas auctions (PGAs), competitively bidding up transaction fees in order to obtain priority ordering, i.e., early block position and execution, for their transactions.”Cornell University paper 2019
The Advantages of DeFi
DeFi provides an introduction of an abundance of financial services to ‘the man on the street’ that thus far he has been unaware of or been unable to access. Now all that is required are a smartphone, an internet connection and a digital wallet.
Hedge Against Fiat Inflation
Global financial systems are facing an unprecedented situation that could not only crash the stock market but may also see the collapse of the fiat system. As the venture capitalist, Tim Draper explains…
“When politicians are printing trillions of dollars willy nilly, people don’t trust the value, and it simply accelerates the migration away from fiat political currency like dollars or pesos and toward undilutable decentralised currency you can trust like bitcoin. The DeFi world is almost as technologically advanced as the dollar. When it is, there will be no one who will want to accept politically manipulable currency like dollars anymore.”Venture capitalist Tim Draper
Areas of CeFi/DeFi Dissimilarities
As seen above, CeFi/DeFi are very similar in the products they offer, yet there are some pronounced differences.
Control over funds – CeFi financial services requires the user to deposit funds onto the CeFi platform. This system can put the users’ assets at risk of theft and hacks.
Using crypto for money laundering can be a big problem. CeFi operations are based on real-world banks and are therefore subject to Anti-Money-Laundering (AML) procedures like Know-Your-Customer (KYC). Also, the AML/KYC regulations of CeFi make transactions between Fiat and Crypto possible.
In contrast, DeFi does not require user information, so there is no AML or KYC to access financial services; as a result, users can enjoy anonymity and protection from theft of personal information. However, the Crypto to Fiat transactions is not presently possible. Also, if things go awry, who is accountable?
Transparency is guaranteed when using DeFi because platforms use smart contracts; therefore, it requires no personal information. Transparency would be inappropriate for CeFi platforms.
CeFi companies have long-established management and governance in place to administer the correct level of customer services and can adapt them to changing circumstances. Whereas, technology-based DeFi is the ‘new kid on the block’ and prides itself on innovation.
Governance doesn’t exist for DeFi; anyone can launch a protocol and attempt to gather funds. Transparent, permissionless and anonymous DeFi creates an opportunistic environment where scams are rife. Investors can experience severe loses because some protocols may be unsuccessful whilst other projects can encounter the boom and bust scenario.
The real-world banking system, CeFi or DeFi all have pros and cons. It is true that the global financial system is costly, inefficient and lacks innovation. It is ruled by the ‘fat cats’ who have the authority to refuse financial services or even block access to personal accounts—built on the concept of trust. But confidence in the bank to protect funds and provide financial services is sustained by habit. Sadly, employers rarely pay ‘cash-in-hand’, so employees must have a bank account if they hope to receive payment.
Both CeFi and DeFi run the same financial services except for Fiat to Crypto transactions which are only available on CeFi exchanges.
CeFi is more open to regulation and is controlled by a governing body, which means there is accountability if things go wrong. Recent history has shown us that if a well-known exchange gets hacked, they tend to take responsibility, and the clients don’t lose out.
DeFi is excellent for money laundering or if you are paranoid and prefer to keep your identity a secret. It is also essential for those unable to get a bank account, so long as you don’t want to exchange crypto for fiat or vice versa.
DeFi is the new-fangled, state-of-the-art technology and people don’t want to be left out. The response to the hype reminds me of the kids’ story, ‘the kings’ new clothes’ in which everyone claimed that they could see the very delicate and fabulous new clothes because only intelligent people could see them. But the tailor had pulled a fast one, and the king was, in truth, naked. People don’t like to be left out, even if they don’t understand.
Any Tom, Dick or Harriette are launching protocols in an attempt to raise money, and investors are willing to fund worthless projects that never really get off the ground. Not to mention that this transparent yet anonymous environment is perfect for the unscrupulous to create scams.
The financial future is digital, ignore at your own risk. But new territories need to be tamed before we feel secure in this environment. In the meantime, DeFi is like the new town bank in the wild west, its decentralisation and anonymity encourage crypto-bank robberies, but like any high-risk project, there are considerable gains to be made. Spreading the risk is the best approach to protect against scams, bugs and errors and to maximise the benefits of this exciting new sphere.
Consequently, when trading, never put all your eggs in one basket, hedge against losses by diversifying the portfolio. The DeFi portfolio is particularly vulnerable, therefore, mix with some CeFi projects, or switch genres to profit from unstable markets. There are several to choose from, Stocks, Futures, Forex, CFDs, Crypto and Index, though these options are diminishing as the establishment brings in regulations.
The DeFi Projects
Presently there are 62 DeFi projects
AMPL, AST, BAKE, BAL, BAND, BCPT, BEL, BNB, BNT, BTS, BURGER, BUSD, BZRX, COMP, COTI, CREAM, CRV, DIA, DMG, FLM, IDEX, JST, KAVA, KNC, LEND, LINK, LRC, LUNA, MFT, MKR, NBS, NMR, OAX, ORN, PERL, PLT, REP, REQ, RSR, RUNE, SHA, SNX, SPARTA, SRM, SUKU, SUN, SUSHI, SUTER, SWRV, TRB, UMA, UNI, USDJ, USDN, VELO, WAN, WAVES, WING, WNXM, YFI, YFII and ZRX
Disclaimer: Opinions expressed at Bitcoin News Agency are not investment advice. Investors should do thorough research before investing in Bitcoin, digital assets or cryptocurrencies. Please be advised, transfers and trades are at your own risk, and any loses incurred are your responsibility. Bitcoin News Agency does not recommend the buying or selling of any cryptocurrencies or digital assets, nor is The Bitcoin News Agency, an investment advisor. Please note that Bitcoin News Agency participates in affiliate marketing.
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