DeFi — Decentralized Finance|An Emerging Alternative to the Global Financial System with MakerDao & Compound

Travis Teo
Jul 3, 2019 · 3 min read

Problems with Legacy Financial System

Reasons why adults remained unbanked

In 2017, The Global Findex Database stated that there are about 1.7 billion adults who remain unbanked around the globe.

Although the current global financial system has created massive wealth, it is inefficient and centralized as only specific groups of people and populations who are properly connected are able to benefit from it; resulting in a rise of wealth inequality.

Fortunately, constant technological advancement and their rapid adoption has catalysed a shift towards a new decentralized financial system.

· — Created the foundation for global communication. Democratized access to information. In Jan 2019, 57% of the global population, or 4.38 billion people were using the Internet.

· — Resulted in devices becoming more affordable over time. 67% of the global population has a mobile phone.

· — Users are more familiarized with handling their finances online. Digital banking users estimated to reach 3 billion by 2021, representing 1 in 2 global adult population

· — The emergence of Bitcoin and blockchain technology reshaped what financial systems could be like in the future.

What is Decentralized Finance?

Decentralized Finance or DeFi for short is a new innovative decentralized infrastructure for the financial system is being built on public blockchains like Bitcoin and Ethereum. Other than just being a cryptocurrency, Bitcoin and Ethereum are open source networks that can be used as a foundation to build smart contracts which can decentralize economic activity using. With Blockchain boasting features such as being decentralized, transparent and programmable, it would bring about wider global access to financial services, much more affordable cross-border payments and better convenience once it is adopted by the mass market.

MakerDAO and Compound

MakerDAO and Compound are the 2 emerging services that have the potential to disrupt the current financial system and lay down the pipeline for the new and innovative open financial system — Decentralized Finance.

A user has to open a Collateralized Debt Position (CDP)with MakerDAOO before they are able to receive DAI, a collateralized stablecoin which is pegged to the USD. A CDP is basically a smart contract in which the Ether that you have collateralized is held. The main difference between DAI and other stablecoins (eg. Tether or USDC) is that DAI is decentralized and built using smart contracts on Ethereum.

The compound is a protocol built on the Ethereum blockchain that establishes money markets, where a pool of tokens has algorithmically derived interest rates based on the supply and demand of the tokens. Suppliers (borrowers) of an asset interact directly with the protocol, earning (paying) a floating interest rate, without having to negotiate terms such as maturity, or collateral with a counterparty.

The process is simple and straightforward:

1. Create a MakerDAO CDP and locked an initial sum of Ether into the CDP

2. Generate DAI at a predetermined Annual Percentage Rate (APR) from the CDP

3. Transfer the DAI to the Compound dApp and earn interest

Interest rates for individual tokens as at 28/6/2019 (Source: https://compound.finance/)

This is the future of DeFi where businesses, projects or people who needs capital can borrow these accessible funds easily while the suppliers (borrowers) of these funds are able to earn interest, making it a win-win situation.

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