The decentralized financial industry undoubtedly has great potential – the value set in it has exploded, topping $ 14 billion this month. While there is speculation about whether decentralized funding is another bubble, I believe it will stay here. How it stays, however, depends on how DeFi deals with ongoing hacks and other vulnerabilities, how centralized funding encompasses the most important functions of DeFi, and vice versa.
DeFi encompasses everything that the crypto space basically stands for: democracy, power over non-banks and under-banks, transnationalism, a truly global and divided economy that many would consider a financial utopia.
However, a utopia has never emerged, and no extreme can lead uncontrollably and sustainably towards its final goal. The Enfants Terribles in the story usually come to an unfortunate end if they fail to adjust to the realities of a less than utopian world. A golden mean between CeFi and DeFi must be achieved – both “factions” will benefit from this, as will the entire room.
Connected: Was 2020 a “DeFi year” and what is expected of the industry in 2021? Experts answer
What DeFi can take from CeFi
The lack of a comprehensive and effective security clearance in DeFi has resulted in the loss of millions of dollars to hacks that are damaging the reputation of the entire room from the perspective of the world outside of Crypto, where the distinction between CeFi and DeFi is blurred. Within Crypto, this has positioned DeFi as an enfant terrible, and for good reason – among code bugs, flash credit attacks, system vulnerability exploits, and token design issues, there were more than 20 major DeFi hacks for an amount exceeding over 20 in 2020 $ 100 million.
Fortunately, in recent months there has been increasing recognition of the importance of having a better exam – and the exam in general – among larger DeFi players and their communities. This is the first step in the right direction.
Auditing for DeFi is, of course, an emerging profession as is the industry itself, and while that means it’s not up to date, it also leaves plenty of room for change and improvement – maybe even for developing an entirely new sub- Industry with standards and certifications to address DeFi’s biggest weakness. This security review model and the best practice can be adopted directly by CeFi and adapted to the specifics of DeFi.
The next step would be financial audits that address potential vulnerabilities from a market perspective. This would be a collaboration between traditional and digital finance, and it’s something CeFi gamers make the conversation in.
These issues would partially address another DeFi challenge: attracting institutional investment to ensure long-term development. While DeFi’s anonymity prevents large capital inflows by default, as institutional investors cannot enter into contractual obligations with an anonymous counterparty, better security would facilitate a relationship between CeFi and DeFi in this direction.
A similar problem arises in retail, which is just as important in driving mass adoption. The complexity of most DeFi platforms makes them inaccessible due to the high level of technical knowledge required to use them. This limits the DeFi platforms’ chances of expanding their user base, which in turn makes a breakthrough into the mainstream unlikely and limits their growth potential. CeFi products, on the other hand, enjoy a significantly higher level of acceptance due to their user-friendliness and their proximity to conventional digital banking tools. These formats can be mapped onto DeFi protocols to improve user acquisition and retention.
Additionally, there are currently ways that DeFi is successfully adopting centralized components, and the fact that DeFi platforms hold a significant portion of their assets in stable coins – the products of centralized organizations – is perhaps the best example of this. As such, stable coins serve as an urgently needed bridge between DeFi and CeFi.
What DeFi CeFi can give
There is much to be admired about what DeFi has brought to the table this year, not least of all is that it gives non-banks access to banking services and the democratization that our entire space is seeking.
Although flash loans are blamed for most of the hacks, they are the absolute trademark of DeFi as they are a great example of how finances can be effectively democratized. By allowing everyone to act like a whale and take advantage of market situations that would otherwise not be available to them as a smaller investor, they eliminate the phenomenon of the rich getting richer while the less rich stagnate due to a lack of financial instruments or liquidity favorable moments. With the greater security and user friendliness of CeFi, these possibilities can be expanded and presented to an entire market of potential users with and without bank details.
There are also positive results from some of the DeFi projects that collapsed this year. The “right to fail” is an important part of the learning curve for an industry as young as ours, which makes us more resilient and even more fragile. This is in sharp contrast to traditional financial markets, where mistakes big and small are eliminated thanks to the interventionist policies of governments and central banks. I believe that this is the fundamental flaw in the current financial system. Our space shows how the real forces of the market are played out, and DeFi, with its many hacks over the past year, has illustrated this perfectly. I admire people like Harvest, Value DeFi and Yam for reporting their bugs. It shows that the entire crypto space is maturing and getting stronger in general.
With DeFi as it stands, it is unlikely to go beyond its own niche despite the steep spike in 2020. It will reach a plateau in the coming year as some projects fail and disappear, while others adapt and set mechanisms in motion for themselves – regulate and give way to a more sustainable mode better aligned with CeFi.
A combination of the ideals of DeFi – a system without vertical authorities, in which the procedures are democratically and transparently agreed by the community – and the security measures and user-friendliness of CeFi will facilitate the introduction of mass cryptos in order to ultimately create a fairer financial environment .
The views, thoughts, and opinions expressed here are the sole rights of the author and do not necessarily reflect or represent the views and opinions of Cointelegraph.
Antoni Trenchev is co-founder and managing partner of Nexo, a provider of instant crypto credit lines. He studied finance law at King’s College London and at the Humboldt University in Berlin. As a member of the Bulgarian Parliament, Trenchev campaigned for progressive legislation to enable blockchain solutions for a wide range of e-government services, particularly e-voting and storing databases in a distributed ledger.