The world of diversified finance (DeFi) is gradually expanding to cover a significant part of the international financial lending space by virtue of the inherently unreliable operations and easy access to capital. As the cryptocurrency ecosystem has grown into a $ 2 trillion industry with a market value, new products and offerings have emerged thanks to growing innovation in blockchain technology.
Lending and borrowing have become an integral part of the cryptocurrency ecosystem, especially with the advent of DeFi. Lending and borrowing are one of the core offerings of the traditional financial system and most people know the terms in the form of housing loans, student loans, etc.
In traditional borrowing and lending, the lender provides the borrower with a loan and receives interest in exchange for taking the risk while the borrower provides assets such as real estate, jewelery, etc., as collateral for obtaining the loan. Such transactions in a traditional financial system are facilitated by financial institutions such as banks, which take steps to minimize the risks associated with lending by conducting background checks such as Know Your Customer and creditworthiness before approving a loan.
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Borrowing, lending and blockchain
In the blockchain ecosystem, lending and borrowing activities can be carried out in a diversified manner, where parties involved in business can communicate directly with each other without intermediaries or a financial institution through smart agreements. Smart contracts are self-generated computer codes that have a certain logic where business rules are built (coded) into them. These rules or loan terms can be fixed interest rates, loan amounts or the closing date of the contract and are automatically implemented when certain conditions are met.
Loans are obtained by submitting cryptographic assets as collateral on the DeFi platform in exchange for other assets. Users can deposit their currency into the smart DeFi protocol and become a lender. Instead, they are issued native symbols for the protocol, such as cTokens for Compound, aTokens for Have or Dai for MakerDao to name a few. These symbols are typical of the principal and the amount of interest that can be redeemed later. Borrowers provide cryptographic assets as collateral in exchange for other cryptocurrencies that they wish to borrow from one of the DeFi protocols. Loans are usually mortgaged to take account of unexpected expenses and risks associated with diversified financing.
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Borrowing, lending and total value blocked
It is possible to borrow and borrow through various platforms in the scattered world, but one way to evaluate the performance protocol and choose the right one is by monitoring the total value of the blockchain (TVL) on such systems. TVL is a measure of assets in smart contracts and is an important measure used to evaluate the recording scale of the DeFi protocol, as the higher the TVL, the more secure the protocol.
Smart negotiation platforms have become a big part of the cryptocurrency ecosystem, making it easier to borrow and lend because of the optimization offered in the form of lower transaction costs, faster execution and faster settlement times. Ethereum is used as the dominant smart contract platform and is also the first blockchain to promote smart contracts. TVL in DeFi protocols has grown by over 1,000% from just $ 18 billion in January 2021 to over $ 110 billion in May 2022.
Ethereum holds more than 50% of TVL at $ 114 billion, according to DefiLlama. Many DeFi lending and borrowing rules are based on Ethereum due to the advantage of being the first mover. However, other blockchains, such as Terra, Solana and Near Protocol, have also increased their grip due to certain advantages over Ethereum such as lower fees, more flexibility and more synergy.
Ethereum DeFi protocols such as Aave and Compound are some of the most prominent DeFi lending platforms. But one protocol that has grown significantly over the last year is Anchor, which is based on the Terra blockchain. The main DeFi credit protocol based on TVL can be seen in the graph below.
The transparency provided by the DeFi platforms is unmatched by traditional financial institutions and also allows unauthorized access, indicating that all users with cryptocurrencies can access services from anywhere in the world.
Nevertheless, the potential for growth in DeFi lending space is enormous, and the use of the Web3 crypto wallet also ensures that DeFi participants retain their assets and have full control over their data through the crypto security offered by blockchain architecture.
This article does not include investment advice or advice. Every investment and trading business involves risk and readers should do their own research when making a decision.
The views, thoughts and opinions expressed herein are the sole responsibility of the authors and do not necessarily reflect or represent the views and opinions of the Cointelegraph.
Neeraj Khandelwal is a co-founder of CoinDCX, an Indian cryptocurrency exchange. Neeraj believes that crypto and blockchain can revolutionize traditional financial space. It aims to create products that make cryptocurrencies accessible and easy for international audiences. His area of expertise lies in the cryptocurrency family space and he has also been sensitive to the international development of cryptocurrencies such as CBDC and DeFi, among others. Neeraj holds a degree in Electrical Engineering from the prestigious Indian Institute of Technology Bombay.
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