The Problems With DeFi

this video is sponsored by morningbrew click the link in the description below to start getting your summary of the daily news today cryptocurrency as a whole has certainly come a long way from its humble origins among niche cypherpunk communities to today where it seems every trading platform is trying to add some crypto functionality recently however the space has gotten a pretty bad reputation from numerous rug polls where investors money is taken out of newly created systems to the brutal onslaught of nft projects peddling pretty bad art there's a reason many believe that there's more hype than substance to the space while the idea of buying the latest iteration of the dogecoin meme and seeing your money go to the moon has somewhat died down these days what about that core d5 or decentralized finance functionality that started it all after all the basic idea of the bitcoin white paper release in 2008 was for a peer-to-peer system for transferring funds outside the influence of financial institutions and while the term defy itself wasn't coined until 2018 it's now possible to do everything from invest to lending money on the blockchain does this side of crypto hold more promise than just buying the latest meme and seeing your funds grow to millions well while there are strong arguments for certain decentralized systems at a high level in practice there remain many many many problems with how defy operates some of which greatly reduce the likelihood of widespread adoption now that's not to say that long term we might not see something emerge out of the area and even these days there are plenty of people that find great utility in the d5 platforms but claims that the current banking system is on its way out the door are likely premature if not totally off base why we'll dive into that in more on today's plane bagel our current financial system operates under what you might call a hub and spoke model where financial institutions the pubs facilitate every transaction in the system between the spokes us if you will this obviously gives banks a lot of control and power outside of central banks who themselves influence the very value of the currencies we operate on financial institutions dictate what rates you pay what you earn and can even track and block your transactions and of course most institutions scrape fees off of every transaction that goes on in the system even if it's between two end users there are obviously a number of issues with this and centralizing power in this way well efficient at moving money around can cause problems as we saw in 2008 with excessive risk taking from institutions that were deemed too big to fail add in that many underdeveloped nations face rampant corruption and monetary issues and there are many places where the traditional financial system falls well short to some this is where d5 shines defy has attempted to create an entirely new ecosystem where consumers can interact with other end users directly regardless of where they are or even who they are all the while bypassing the influence control of the government in large financial institutions i'll quickly describe d5 at a high level but obviously i'm skipping over a very many number of details here as you probably know the foundation of this functionality is the blockchain a distributed ledger maintained by numerous nodes and validators as opposed to a single financial institution or server meaning no one party has control of or gatekeeping authority over transactions on the system rather than being facilitated by a middleman d5 functions rely on what are called smart contracts to outline the rules of interactions simply put smart contracts are small programs that themselves are hosted on the blockchain and they have allowed people to create decentralized applications or daps as they're called which facilitate everything from exchanging your cryptocurrency to buying insurance now while the bitcoin blockchain is really what popularized cryptocurrencies and the idea of being able to hold and send digital currencies directly to other users most apps are actually hosted on the ethereum blockchain given that ethereum by many standards offers more smart contract functionality it was actually ethereum developers who coined the d5 term in 2018. so what can people do through d5 well quite a bit actually for one those who have cryptocurrencies on hand and want to earn more cryptocurrencies can effectively deposit them into the system in the same way you might contribute money to a savings account to earn a return you can either stake your cryptocurrency basically helping to support the blockchain as a whole with your funds you can lend it out to borrowers to earn an interest rate on the money that you have or you can contribute your funds to a capital or liquidity pool all of which offer you a return for putting money into the system this is what gives defy its firing power funds contributed to the system are used for a number of different functional or financial purposes well depositors earn a return in the form of interest fees or at times promotional rewards from certain platforms in fact some active investors carry out what's called yield farming where they essentially hunt for the best rates and frequently switch their crypto into different functions although this can be seen as a risky approach especially in situations where you're getting a new type of cryptocurrency meanwhile on the demand side of things you can borrow money through defy lending platforms buy insurance to protect you against certain defy events such as a hack you can exchange your cryptocurrency for other cryptos or fiat currencies trade derivatives gamble money and many many other functions clearly the functionality of defy has expanded well past the simple moving of money around and people have found a number of benefits to operating on the system returns from things like field farming can at times be high for simply providing money into the system arrangements can be entered without any sort of paperwork which obviously can take time traditionally and of course everything can be done anonymously and without regulation for better or for worse there's also the fact that the blockchain is immutable or permanent data added to the blockchain can't really be edited after the fact making it immune to certain types of hacks you can see how some of this has an appeal and indeed defy has grown pretty rapidly over the past few years as more users hop on total value locked for ethereum the value of kryptos deposited into the system if you will has jumped from just over 600 million dollars at the beginning of 2020 to over 110 billion us dollars more recently now that growth is certainly impressive but it is firstly worth noting that it does remain peanuts compared to the larger financial system according to the bank of international settlements total global bank assets are roughly 101 trillion dollars so d5 only represents a rough point one percent of the entire banking system jpmorgan itself is valued at roughly double the entire d5 market now there's a chance that d5 continues to grow at these impressive rates and challenges the traditional system but this is where we start to get into some of the issues with how d5 works because as impressive as these milestones achieved have been for d5 there's a reason that most people will still likely go to a regular financial institution to take out stuff like a mortgage for one fifa as a whole is fairly inefficient and cumbersome at least when it comes to processing data maintaining the blockchain consumes a lot of power with a single ethereum transaction consuming roughly 60 more electricity than 100 000 visa transactions building applications on ethereum can also be pretty clunky because it essentially involves stringing together multiple small programs rather than being able to build a fully self-contained program given smart contract limitations but also ironically appear as though those middleman fees that we've come to love in the traditional system are actually an important part of d5 as well with many transactions requiring you to pay what are called gas fees effectively a tip to miners of the system that for even slow processing speeds can equate to over ten dollars a transaction and the more complicated your defy function the higher your gas fees will be now importantly there have been systems developed to try and circumvent these timing and costly issues including layer 2 scaling and side chains both of which essentially involve processing data outside the ethereum blockchain itself but this has led to a saturation of different options for carrying out basic d5 functions so it's hard to know which functions will end up sticking around and obviously doesn't make for the most efficient of marketplaces certain functions have also had to make sacrifices in the name of keeping things on the blockchain loans are a great example of this outside the fact that interest rates for defy loans are very volatile and rapidly changing there's really no way to assess the risk of borrowers in a defy system because of this most dapps require borrowers to over collateralize their loans depositing more money into the platform than they're actually taking out this ensures that lenders have security against someone making off with their funds but greatly reduces the use cases for loans on defy and given how important loans are in the current monetary system that's a big hiccup there's also of course the risk that comes with d5 platforms this is the plane bagel after all we have to talk about the risks here defy is after all an early technology with many functions being figured out in a brutal trial and error process it's why a lot of crypto enthusiast sites themselves can see that d5 is a high-risk area for adopters why well firstly there's just the sheer volatility of many cryptocurrencies which are a necessary component of these transactions ether itself the cryptocurrency supporting ethereum lost almost half its value in just a few months at the end of 2021 so you can imagine how disruptive it would be to operate a defy system off such a volatile asset now many services do circumvent this by relying on what are called stable coins cryptocurrencies like tether and dai which peg their value to the us dollar but outside the fact that some of these platforms have lied about the amount of actual us dollars backing their value stable coins obviously connect d5 back to the u.s financial system that it is intending to replace consumer protections are also for many functions non-existent on defy because when you know it sidestepping regulators also means operating in a space with no regulations or consumer protections if you lose your cryptocurrencies because someone scammed you packed your wallet or otherwise gained access to your crypto assets there is absolutely no recourse for getting your coins back at best you might be able to block the hacker out of using certain platforms that agree to help you out and even then the only chance you'll really get your crypto back is if you convince the hacker to effectively be charitable and while the blockchain itself is pretty well protected from hacks there are plenty of vulnerabilities that arise during various defy functions which is why we always hear about crypto hacks despite the blockchain itself being pretty resilient part of the issue here is actually the blockchain's permanence because smart contracts are human-coded programs they can sometimes have bugs that will either lead to the service crashing at times or lead to holes in the security of that platform that hackers can exploit and because things on the blockchain can't really be changed there's no way to patch or update this faulty code things have to be replaced which leads to a very tedious and slow process for addressing vulnerabilities finally in many ways defy has replicated many of the problems of the system that it's looking to replace as mentioned many d5 functions have tied themselves very closely to the us financial system meaning central banks and non-central banks still have influence over d5 operations and we've seen that there's the development of certain things that people came to hate in the us financial system such as d5 derivatives cdos or collateralized debt obligations for one have in some areas become an important part of d5 functions which is a little ironic when you consider that these securities were at the core of the 2008 financial crisis despite what enthusiasts might say defy also really hasn't done a good job of decentralizing power sure once you get past the massive learning curve of crypto it is in some instances more accessible than traditional financial systems when it comes to stuff like credit scores and whatnot but having money still gets you the furthest in the system and early adopters are put way further ahead than late adopters allowing people to buy more control of dows pay more in gas fees to get faster processing build the largest mining farms for the biggest reward of crypto assets or just buy the most assets yourself now to squeeze two shout outs into a single video patrick boyle actually recently shared with me a great piece that goes over this issue more in depth cold line goes up the problem with nfts by folding ideas you might have seen it circulating around it's done really well for itself and it's a great piece that while more critical than i'm willing to be here about the system highlights why power distribution isn't exactly equitable on d5 so i've sort of just spat out a lot of high level issues with defy but you can see that they are important hurdles for the space and really my goal here isn't to demonstrate that defy is worse than traditional finance of course there are many deep rooted issues with the traditional system but problems with the current system don't alone justify the new one and as technically beautiful as defy has become it needs to be practical for it to really see wider adoption maybe it will get there i'm not stating that peer-to-peer finances with or without the blockchain won't continue to seek growth but people who say banks are already on their way out the door really don't understand the scale of the current system and how in some places it does do better than defy now obviously no one can predict the future including myself i am after all a dirty financial professional who has a conflict of interest to keep the poor's money in bank accounts i'm not actually a banker but it's just to say i really don't mind if defy does well or not i actually think it's great to have competition for how we do things and to challenge the system as it exists it's just to give a bit of pushback against enthusiasts who might say that the d5 revolution is an inevitability and a good reason to buy into cryptos now that might not necessarily be the case in the long term a big thank you to morningbrew for sponsoring today's video as we hopefully demonstrated defy is just one example of how quickly the financial landscape can change and adapt to new technologies and if you're interested in keeping a pulse on everything going on in the world of finance or business as a whole morningbrew is a free service that sends out an excellent daily newsletter summarizing tech finance and business news it was a friend who originally recommended morningbrew to me and i've really liked reading them because of all the cool tidbits of information they squeeze in like how the average nft is actually only held for 48 days but if reading ain't your bag they actually just recently started their own youtube channel they have a whole bunch of different videos covering everything from what inflation is to the evolution of the video game industry and just like their newsletter the videos are witty and entertaining one of theirs that recently caught my eye was their most expensive nfts piece which covered the 10 most expensive nfts ever sold spoiler alert a lot of them came from the same sort of lame collection so if you want to check them out use the link in the description below to go visit their channel and subscribe for the low low cost of well free and of course you can always sign up for their newsletter if you want more content as well thanks again morningbrew for the support [Music] [Music] you

Channel: The Plain Bagel

Views: 132,393

Keywords: The Plain Bagel, defi, crypto

Id: to1frt5IKlo

Length: 15min 46sec (946 seconds)

Published: Fri Mar 18 2022

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