If we had an opportunity to rebuild the global financial system, could we design a model that better meets the needs of everyone in society? As the Decentralized Finance (DeFi) space matures, increasingly, the answer appears to be yes.
Today, nearly every aspect of the global financial system is managed by a centralized authority. Governing bodies set the rules. Large banks and financial institutions control the flow of capital. And intermediaries provide the only path for consumers to access services from mortgages and student loans to stock and bond investments.
For all of its merits, the incumbent financial system falls short in many ways. High intermediary costs and slow transactions, for instance, have long been a challenge. The average global cost for sending remittances stood at 6.38% as of 1Q21, more than double the 3% target highlighted in UN Sustainable Development Goal 10. Banks charge 10.66% on average.
Trust is another issue. In the wake of the global financial crisis, the financial services sector is the second-least-trusted sector globally, outperforming only social media. In fact, 47% of respondents in a survey conducted in 2021 said they trust Bitcoin over big banks, significantly higher than when the survey was conducted three years earlier.
“One of the primary advantages of decentralized finance is that you don’t need a central authority,” says Ben Zhou, CEO of cryptocurrency derivatives exchange Bybit. “As long as you are an active participant in the DeFi space and have the right amount of collateral, you are on a level playing field with everyone else. On a personal level, for instance, there’s no credit score. On a business level, there is no need to have held an account for a certain period of time or show a certain cash flow. While the legacy financial system will continue to play a sizable role, shifting towards decentralization will create new possibilities and growth opportunities.”
DeFi is a system in which software protocols written on public decentralized blockchains enable buyers, sellers, lenders and borrowers to interact on a peer-to-peer basis. It democratizes access to financial services by removing intermediaries like banks and clearinghouses, making those services open for anyone to use. In their place, smart contracts that execute automatically when the terms of an agreement are met make transactions possible.
Younger generations are taking the lead in the DeFi space: “There are changing behavior patterns among millennials and the younger generations,” says Igneus Terrenus, Head of Communications at Bybit. “Many of them are digital natives. They are far more comfortable and familiar with new technologies. They understand that DeFi is more inclusive. And in some cases, DeFi protocols and coding languages are more intuitive for them than the legacy financial system.”
The applications of DeFi are far reaching. Beyond traditional financial transactions such as borrowing and lending, DeFi is currently being used in several innovative ways: decentralized non-custodial exchanges that enable investors retain control over their assets; digital crypto wallets that operate independently of exchanges; insurance solutions provide coverage for smart contracts; and tradable synthetic assets that mimic the properties of other assets like stocks, bonds, precious metals or derivatives.
DeFi boomed in 2020. When the year started, less than $1 billion worth of cryptocurrency was locked in DeFi assets. That reached $13 billion by December and now stands above $80 billion. Yet, there’s a lot of room to grow. With the total market value of cryptocurrencies now around $2 trillion, the DeFi sector accounts for roughly 6% of the crypto market. A redistribution of crypto assets will likely drive the next phase growth.
“The DeFi industry matured a lot in a very short span of time,” Terrenus says. “Now, all of the money that is pooled among DeFi protocols is more valuable than some of the biggest banks and biggest companies in the world. Given the huge addressable market, there is a lot of room for explosive growth in the years ahead.”
People outside the DeFi space present a huge growth opportunity. Take the unbanked population. An estimated 1.7 billion adults around the world remain unbanked. Common barriers include the high cost of financial services and a lack of trust in financial institutions. In turn, they lack access to loans, investment services, remittance facilities and more. Two-thirds of the unbanked population own a mobile phone that could help them access financial services. Here, the DeFi-powered solutions may prove the most effective way forward.
Bybit holds decentralization dear. As Bybit evolves, Zhou is keen to reinvent the exchange in a way that is transparent and more closely aligned with the ethos of the DeFi community.
“There are two routes that any derivatives exchange can take,” Zhou says. “One is by retrofitting to the regulatory requirements made with the legacy system in mind; the other is a decentralized model where you use crypto native solutions to achieve the same desired results. Our goals are aligned with regulators — we just think a crypto native approach is better for crypto. Eventually, Bybit will follow the decentralized path, delivering our centralized products in a more decentralized way.”
Bybit intends to give rise to a decentralized exchange that will in time be able to operate independently. On such a decentralized exchange, investors would no longer need to deposit their tokens into a centralized wallet. They would simply be able to trade using Bybit’s chain-matching service. One such example that already exists is Uniswap—a decentralized financial protocol that is used to exchange cryptocurrencies. It facilitates automated transactions on the Ethereum blockchain using smart contracts. Bybit intends to learn from its success.
Decentralizing the exchange may not be the final stop. Bybit intends to make the ethos of decentralization central to the way that it operates, first by incubating the decentralized businesses with the cash flow support from the centralized Bybit platform, and eventually spinning them off.
“Even though we are currently a centralized exchange, this is the direction that we are heading, and this is the change that we want to see in the world because it will make the entire financial system more inclusive,” Zhou says. “This is the rising tide that lifts all boats. It will be beneficial for everyone.”
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