DeFi (decentralized finance)
Also called: decentralized finance · DeFi protocols
Definition
DeFi, short for decentralized finance, is a set of financial services such as trading, lending and earning yield that run on public blockchains through smart contracts instead of through banks or exchanges.
This entry is shown in English.
How DeFi works
In DeFi, the rules are written into smart contracts that anyone can use from a self-custody wallet. You do not open an account or hand over your coins to a company. Well-known examples include Uniswap for swapping tokens, Aave for lending and borrowing, and Lido for liquid staking.
Because the contracts are public, DeFi apps can be combined like building blocks: a token you receive from one protocol can be deposited in another. This is often called composability. It enables new products quickly, but it also means a failure in one protocol can spread to others.
The main risks are different from those of a centralized exchange: smart contract bugs, manipulated price oracles, malicious token approvals, depegs of stablecoins or staking tokens, and your own mistakes, which nobody can reverse.
Example
Suppose you hold 2 ETH. On a lending protocol, you deposit them as collateral, worth 6,000 USDC at an illustrative price of 3,000 USDC per ETH, and borrow 2,000 USDC. You swap 1,000 USDC on a DEX for another token and keep 1,000 USDC in your wallet. Every step happens through contracts you sign from your wallet. If ETH fell to about 1,250 USDC, depending on the protocol's settings, your collateral could be liquidated to repay the loan.
Common mistakes
- Treating a high yield as free money without asking where the yield comes from.
- Using a new protocol with a large amount before it has any track record or audit history.
- Forgetting that every transaction costs gas and that failed transactions still pay fees.
Learn and practise
FAQ
Is DeFi safe?
DeFi removes the need to trust an exchange, but adds smart contract, oracle and user-error risk. Safety depends on the protocol's code, history and how carefully you use it.
Do I need KYC to use DeFi?
Most DeFi protocols do not require identity checks to interact with the contracts, though some front-end websites restrict access by country.