More than 2 years from 2020, the time of “summer DeFiboom, there have been many extremely successful DeFi projects like uniswap, AAVE, Year Finance, Knife Maker… and the culmination of that success was the Total Value Lock (TVL) of DeFi projects that reached ATH with more than $250 billion in 2021. However, this model has encountered scalability difficulties. , security, centralization, liquidity and access to information…
Therefore, developing a DeFi trend that improves these things and makes the user experience better is currently being expected by many and it is called DeFi 1.
So what is DeFi 2.0? How important is DeFi 2.0? Is this the future of decentralized finance? Let's find out in detail through .'s article BTA Hub .
DeFi 1.0 – Early Developments
DeFi (Decentralized Finance) is a form of blockchain-based finance and it differs from traditional financial services in that DeFi does not require any intermediaries to execute transactions. Blockchain technology in DeFi eliminates banks and other intermediaries, including brokers, exchanges, etc.
The first pioneering projects in DeFi include some prominent projects such as Aave, Compound, MakerDAO and Uniswap… These first projects laid the foundation for the strong development of DeFi.
Aave and Compound offers decentralized borrowing and lending features, allowing on-chain returns on deposits. In 2021, TVL of Aave and Compund reached ATH levels of more than $19 billion and over $12 billion, respectively.
Aave's TVL is currently US$6.38 billion
Compound's TVL is currently US$2.86 billion
MakerDAO provides a decentralized stablecoin for projects in the ecosystem to use in transactions, providing confidence to investors against cryptocurrency volatility. The peak for the development of MakerDAO is in 2021 the project's TVL reaches an ATH of more than 19 billion USD.
MakerDAO's current TVL is 8.46 billion US dollars
Uniswap offers a decentralized exchange where traders can swap tokens without having to fill out cumbersome KYC and AML documents…
Uniswap's current TVL is $6.13 billion, before that in 2021 TVL will reach an ATH of more than $10 billion
What is DeFi 2.0?
DeFi 2.0 is a phrase in the blockchain world that refers to a set of DeFi projects built on top of previous DeFi breakthroughs (or often referred to as DeFi 1.0) such as yield farming, lending… to upgrade and overcome the limitations of DeFi 1.0.
DeFi 2.0 focuses on improving the existing DeFi 1.0 issues such as liquidity, scalability, governance, and security.
Limitations of DeFi 1.0
Before diving deeper into DeFi 2.0, let's take a look at DeFi 1.0's limitations:
- Scalability – Scalability: expensive transaction cost; Slow transaction speed leads to long wait times, which greatly affects user experience. As we can see in the figure below, currently TVL of dApps on Ethereum still accounts for a very large number of nearly 1%, most DeFi solutions are built on the Ethereum blockchain and due to the huge number of users on network, there are significant delays and skyrocketing transaction costs are understandable.
- Liquidity: Liquidity is considered the lifeblood of any trading market, and with DeFi, liquidity is generally low and underutilized.
- Centralization: Currently, many powerful projects still belong to a small group, usually the dev team or the big sharks.
- Security - Security: Many users do not manage or understand the potential risks in DeFi. They stake millions of dollars into smart contracts without fully knowing if it is safe or not. In the past year, we have seen consecutive hacks from large to small platforms causing hundreds of millions of dollars in damage. Therefore, the security of the projects has not been given much importance.
- Oracle Attack: DeFi relies heavily on Oracle for external information, but many projects do not integrate or choose parties that are not good enough. As a result, the project suffered a lot from attacks such as flash loans.
- Capital Efficiency: Currently, there is a large amount of assets locked in protocols and still underutilized, which opens up a lot of future growth potential for DeFi.
Why is DeFi 2.0 important?
Even for experienced crypto users, DeFi is still very confusing. However, the purpose of DeFi is to reduce barriers to entry and create new earning opportunities for cryptocurrency holders. Users may not be able to get a loan with a traditional bank, but they can with DeFi.
DeFi 2.0 is important because it can democratize finance without introducing risk. DeFi 2.0 is trying to solve the problems mentioned in the previous section and improve the user experience. If DeFi 2.0 can do this well and provide better incentives, then all users in the crypto market will benefit.
One risk point often mentioned in DeFi 1.0 platforms is that DeFi 1.0 leaves no individual accountable for security breaches, so there is little chance of tracking down who stole it and getting it back. lost money. Several loopholes in previously developed contracts cost owners millions of dollars, and DeFi 2.0 is a much-awaited improvement to those holes.
Advantages of DeFi 2.0
Insurance for Smart Contracts
While DeFi operates on open source and transparent infrastructure, conducting due diligence and risk analysis of protocols can be difficult for newcomers. DeFi 2.0 mitigates that difficulty by providing insurance on smart contracts to users. In the past, when users staking their LP tokens in a yield farming the previous profits were at risk as they could lose all their coins if the smart contracts were compromised.
Many people would love to stake LP tokens in a smart contract but worry that the contract might be compromised. With DeFi 2.0, an insurance project can provide security for a deposit with a yield farm for a fee. Despite improving risk exposure, the overall detail of these insurance platforms is far from perfect and is highly dependent on the specific smart contract.
Typically, borrowers are exposed to liquidation risk and high interest rates on repayment. DeFi 2.0 helps overcome these pitfalls by offering self-pay loans. In a self-pay loan structure, the lender can use the interest earned on the deposited collateral to repay the loan over time.
After the lender has earned the total loan amount plus the insurance premium, the deposited collateral is returned to the borrower. There is also no risk of liquidation with self-pay loans. If the collateral token drops in price, then the time required to repay the loan will be extended accordingly.
Insurance for permanent loss
Normally, for users who invest in liquidity pools and engage in liquidity mining, any change in the price ratio of the two locked tokens could result in a loss for users.
This phenomenon is called impermanent loss and it is one of the saddest features of decentralized finance.
DeFi 2.0 projects are introducing new measures to mitigate this risk. Some protocols use fee proceeds to insure users against such loss. They can also mint new tokens to cover their losses. All these policies make DeFi a safer option for crypto investors.
The Risks of DeFi 2.0
Despite the significant improvements, DeFi 2.0 still has some risks, including:
Attack from hackers
We cannot be completely sure that the smart contracts we are interacting with will not be attacked by hackers. Auditing has never been a sure way to ensure the security and safety of smart contracts. Therefore, it is most important that we have studies to evaluate projects before participating in DeFi projects.
Decentralized finance is only possible with cryptocurrencies, many of which are highly volatile. When prices fluctuate wildly, investors face the consequences. Some protocols mitigate this risk by providing users with stablecoins to use for transactions. Similarly, the inherent volatility of the cryptocurrency market will always be a factor influencing decentralized finance.
Regulations are tightened
As governments and regulators become increasingly interested in DeFi, projects and platforms may need to adapt rules and services to align with industry standards. While it can help provide greater stability and security, it also changes support levels and affects decentralization.
DeFi 2.0 is considered an improvement of DeFi 1.0, but whether DeFi 2.0 is really better than DeFi 1.0, we need time to answer. Hopefully through my article, it will help people have more perspectives on DeFi 2.0 and have more useful information in their investment process and don't forget to continue to follow the next articles of BTA Hub. Please!