DeFi is transforming lending routes on the blockchain

    Decentralized lending and borrowing routes enabled by smart contracts finally allow DeFi to dethrone the traditional finance sector.

    DeFi defined

    Because of its inherent trustlessness and simplicity of accessing cash, the world of decentralized finance (DeFi) is progressively spreading to embrace a major share of the worldwide financial lending market. New products and services have developed as the crypto ecosystem has grown to a $2 trillion market capitalization, thanks to burgeoning innovation in blockchain technology.

    With the introduction of DeFi, lending and borrowing have become an important aspect of the crypto economy. Lending and borrowing are two of the old financial system’s main services, and most people are familiar with phrases like mortgages and student loans.

    In conventional borrowing and lending, a lender gives a borrower a loan and earns interest in exchange for taking the risk. In contrast, the borrower offers collateral in the form of real estate, jewels, and other valuables. In the traditional financial system, financial institutions like banks support such transactions by completing background checks such as Know Your Customer and credit scores before approving a loan.

    Borrowing, lending, and blockchain in

    Lending and borrowing operations can be carried out in a decentralized manner in the blockchain ecosystem, where the parties engaged in a transaction can deal directly with each other without using an intermediary or a financial institution via smart contracts. Smart contracts are self-executing computer codes with specific logic that integrates the transaction rules (programmed). Fixed interest rates, loan amounts, and contract expiration dates are examples of regulations or loan terms that are automatically executed when certain criteria are met.

    How blockchain works

    Loans are obtained by exchanging crypto assets for other assets as collateral on a DeFi network. Users can become lenders by depositing their currencies into a DeFi protocol smart contract. They are given native protocol tokens in exchange, such as cTokens for Compound, aTokens for Have, and Dai for MakerDao, to mention a few. These tokens reflect the principal and the amount of interest that can be redeemed later. Borrowers trade crypto assets for other crypto assets they want to borrow from one of the DeFi protocols as collateral. The loans are usually over-collateralized to accommodate unanticipated expenses and risks associated with decentralized financing.

    Borrowing, lending, and total value locked

    In the decentralized world, one can lend and borrow through numerous platforms, but one approach to assessing a protocol’s performance and choosing the best one is to look at the total value locked (TVL) on such platforms. The TVL is a measure of the assets staked in smart contracts, and it’s a key metric for evaluating DeFi protocol adoption since the higher the TVL, the more secure the protocol becomes.

    Because of the savings given in the form of cheaper transaction costs, faster execution, and faster settlement time, smart contract platforms have become a prominent part of the crypto ecosystem, making it easier to borrow and lend. Ethereum is the most popular smart contract platform and the first blockchain to implement smart contracts. From $18 billion in January 2021 to over $110 billion in May 2022, the TVL in DeFi protocols has increased by over 1,000 percent.

    Total value locked in DeFi

    According to DefiLlama, Ethereum accounts for more than half of the TVL, or $114 billion. Because of the first-mover advantage, several DeFi lending and borrowing protocols have been developed on Ethereum. Other blockchains, including Terra, Solana, and Near Protocol, have gained traction due to advantages over Ethereum, including reduced costs, greater scalability, and greater interoperability.

    Aave and Compound, two Ethereum DeFi protocols, are two of the most popular DeFi lending services. However, Anchor, which is based on the Terra blockchain, has seen substantial growth in the last year.

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