Decentralized finance (DeFi) is an emerging model for organizing and enabling cryptocurrency-based transactions, exchanges, and financial services.
With DeFi, there is no central authority. Instead, it is distributed through a decentralized approach that aims to give individuals more power and control. In the DeFi model, in a peer-to-peer (P2P) approach, all transactions for buying, selling, lending and payments with cryptocurrency occur without a central authority.
How Does DeFi Work?
DeFi relies on the use of a blockchain, usually based on Ethereum, in many DeFi operations.
A blockchain is an immutable form of distributed ledger that cryptographically protects the entries used for transactions.
With an Ethereum-based blockchain, smart contracts help the DeFi model work. A smart contract is an application that runs on a blockchain using native distributed ledger and cryptographic encryption capabilities. A smart contract specifies the terms and conditions for the execution of a specific transaction.
CeFi vs DeFi?
In cryptocurrency-related financial services, there are two dominant models in use today with CeFi and DeFi. When comparing CeFi vs. DeFi, it is important to note that there are similarities and differences between the two approaches.
The CeFi model relies on a central authority to manage transactions. The central authority also retains custody of assets.
In contrast, the DeFi approach relies on smart contracts and a P2P decentralized approach to enable financial services. Asset custody keeps individual users in custody of their cryptocurrency assets, rather than being the responsibility of centralized exchanges.