Hello I'm Crypto Casey. In this video we
will be talking about DeFi or Decentralized Finance. We will talk
about what DeFi is, learn about its technological
foundation, and how it works. I've broken down this guide into five
easy chapters. If you are new to cryptocurrency
and haven't watched my videos explaining what Ethereum is in the Ethereum 2.0
upgrade, I highly suggest checking those out
first because it will make this video much easier to follow and understand.
Before we get started please take note of all of my official
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If after watching this video, DeFi is something you would consider investing
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confident, cryptocurrency investors. Awesome!
Now that we've got that covered, let's learn about DeFI Chapter 1: What is DeFi?
DeFi is the trendy, shortened version of the term "decentralized
finance" and to better understand what decentralized finance is
we will compare it with "centralized finance" or the not so trendy, CeFi for short. So the word finance and these concepts
simply refers to the financial industry at large.
and centralized describe the nature of its foundation
and how it works. Currently the entire traditional finance industry
is centralized. So centralized finance is just how financial systems work now
and have been working in the past few decades.
And as we can all see, especially in recent times, the CeFi
or centralized finance foundation is severely outdated
and highly manipulated making it wrought with costly fees,
inefficiencies, deception, fraud, and corruption; all while being vastly
inaccessible to most people living on the planet
and maybe more for the better than worse who really knows? Luckily the leaps and
bounds we've made in the technological realm,
this past decade, have allowed for the development and emergence
of a new decentralized finance foundation.
So although, DeFi stands for the term decentralized finance,
the word DeFi is used colloquially to describe the movement
or crusade towards a low-cost, fast, efficient, trustworthy, and completely
transparent global financial ecosystem that operates without any central
authority and is highly accessible to everyone around the world
with just a smartphone or internet connection.
Wow, that sounds pretty
exciting, right? Or maybe, a bit delusional, perhaps it
more accurately sounds like the ramblings of some pesky, avocado eating,
millennial with poor work ethic and entitlement issues?
Well, now that we know DeFi conversationally and in the media
alludes to a paradigm shift in the global financial industry.
let's talk about the underlying technology that has millennials,
gen xers, and some boomers alike, bullish on DeFi
actually becoming a reality in the not so distant future.
Chapter 2: DeFiy's Foundation Blockchain So, how can the backbone of a new global
financial system conceivably harbor all of these
attributes like efficiency, transparency, and accessibility that have
been completely absent from the current system
we've known and been subjected to our entire lives?
Ethical politicians? Altruistic governments?
Philanthropic financial institutions? Decent, hard-working millennials?
No, oxymoron equips will not be our saving grace.
Neither will leaving matters in the hands of genuinely, ethical and
Instead, the new financial era will
operate on the very place from which numbers,
mathematics, physics, and computer science were derived. The ever, enduring fabric of
the universe. Traditionally, banks, accountants,
bookkeepers, and governments have managed the
financial system. However, in the coming years, DeFi will
allow the entire financial foundation to operate purely from principles of
mathematics and computer science using what's known
as blockchain technology; and blockchain technology is
the cornerstone of decentralized finance as it's what makes the decentralization
aspect of DeFi possible. So to better understand what
the "De" in DeFi means, let's break down what
blockchain technology is and how it works? The best way to
understand what blockchain means is by separating the word "block" from the
word "chain." So, imagine a list of transactions
showing payment sent to and from people around the world being
listed one after the other as they occur in real time.
Then, once a maximum amount of transaction data in the list has been
reached, the list of transaction data becomes a
block of data.
The block of data is then linked to a
previous block of transaction data. So we have new blocks of data being
linked to previous blocks of data as transactions continue to be recorded,
eventually forming more blocks of data. And the word "chain"
simply describes the linked nature between each of these blocks of data.
So the word "blockchain" represents groups of transaction data
linked together forming a chain of blocks. And there are three pillars of
blockchain technology that make it unique: Decentralization,
Transparency, and Immutability. Let's start with decentralization. So the
word "decentralization" is where the "De" in DeFi was derived.
Decentralization in blockchain technology is two-fold.
One, it means that instead of data being stored in one physical location
like on one computer and one building.
Data is stored in multiple locations,
on multiple computers all around the world.
And two, decentralization also describes how no one person,
corporation, government, authority, or entity
can control any aspect of the data recording and storage process.
For example, in our current centralized financial system,
the entire supply of US dollars is controlled by the Federal Reserve
And the Federal Reserve is one central authority that dictates the monetary
policy that essentially drives our economy
affecting all people, corporations, and other entities within
it. From the Fed's money printers, US dollars typically flow into other
centralized entities, like Bank of America or JPMorgan Chase.
And each of these entities are in complete control of where and how their
data is recorded, stored, and managed.
They can decide what
types of servers to use, where the servers are located, and how
their security protocols work. So, if you think about all of the
different entities that make up the whole financial market
at this time, like Paypal, American Express,
Citibank, and more. We pretty much know and accept that they all have their own
separate, centralized systems. You can imagine the
current CeFi, or centralized finance ecosystem, as
several separate, centralized systems that do not
communicate with each other efficiently; Similar to separate galaxies all across
the universe. To transfer value or things
representative of value, like US dollars, between these closed
centralized systems costs money, takes time, and is not efficient. In
contrast, Blockchain allows transaction data
management to be decentralized on a network of computers
around the world using open source software.
And any changes to this open
source software or blockchain protocol have to go through a consensus process
that no one person, company, or government has control over.
Which protects the integrity of the network. So that is the essence of the
decentralization pillar. The next pillar of blockchain technology
is" Transparency". And transparency in blockchain describes
how transaction data is recorded on a public ledger that is
available for everyone to see. This ledger of transactions is saved on
the network of computers all around the world, I mentioned earlier,
which makes it impossible for the data to be changed
or altered. To better understand the value of transparency in data recording,
storage, and management, let's compare these two scenarios.
Currently, as we have seen in the news, the US Government is refusing to reveal
where every single dollar of our taxpayers
coronavirus aid went.
And even if the government decided to show us how some
of it was spent, it would be extremely easy for them to
forge, manipulate, or create data out of thin air to
appease us. Just like how they printed all that fiat from thin air to disperse
in the first place. You can see how that scenario is not
transparent and not exactly trustworthy. So, imagine if everyone in
the U.S. had the ability to see a live, running
ledger of where every single tax dollar was spent by the
United States Government at any moment in time. Basically, all U.S.
Citizens could see a full disclosure of how our
government is managing our money. And in this scenario, there is more trust
and transparency, the Second Pillar of Blockchain
technology. The Third Pillar of Blockchain technology
is "Immutability." And immutability simply means that the data stored and recorded
on the blockchain cannot be changed, forged, or altered.
And this is achieved through cryptography and blockchain hashing
processes. If you would like to watch a more
in-depth video explaining what blockchain is
and why it was developed, check out my blockchain video guide
by clicking above.
So to summarize the three pillars of blockchain technology,
Blockchain's recording and storage protocols make it such, that once new
data is verified, it is unmodifiable. It's distributed
across a vast network of computers all around the world
so it's hard to destroy. And no one person or entity controls the data
or network, creating a transparent environment.
Awesome. Now that you are familiar with DeFi's technological blockchain
foundation, let's talk about the technological
layers built on top of its blockchain base
from which DeFi was born. Chapter Three: DeFi's Ecosystem- Ethereum. So Bitcoin and
Ethereum are both use cases of blockchain technology
with different purposes. Bitcoin is simply a digital currency
that people can use as a form of payment to send to and from each other
or hold as a store of value. While Ethereum is basically a programmable
blockchain that people can build software on to
create valuable products and services. And due to the
decentralized properties of blockchain technology,
the software people can build on ethereum, are called decentralized
applications or DAPPS for short.
And the nature and
potential of these decentralized applications,
or DAPPS, inspired the idea or desire for a crusade towards decentralized finance
or DeFi back in November of 2018. The DeFi movement
aims to transform the current financial system into a more transparent and
trustworthy system, like I described in the scenario we
discussed earlier in the transparency blockchain pillar segment.
So how is ethereum's blockchain-based software application
able to operate if it's not owned or controlled by a central entity or
authority? Let's break down the ethereum network
into three simple layers so that we can understand how it works
in a nutshell, conceptually. Imagine the base layer of ethereum
consists of a vast network of computers called
nodes. These nodes are connected to the internet
with software installed on them that runs the ethereum blockchain.
And this base layer of nodes is where transaction data is processed,
validated, broadcasted, and stored. So as these nodes
process and publish transaction data to the blockchain,
they are rewarded with ether, which is ethereum's native currency.
Ether operates similarly to bitcoin, in that, it's a digital currency
that can be transferred to people around the world, used as a form of payment
or act as a store of value.
So ether was actually designed with the intention of
fueling the ethereum network. Going back to the decentralized
pillar of blockchain technology, we discussed how open source software is
distributed across a vast network of computers around the world.
In order to incentivize people to host and maintain the ethereum network,
Ether was created as a form of payment to essentially
run the ethereum network. And anyone who wants to build a software application on
the ethereum network has to pay for the computing power and
the space required using ether. the amount of Ether required
to process transaction data is determined by a built-in pricing
system known as gas. Transaction data can contain value
in the form of ether and information in the form of code. And
these codes can transmit data and trigger actions in
the next layer of the ethereum network. So imagine
another layer on top of ethereum's base hardware layer
is a software layer. This software layer supports a
programming language library that consists of languages like Solidity,
Viper, and more.
Using these computer languages,
developers can write what are called "smart contracts."
The term "smart contract" was actually coined back in 1998
by an American Computer Scientist named, Nick Zabo,
who invented the digital currency called "bit gold" ten years before bitcoin was
created. Zabo's idea was to basically use
computer code to execute terms of sophisticated
contracts in the buying and selling of securities,
like options and futures. So, smart contracts are just lines of
code that dictate the terms of a contract
and control the execution of the contract.
And with the nature of
ethereum's hardware layer and its blockchain-based software layer,
this creates the perfect trustworthy, digital environment
for building and executing smart contracts. Smart contracts have the
unique ability to authorize transactions and carry out
terms of contracts within a trusted environment which
eliminates the need for a central authority
like a government, bank, or legal system. So smart contracts
make transactions trackable, transparent, and permanent.
Awesome. So we have the hardware layer and the software layer of ethereum,
which basically combined, creates a global decentralized
supercomputer known as the Ethereum Virtual Machine
or EVM. In computing, virtual machines or VMS, are simulations of computer
networks that can be used for many different
cases. In the case of the ethereum virtual machine
or EVM, a very basic and general idea of its role in the ecosystem,
is to improve the flexibility of the software
and ensure separation of each software host and each software application.
And software applications bring us to the final layer of ethereum,
the "Application Layer." The application layer is where developers can build
and launch third-party, decentralized applications
The applications are decentralized
because they operate on ethereum's decentralized, blockchain-based platform.
Popular examples of DAPPS that have been created are, Cryptokitties,
which is a game and, Auger, which is a prediction market platform.
There are several different DAPP categories including games,
identity, health, property, and more. And DeFi represents the finance category
of DAPPS being built on the Ethereum Ecosystem.
Next, let's talk about how all of these decentralized financial applications
are being developed and working together to make the DeFi Era
become a reality sooner than we think.
DeFi's Financial Stack We've covered DeFi's blockchain foundation
and ethereum ecosystem, now let's talk about DeFi's financial stack
or the components of the DeFi framework that lend to its potential usability
and adoption. There are five main components to the DeFi stack.
They are stable coins, exchanges, money markets, synthetics, and
insurance. So let's briefly go over each component
of DeFi Financial Stack. Component One: Stable Coins. So each cryptocurrency has
a different function or utility. And types of cryptocurrencies
that peg their price to something with stable pricing, like
the US dollar, are known as stable coins. For example,
DAI is a token that is pegged to the US dollar
in that it maintains the same value as the US dollar.
This makes the token price "stable." Staying at nearly one dollar
per DAI which is why tokens with this function
are called stable coins. Stable coins were designed to bridge
the gap between fiat currencies and cryptocurrencies.
And also decrease the volatility associated with holding most
cryptocurrencies by allowing people with the token to
hold an amount of cryptocurrency with less price fluctuation.
when you look at the price of cryptocurrencies like bitcoin and
ethereum, you will see how their prices are
constantly in flux. One minute, bitcoin can be worth nine thousand eight hundred
dollars and the next, it can be worth nine
thousand dollars. With DAI, you can hold ten thousand dollars worth
of the cryptocurrency in minute to minute, day to day. The value
will be representative of the US dollar and remain relatively
unchanged. Which gives stable coins, like DAI, a lot
of utility in the defy space. The advantages of truly decentralized
stable coins, like DAI, are that it has transparent records, it's
over collateralized, and has a minimal custodial risk. In
finance, a custodian, is an entity that holds a
user's assets for safe keeping to reduce the risk of
loss or theft. And the nature of blockchain makes it
such that superior security is insured without the need for custodian. Over
collateralized simply means that there are more actual
US dollars backing DAI than there are DAI in circulation.
important to note that there are some stable coins that
are not completely decentralized and transparent.
Stable coins, like tether, do not make their records public.
And tethers lawyers have actually admitted to being under collateralized
by over 25 percent, meaning that there is more tether in
circulation than actual US dollars backing the stablecoin. This could cause
massive liquidity issues for tether users and holders. Which is
why it's so important to make sure you are using an
actual DeFi stablecoin and not just any random stablecoin out there.
So as you can see, DeFi stable coins are an important building block
in the DeFi financial system, as it ensures the stability
of value in the market. Let's take a look at the next component within DeFi's
financial stack. Component 2: Exchanges. Exchanges in DeFi
are commonly referred to as a "DEX"' which is short for
decentralized exchange. In DEX's, are financial applications
that allow users to swap cryptocurrencies for other types of
cryptocurrencies directly peer-to-peer without an
"Intermediary." Currently with centralized exchanges,
intermediaries, like companies, function as middlemen to facilitate
trading assets and charge their users trading fees
while also being under-collateralized causing liquidity
issue when trying to place large orders.
decentralized exchanges, like Kyber network or Uniswap,
users can trade cryptocurrencies, like Ether in exchange for DAI,
with minimal custodial risk due to the nature of the blockchain technology;
while keeping their data private, maintaining complete control over their
funds, and exchanging cryptocurrencies directly
with users for small swap fee, instead of less
secure and costly third parties. Some exchanges,
like Uniswap, offer other services in addition to
exchanging cryptocurrencies. Like allowing users to pool their
cryptocurrencies and earn interest or the ability to send
another person a certain type of cryptocurrency while
using a different cryptocurrency they hold.
For example, If I had Ether, but the person I'm sending funds to
wanted DAI, I could use Uniswap to send my Ether
and have the recipient receive DAI. So you can see how DeFi exchanges
offer important functionality to the DeFi Financial Stack,
offering low fees, superior security, over collateralization, and overall
increased control and ease of asset management for users.
Next, let's talk about another component of Device Financial Stack.
Component 3: Money Markets Money Markets simply represent lending
and borrowing money.
And money markets provide
liquidity, which is a key component to any
financial market. And centralized money markets,
this can largely only be done by banks. There are some online peer-to-peer
applications that facilitate lending and borrowing
outside of the banking system, however again, like we've discussed with
the other DeFi tools, these options are not as secure, private,
low-cost liquid, or functional as DeFi money markets.
With decentralized money markets, users can borrow
and lend their cryptocurrency assets in exchange for interest.
Lending your cryptocurrency in exchange for interest is a great way to earn
passive income on idle assets you are holding for an
extended period of time. Unlike traditional peer-to-peer lending
available with centralized services like, Lending Club,
DeFi money market projects like, Compound, use what's called a "liquidity pool model."
So if users want to lend cryptocurrency assets, instead of lending it directly to
a user, the cryptocurrency is placed in a pool
with other lenders funds.
And users that want to borrow can secure
a loan with an interest rate that is based on
supply and demand and DeFi money markets are completely
transparent. So anyone at any time, can review the
amount of loans issued from a lending pool to ensure
that the liquidity pool is over collateralized or that there is
more than enough cryptocurrency backing the outstanding
loans. Another interesting thing about DeFi money
markets, is there are no credit scores or credit history associated with its users,
which ensures borrowers privacy.
Instead, in order to secure a loan with a DeFi
money market, borrowers used Collateralized Debt
Positions or CDP'S. Which is similar to how you are
able to lean against your house or take out a loan secured by land or
some other asset as collateral. So in a DeFi money market a borrower
would deposit a certain amount of some cryptocurrency
asset in order to borrow another. And if the value of the cryptocurrency they
used as collateral for the loan ever drops
below the amount they borrowed, the loan instantly goes into liquidation
eliminating the position. In this scenario, a borrower would pay a
penalty to the liquidators and any excess collateral would be
issued back to the lenders. So you can see how DeFi money markets are
much more transparent and trustworthy. While offering the users
the ability to: One, earn interest on income from idle
cryptocurrency assets and Two, liquidity through cryptocurrency
loans. Cool. Let's move on to the next component
of DeFi Financial Stack Component 4: Synthetics Synthetic is a
term used in finance that represents an asset designed to
behave like another asset.
Except, with some specific changes to the
assets behavior. So, since the asset is not actually the
asset it's mimicking, that is why the word "synthetic" is used
because it's made to imitate something that's
real. In finance, Synthetic products are derivatives and
derivatives are assets whose value is derived from
and dependent on the value of another asset. These include
options, swaps, and futures contracts. So Synthetic
financial products exist because they offer investors
highly customizable options that provide certain risk, exposure, and
cash flow patterns. The current centralized synthetic asset
market value is about 1.2 quadrillion dollars. So you can see how
this type of financial instrument is necessary to have and DeFi
financial stack. In DeFi, decentralized synthetics are
tokens that follow the price of another token.
In these decentralized synthetics are used to simulate
activities like funding, liquidity creation, and market access
while offering complete transparency and superior security
to the underlying cryptocurrency assets.
Users can engage in synthetic activities
in DeFi through platforms like synthetics.
Synthetics is a decentralized platform that issues
synthetic cryptocurrency assets. So, using the
synthetics platform, users can use Ether as collateral and
Mint Synthetic DAI. With Synthetic DAI a user
gets simulated price exposure to the US
dollar. This part of DeFi's Financial Stack is
extremely complex and could expose users to a lot of risk, which brings us
to the final component of the DeFi Financial Stack.
Component 5: Insurance Insurance is used to mitigate risk
and protect people from certain types of losses.
In DeFi, decentralized insurance protects users against the risks
associated with using these new bleeding edge
financial protocols, unlike centralized insurance
that requires people to use insurance companies.
In decentralized insurance, users can choose to provide
insurance in exchange for interest or they can buy insurance.
DeFi projects that currently offer decentralized insurance products and
services include Nexus Mutual and Opyn.
Essentially, decentralized insurance acts as a
safeguard against hacks, glitches, or bugs so users feel more
comfortable knowing their cryptocurrency assets are
protected while working and investing in this very new DeFi
Awesome. Now that we are familiar with
all of the main categories of DeFi's Financial Stack,
let's get into some of the detail about how all of these DeFi DAPPS are
working together to understand how DeFi will very likely
become the backbone of our future global financial system.
Chapter 5 : DeFi's Architecture- Money Legos. The simplest way to describe
and understand DeFi's Architecture or the relationship between all of these
components and decentralized financial applications
on ethereum is by comparing them to legos. In fact,
when you do some research on the internet about DeFi
you will find that most people compare DeFi Architecture
to legos. Yes, those colorful plastic construction toy blocks you may
have either played with as a kid, painfully stepped on as an adult, or
maybe even both. So let's compare DeFi's Architecture
with legos. Imagine DeFi is its own theme of legos
and within this theme there are five different categories
of DeFi lego blocks. These categories represent each component of DeFi's
Financial Stack. And then imagine within those categories
there are unique sets of legos that represent DAPPS.
So if you are a developer in the DeFi Space and you have a project in mind you
want to build, you can assess the different categories
and sets of legos to use and assemble that would work together to
create your product or service.
technical terms, each lego basically represents computer
protocols that dictate how the DAPP interacts with
the Ethereum Ecosystem, other DAPPS, and cryptocurrencies. This
architecture allows developers to essentially build
on existing foundations while mixing and matching pre-built
functionalities to create new financial products and
services. One of the main principles of the DeFi
Ecosystem is to achieve "interoperability" that way each new
project doesn't just exist as an individual
product or service, but rather serves as a new lego piece or
building block, developers can leverage for other
Let's break down a couple DeFi projects
together to better understand how the DeFi Architecture works from a
development standpoint. Maker DAO is the protocol behind the DAI
Stablecoin. And the team behind Maker DAO created a
collateralized depth position tool using a custom smart contract that
connects with the DAI Stablecoin. So imagine the Custom Smart
Contract as one lego piece and the DAI Stablecoin
as another lego piece. Connected together, they create the
Maker DAO CDP Tool, which enables users to borrow
funds in the form of DAI using Ether as
collateral. So users can continue to have price exposure to Ether
while using DAI. Maker DAO's CDP Tool is open for other developers to use and
create other tools and projects. In fact, the
project called "Compound" operates using the Maker DAO
CDP Tool, the Stablecoin DAI, and their own Custom
So the Maker DAO CDP Tool lego piece,
the DAI lego piece, and the compound custom smart contract
lego piece all connected together creates "Compound."
and compound Is a lending market that is using
Maker DAO's pre-built, borrowing infrastructure to operate. So
instead of having to build the borrowing aspect from scratch,
Compound, connected with another existing DeFi project.
These are just two examples of projects that are using just a few
building blocks to create new, useful financial products and services.
Some projects like Zerin, use an assembly
of a myriad of blocks or projects to create a valuable
new service. Zerin uses the Maker DAO CDP Tool,
Compound, Uniswab, Metamask, imToken, Trust Wallet, Coinbase Wallet,
and Tokenary to provide users with a simple, single,
entry point to an array of DeFi services. With these more complex structures,
developers have the ability to build on top of and add more blocks
to existing DeFi Architecture. So instead of
choosing from a random pile of legos to start
assembling something, they can actually take existing lego
structure to run with in a new direction.
So you can see how DeFi's lego-like
architecture allows for efficient, limitless, creation,
and expansion of a whole new global financial universe.
Awesome. Thank you for taking the time to watch my video.
If you enjoyed the content and would like to see more videos in the future,
please make sure to like this video and "subscribe" to my Youtube Channel.
If DeFi is something you would like to start investing in,
you can click on the links listed in the description area below to safely access
my list of recommended exchanges and cryptocurrency wallets. Also,
make sure you head over to my Instagram account at instagram.com/CryptoCasey
for more content and to "Ask Me Anything"
every week on my Wednesday, AMA's.
Remember to look out for more information
about my course that will help cryptocurrency beginners become
profitable, confident, cryptocurrency investors. So
what do you guys think about DeFi? Is it something you would consider
investing in? Which DeFi projects do you think have the most potential? Let
me know in the comments below. Be Safe Out There you.