With having the highest fintech adoption rate of 87% in emerging markets, as compared to global average of 64% (as per report published by EY & IVCA), India provides huge opportunities for a decentralized banking system to exist. Already being progressively adopted in the US and EU, decentralized finance (DeFi) is expected to take off in India and as well as other Asian markets. It could be a potential market for tapping and expanding into the underbanked/unbanked population in the country.
Decentralized Finance (DeFi) is a financial ecosystem that uses cryptocurrency and blockchain technology for executing financial transactions. In layman’s language, it allows consumers to trade, borrow, transfer, and lend a digital currency, independently of traditional financial institutions and regulatory structures. It eliminates the need for middlemen for transactions.
Centralized Finance (CeFi): Present Ecosystem
Today, almost every aspect of financial services is managed by centralized systems, operated by governing and regulatory authorities. The consumers need to depend on the financial intermediaries for getting access to almost everything from loans/capital to trading in stocks.
As a result, it creates dependency for consumers as they cannot bypass the middlemen like banks, NBFCs, or exchanges, who get a share of income for every financial transaction.
Decentralized Finance: The Future
DeFi is unbundling of this centralized financial system, enabling financial services anywhere for anyone, thereby empowering regular people via peer-to-peer exchanges.
DeFi services are built and operate on blockchain technology and cryptocurrency, in a completely secured environment, with no manual intervention. Blockchain is a decentralized and distributed public ledger, where all transactions are recorded in encrypted code. It means that all parties will have access to an identical copy of the ledger that records each transaction in encrypted code. This secures the system by keeping anonymity of sensitive data of the users.
Further, all transactions are executed and recorded by parties who use the same blockchain, as there are no middlemen involved for managing the system. It provides users with more control over their money as this ecosystem caters to individual needs.
This makes the financial transactions transparent, low-cost, and more secure than the traditional systems employed in CeFi.
How to use DeFi?
It is powered by decentralized applications or other programs called protocols. Currently, these apps and protocols handle transactions mainly in two cryptocurrencies, Bitcoin and Ethereum (more adaptable than Bitcoin for DeFi).
Some of the current use cases of DeFi apps and protocols include the following:
- Traditional financial transactions
- Decentralized exchanges (DEXs)
- Stable coins
- Non-fungible tokens (NFTs): Creating digital assets out of the non-tradeable assets
Adoption of DeFi is powered by the omnipresent nature of blockchain. Further, as they exist outside the purview of regulations of governing bodies, thereby increasing their potential benefits.
Downsides of DeFi
DeFi being a recent innovation, is still not defined by any regulations/rules. Some of the risks involved are:
- In the absence of any regulation, the user has no protection/recourse in case of any error in executing a transaction
- While there is no manual intervention, still the software systems pose a serious risk of being hacked and have potential threat of online data breach
DeFi: A Potential Revolution in India
DeFi in India can be the new front for Cryptocurrency market, provided the government defines a legal framework for digital currency. It will provide an opportunity to improve the livelihood of people, earlier excluded by traditional institutions by allowing them to engage in financial transactions cheaply and securely. It will provide with additional investment options to investors, through Bitcoin, Ethereum, etc., thereby providing financial independence on how and where to deploy their money.
Cryptocurrency has the potential for majority of the population to increase their consumption levels, achieve financial security and contribute to the economic development of the country.
These alternatives to traditional banking methods are seeing a positive response, predominantly by India’s young population, as they are recognizing the potential benefits that it will offer to the economy if successfully implemented. However, with lack of regulations and lack of necessary infrastructure, it is yet to be seen how it will play out in future.
With governments of many countries supporting the same and cryptocurrency market growing rapidly, it is only a matter of time when DeFi will become the new normal.