The basics of decentralized finance

bitcoin infestment

Paul Glantz is the founder of Launch Consulting Inc, an accountancy firm specializing in tax services that WA is proud to have partnered with for many years.

DeFi
Blockchains
DAOs
Ethereum
Staking

As an ambitious, forward-thinking business owner, you make it a habit to stay on top of new tech. But when it comes to Decentralized Finance and Cryptocurrency, cracking through a list of head scratching new vocabulary (like the one above), complex systems, and insider jargon to understand even the basics seems like an impossible feat.

Decentralized Finance – or DeFi – has been on our radar for years. While many accountants are still grappling with the rudimentary of bitcoin, we’ve stayed on the cutting edge and have already incorporated it into our accounting services for our boundary-pushing clients.

No more head-scratching. Let’s break down the basics of decentralized finance and how it can benefit you and your business:

Decentralized finance is a peer to peer financial system
The phrase ‘decentralized finance’ encompasses a wide range of systems, from lending to earning interest, self banking and much more. What sets these DeFi systems apart from more traditional forms of finance is that they’re not controlled by one group or within one geographic location. There’s no intermediary, like a bank, calling the shots.

Instead, DeFi is an entirely peer to peer system. It comprises technologies, protocols, and applications called “dApps” (decentralized applications)that aren’t owned by anyone or located anywhere: no brick and mortar, no address, no CEO acting in their own best interest. By cutting out centralized institutions, DeFi is designed to:
– Reduce costs, making loans more affordable
– Increase deposit rates
– Keep transactions instant and secure
– And ultimately democratize finance and reduce inequality

That all sounds great, right? But how exactly does it work?

Blockchain technology is the foundation of DeFi

Before we can get much further into the benefits and intricacies of DeFi, we need to discuss blockchain technology. If you’ve looked into cryptocurrency at all, this term probably sounds familiar to you. Blockchain technology was invented in 2008? 2009? after the anonymous person[s] behind bitcoin known as Satoshi Nakamoto. It’s exactly what it sounds like: a chain of blocks. Each of these blocks contains pieces of digital information. In cryptocurrency’s case, that information is a series of transactions during a certain time period. A single bitcoin’s blockchain will contain its entire history of transactions since its creation.

Essentially, blockchains are digital ledgers that permanently and securely store financial data.

But if there’s no centralized controller or location for these DeFi systems, who runs the ledger?

DAOs set the rules
DAO stands for Decentralized Autonomous Organization. Basically, they’re non-hierarchical groups of individuals who are all working towards a common purpose. Everyone has a stake, and there’s no one person in charge.

When a DAO is first created, a series of codes are set up to automatically execute the procedures and rules of the group. This means everything can be run autonomously, with no big boss or manager overseeing things. By joining a DAO, you’re agreeing to abide by these rules, and any change to the rules must be approved by a majority of members.

Some DAOs operate on a concept called Proof-of-Stake, or PoS. PoS is a method of verifying the transactions that occur within a DAO, with members committing some amount of their money or cryptocurrency to the blockchain network in order to increase liquidity and earn a percentage-rate reward over time. The more staking occurring within a DAO, the more liquidity there is and the easier it is to lend, trade, or sell assets.

PoS was created as a more energy-efficient, more environmentally friendly, and less risky alternative to the original crypto consensus method, Proof-of-Work (PoW). PoW is still being used by some cryptocurrencies, like Bitcoin and Ethereum, but most plan to move to a PoS consensus soon.

DeFi allows for greater flexibility and control over your finances
Imagine this: I have five apples and you have five oranges. I want to trade my apples for pears, while you want to trade your oranges for my apples. In any other system, we couldn’t swap directly, but when apples, oranges, and pears are all “staked” and providing liquidity to a decentralized exchange, they are easily converted into an asset of our liking (like pears).

This is a great example of DeFi’s biggest selling point: flexibility

If the past few years has taught us anything, it’s that people want more control over their lives. The number of self-employed workers and freelancers is rising steadily, making up over ⅓ of the entire US workforce. That’s a 35% increase in a single year.

People want control over their finances. They want access to their cash without extra fees or long processing times. They want the freedom to accept payment in different forms, and easily convert their assets as they desire.

DeFi is making all of that a reality. Payments sent down a blockchain can be with you and accessible within ten minutes, sometimes even quicker. You can set up the backend of an invoice platform to accept payment in whatever form your client wants, and have it converted into your form of choice, be that bitcoins, US dollars, or any other currency. And this is only the beginning.

DeFi is already changing the business world
There’s no denying DeFi’s massive implications on a global scale thus far, with TradFi (that’s Traditional Finance) organizations like Stripe already scrambling to keep up with the flexibility and freedom offered by DeFi systems. And all the data suggests there’s going to be even more movement in the coming years.

That’s why having an accountant who stays on the cutting edge is absolutely vital: you don’t want to miss out on huge opportunities or get caught up in compliance troubles because your team couldn’t keep up with the changing financial world.

WA stays on the cutting edge. When you partner with them, you never need to worry about falling behind or missing out. If you’re interested in learning more about how they cut through the nonsense and help you grow your business to the next level, visit their services page.