How Ethereum bridges the gap between DeFi and TradFi
Finance is the leading industry in the world as it organizes operations and manages companies’ cash flow. While it has evolved constantly in the past decades, users might consider it to have hit rock bottom as it failed to catch up with the world’s needs and changing technology.
Traditional finance (TradFi) challenges users through limited access to banking services, often excluding certain regions. However, if these services become available in some areas, they come at a high cost for citizens. In addition, financial institutions lack transparency in most cases, so they come at a counterparty risk.
This is where decentralized finance (DeFi) emerges as a modern alternative to TradFi, where people benefit from financial inclusion, low costs, and high security. DeFi is powered by blockchain and cryptocurrency, and its innovative path allows users to buy Ethereum with debit card or create a dApp that suits various investor needs through smart contracts.
As revolutionary as it seems, DeFi’s challenges hinder its market acceptance due to regulatory uncertainty and smart contract risks. Therefore, DeFi and TradFi must team up to create the ideal financial system. Ethereum can achieve this ―here’s how.
Ethereum as the first option for DeFi emergence
The Ethereum blockchain has brought forth numerous decentralized solutions that could improve our world, from smart contracts to standards. It has also become the leading blockchain used for DeFi applications and projects, as its functionalities can enable the creation of specialized financial protocols.
For example, smart contracts enable the automatization of any type of contract following specific agreements from both parties. Therefore, they bring accuracy, efficiency, and transparency to the financial sector by enabling fast and cheap transactions.
In addition, plenty of other use cases of Ethereum for DeFi define its purpose:
Decentralized lending and borrowing platforms governed by smart contracts;
Decentralized exchanges (DEXs) enabled by liquidity pools;
Asset tokenization, such as real estate or commodities;
Prediction markets that operate fairly;
How could DeFi work at the same time as TradFi?
The problem with DeFi is that while it brings innovative solutions to the market, it lacks regulatory compliance, one of the most important elements of emergence. Without it, DeFi products and services are subject to uncertainties regarding taxation or investor protection.
At the same time, despite living on the blockchain, a considerably more efficient network than our regular ones, DeFi platforms might face scalability issues due to the difficulty of accommodating the growing number of users.
Therefore, each technology could provide what the other one lacks, so there would be no need for TradFi to be eliminated entirely from our system. However, merging the two will be challenging, but the hard work will pay off in the future.
So, how can Ethereum push for innovation?
The Ethereum blockchain is a groundbreaking decentralized system that bridges DeFi and TradFi by enabling users to create a decentralized and fair ecosystem powered by regulations and high-security measures.
On Ethereum, developers could work on establishing a more appropriate and user-friendly ecosystem for regular users to improve their experience. Browsing across blockchains and decentralized apps might be a challenge for the regular internet user as the interface isn’t as polished.
In addition, Ethereum is constantly evolving. Its creator, Vitalik Buterin, proposed an updated roadmap in which developers insist on and improve specific issues. For example, the first update made it possible for Ethereum to run through PoS instead of PoW, which significantly lowered its energy consumption and solved a part of the scalability issue.
New technologies to further the adoption process
Luckily, more technologies, such as artificial intelligence, will contribute to the merge of TradFi and DeFi. Its use cases for blockchain could expand its adoption, especially since it improves the security and integrity of data resources and dwells on the blockchain trilemma. While AI is currently under scrutiny, it has massive potential to push for blockchain adoption.
In addition, machine learning could optimize smart contract technology by predicting outcomes and automating contract adjustments. ML integration could enhance customer services on blockchain-based applications and use models to improve data trading.
One of the most important and awaited technologies for blockchain is Web3, the future of the internet. Web3 will promote the decentralization of our systems and allow crypto and networks to evolve in a safe space. It will start the era of decentralization, security, and transparency under regulations and laws, empowering businesses and creators.
DeFi has many opportunities ahead
Decentralized finance has the potential to improve our current flawed financial system, especially by promoting financial inclusion. Although the pandemic encouraged the expansion of digital financial services, according to the World Bank Group, about 1.4 billion people worldwide are unbanked.
These regions need more than Web3 adoption ―they need common support from the government, private companies, and fintechs to access proper financial infrastructure. Therefore, not every social stratum might benefit from Web3 adoption, so the whole world needs much more effort to access its functionalities truly.
This matter is much more complex to discuss and assess, despite investors' and experts’ arguments that blockchain and cryptocurrency are going global. There are still areas in which technology will arrive later, so the problem here involves the adoption of cryptocurrency in all nations and areas of the world.
Decentralized finance could stop issues like money laundering while offering people the chance to control their assets independently without relying on centralized systems and flawed governments. However, it might take some time for this to happen. So, the only thing we can do is spread awareness of the importance of decentralization and the emergence of new technologies and regulations.
Do you think DeFi and TradFi can work together?
As technology and finances evolve, we notice how traditional finance is less efficient by the year. Compared with DeFi, TradFi is expensive, slow, and prone to human errors. The solution to solving these challenges would be blending DeFi’s decentralization and transparency with TradFi’s regulation coverage and services. These two have the opportunity to push for Web3, but we must mitigate security issues and technological mismatches.