1. The main directions of traditional financial innovation are: faster value flow, larger flow scope and more penetrating risk assessment methods. Blockchain technology naturally matches the innovation direction of traditional financial businesses.

2. The application of blockchain technology in traditional financial services, that is, the "blockchain financial services" developed since 2014, currently only achieves large-scale development in a few areas. The fundamental reason is that the underlying infrastructure of the traditional banking industry requires Quite a long time, the optimistic estimate is 10 years.

3. There is an essential difference between "decentralized financial (Defi) business" and "blockchain financial business". ) Financial assets represent a new type of rights and interests in the blockchain world, and the only form of expression is Token on the chain.

4. The greatest value of "Decentralized Finance (Defi) business" lies in: 1) subverting the existing financial industry organizational structure and business model, and realizing "crowd financing and self-financing without banks"; 2) increasing the mainstream digital value of BTC and ETH Monetary liquidity and expanded value recognition, making it a stable "currency" and building a new commercial and financial system.

5. Stable currency is an important prerequisite and foundation for all Defi applications. MakerDAO has the dual attributes of stable currency and lending applications, contributing liquidity to the digital currency speculation market.

6. Lending applications are the most important part of the current Defi business, with many participants and a preliminary competitive landscape.

7. Various financial application innovations such as payment, options, futures, and funds have initially sprouted, but the lack of basic assets and commercial consumption scenarios restricts the further development of Defi.

8. Decentralized exchanges are an important infrastructure for the development of Defi business. Bitcoin public chain technology is limited and cannot deploy Defi. Sidechain cross-chain technology may bring new hope.

9. The identity authentication application is an important supporting tool for the development of Defi business, and it is expected to realize the "credit investigation" and "credit" business in the blockchain world.

10. In 2019, with the further realization of high-performance public chain solutions, the Defi ecological layout has initially taken shape. Among them, ETH and other leading public chains and exchange public chains have obvious competitive advantages.

11. When the commercial consumption scenarios of mainstream digital currencies such as Bitcoin further develop and no longer only serve speculative needs, Defi applications will usher in a new round of explosive growth.

Compared with any financial innovation in history, the existence of Bitcoin is particularly unique and courageous, because it directly hits the foundation of the financial system-currency. Based on the idea of ​​"non-nationalized free competition currency", Bitcoin has created a new form of expression of human wealth, and in the past 10 years, it has realized the redistribution of part of social wealth within a certain range. This is almost unimaginable for the financial innovations of the past thousands of years.

The birth of currency allows value to be measured and is the source of the existence and development of all financial industries. From the creation of "interest" by the first "loan contract" in Mesopotamia more than 3,000 years ago, to the risky shares of the Dutch East India Company, the rudiments of options and futures trading in Amsterdam, and the creation of U.S. inflation-indexed bonds Invention and the invention of mutual funds, etc., the core of traditional financial innovation revolves around the two important foundations of "inter-temporal and inter-regional transfer of value" and "future uncertainty risk transfer", while the main direction of financial innovation is—— Faster flow of value, greater scope of flow, and a more penetrating approach to risk assessment.

Speaking of this, we can further understand why traditional financial institutions have a soft spot for blockchain technology, because of the characteristics of blockchain such as "global openness", "transparency and openness" and point-to-point "transaction is settlement" , which naturally matches the innovative direction of financial business.

Therefore, starting from 2014, the world's major financial giants began to explore a large number of blockchain technology applications, which is what we have called "blockchain financial business" in the past few years, blockchain cross-border payments, blockchain bills, Blockchain letters of credit, blockchain ABS, blockchain-based supply chain financial platforms, private equity trading platforms, credit reporting platforms, mutual insurance platforms, etc. "finance + blockchain" application POCs emerge in endlessly. The essence is to use the blockchain network as a registration and transaction system for digital currency, bills and other various financial assets. The blockchain system has the outstanding advantages of being transparent, credible, tamper-proof, and "transaction is settlement".

However, as of today, the only "non-standard products" that have landed and are expected to develop on a large scale in the next two years are blockchain bills, private equity trading platforms, and supply chain financial platforms. The fundamental reason is that the transformation of the underlying infrastructure of traditional financial core businesses such as stock, bond trading, and payment settlement has to go through a long period of time. Optimistically, it may take another 10 years.

But the emergence of Defi has brought us new ideas and possibilities.

Defi (Decentralized Financial), decentralized finance, can also be called "distributed finance" and "open finance", creating a brand new financial system independent of the traditional financial industry. Many people confuse Defi with blockchain financial applications led by financial institutions, but in fact they have very clear differences.

The two most fundamental differences between the two are: 1. It does not rely on the credit of financial institutions, and there is no entry threshold requirement for financial institutions. 2. Financial assets represent a new type of rights and interests in the blockchain world, and the only form of expression is Token on the chain. (excluding traditional financial asset mapping on-chain)

As a result, the development of Defi business will realize two important values: 1) subvert the existing financial industry organizational structure and business model, and realize "crowd financing and self-financing at the bank"; 2) increase the flow of mainstream digital currencies such as BTC and ETH Sexuality and expansion of value recognition, so that it will eventually become a stable "currency" and build a new commercial and financial system.

On the one hand, there are no entry barriers for financial institutions, subverting the foundation of existing financial institutions - relying on scarce licenses to obtain business authorization.Fundamentally speaking, if technology and perfect autonomous rule design can build enough trust, the financial world will no longer need financial service providers to prove subject trust by paying huge access costs. Just like the concept of "crowd financing" proposed in Simon Dixon's book "A World Without Banks", it is also in line with the concept of "self-finance" behind the current new trend of supply chain finance development. Human business and economic activities will enter a new era. Historical phases.

On the other hand, more importantly, when financial products based on mainstream digital currencies such as BTC and ETH develop and grow, BTC and ETH will obtain higher liquidity and lower transaction friction, and can realize "price discovery" more efficiently , so that it completes its ultimate mission - a new type of "currency asset" with a stable value scale.In fact, when more and more people use BTC and ETH as collateral to borrow money and use them as benchmark assets to invest in new assets, these are the processes in which their value recognition is continuously established and expanded.

Only when the blockchain world has a "currency" that truly has universal value recognition, can the cornerstone of a new business system on the chain be built, and finance on the chain can emerge from "speculation" and have long-term vitality. Just imagine, in the future, more than half of the "commodities" in human commercial activities will be created through blockchain open collaborative organizations, including more and more digital products such as culture, entertainment, games, etc., and the financing generated in the process of commodity creation The demand is solved through on-chain financial services, and finally paid through the blockchain "currency". This will be a subversive change in the human business and financial system. Before this change comes, the development of "digital currency" and Defi applications with a stable value scale is crucial.

In the short term, the main value of DeFi applications exists compared to centralized financial applications.The core performance is: 1) The assets on the chain are transparent and traceable to avoid central credit risk; 2) Smart contracts are automatically executed to avoid the risk of counterparty non-performance.

"Borrowing" is the first step in adding liquidity to financial markets.

Similar to the development path of traditional finance, lending applications have become the first business type developed by Defi.

However, obviously different from traditional financial development, there is no fully functional "currency" in the financial world on the chain, which cannot be used as a stable value standard to value mortgage assets and calculate interest. So in fact, the first special financial application developed in the entire Defi ecosystem is stable currency.

MakerDAO, a star project in the ETH public chain, took the lead in realizing the model of issuing stable coins on the chain, and based on its stable currency DAI, developed a mortgage lending business for digital assets.

1. MakerDAO—Dual identities of stable currency and lending application, kicking off the prelude to Defi

Mortgage ETH to issue stable currency DAI, extremely high asset mortgage rate and dynamic adjustment mechanism

MakerDAO first attracted the attention of the blockchain industry because it innovatively realized the stablecoin issuance mechanism under the "ETH digital asset mortgage" model following the USDT "fiat currency mortgage" model.

In this digital asset mortgage issuance model, the entire process of its ETH mortgage lock-up and stablecoin DAI issuance is automatically completed through the smart contract CDP (Collateralized Debt Positions) on Ethereum, and the number of mortgaged assets and the number of stablecoins issued are open and transparent. It avoids the subject credit risk problems under the USDT and other fiat currency mortgage models. However, the price of ETH as a mortgage asset is highly volatile, and the asset mortgage rate is usually much greater than 100% (the mortgage rate here is the value of the collateral ETH/the value of the stable currency DAI that can be issued, denominated in US dollars).

At present, the minimum mortgage rate is 150%, that is, ETH with a mortgage value of USD 150 can be loaned with USD 100 in DAI. If the price of ETH drops and the mortgage rate is lower than 150%, the ETH mortgaged by the user will be automatically liquidated by the system (sell ETH at a price lower than 3% of the market price and buy back DAI to ensure the solvency of DAI). Usually users will lock more ETH or return some DAI before the liquidation warning line, so that the mortgage rate can be raised to a safe level. And there are already some applications being launched that can help users monitor changes in mortgage rates and avoid sudden liquidation of mortgage assets. If the collateralized assets are sold, after repaying the loaned DAI, an additional "penalty" needs to be paid.

Theoretically, MakerDAO only needs to meet 1) DAI=1 USD pricing, 2) excess mortgage asset reserves (including timely liquidation for value preservation) in the mortgage issuance link of the CDP smart contract, and can achieve a smooth redemption process (exchanging DAI for Back mortgaged ETH), then the market price of DAI will hardly deviate from $1 for a long time. Because once the market price deviates, there will be an arbitrage opportunity for the difference between the exchange price in the CDP and the market price, and the arbitrage operation will adjust the market supply of DAI, so that the price of DAI will return to $1. (For example, the market price of DAI is US$0.9, and the exchange price in CDP is US$1. An arbitrageur buys 10,000 DAI from the market and converts it to ETH in CDP, which is equivalent to exchanging US$9,000 for ETH worth US$10,000; Driven by arbitrage, the supply of DAI in the market decreases. According to the general theory of supply and demand, the price of DAI will rise and return to $1)

In fact, in order to increase the motivation of arbitrageurs, MakerDAO also specially set up a "target price change rate feedback mechanism". When the market price of DAI is lower than $1, the price of DAI in the CDP will be higher than $1 instead, increasing the price difference. arbitrage space to accelerate the process of DAI returning to $1.

In addition, a "stability fee" is required to be paid for issuing and exchanging DAI. MakerDAO has specially set up a "dynamic stability fee adjustment mechanism" to further strengthen the stability of DAI prices. It is stipulated that when the market price of DAI is lower than $1, the stability fee will be increased to increase the cost of obtaining DAI, thereby reducing the market supply of DAI to restrain the decline in the price of Dai; otherwise, the stability fee will be reduced. Currently, as the price of DAI is below $1, as of April 29th, MakerDAO has adjusted the stability fee successively in more than two months, with the rate rising from 0.5% to 1.5%, 3.5%, 7.5%, 11.5%, 14.5%, 16.5%, thus bringing the price of the stablecoin DAI closer to $1.

(The blue line represents the stability fee for borrowing Dai, the green represents the newly generated Dai supply, and the red represents the reduced Dai supply)

In addition, in September 2018, Marker Dao launched the DSR wealth management product (Dai Savings Rate), which is similar to Yubibao, which deposits Dai and earns sustainable interest (the interest is generated by the loaned Dai). When the price of DAI is lower than $1, the deposit rate will be raised to encourage the storage of DAI and reduce the circulating supply to drive up the price; and vice versa.

Overall, in the past 533 days, there were 131 days where the price of DAI deviated from 3%, and the total deviation rate was 24.5%. Although the deviation rate is still not ideal compared to stablecoins with a US dollar collateral model, the number of days when the deviation price is greater than $1 is 58, and the number of days is lower than $1 is 73. The risk of stability failure is small, and Dai once in 2018 Successfully withstood an 80% drop in ETH price.

For users who are unwilling to give up holding ETH, mortgaging ETH in exchange for DAI is a loan investment behavior, which injects liquidity into the investment market

MakerDAO mortgages ETH to issue the stable currency DAI, which can also be regarded as the behavior of users mortgage ETH to borrow DAI. Users pledge ETH in exchange for DAI to invest because of the particularity of the digital asset investment market—the price of the benchmark asset ETH used for investment is still unstable. Users are worried about investing in other assets with ETH and missing the growth benefits of ETH itself. Therefore, it would be a good choice to mortgage ETH to invest in other benchmark assets and enjoy the two benefits of ETH and new asset growth at the same time. From this perspective, the stability fee paid for mortgage ETH in exchange for DAI can be understood as a kind of interest on loans. Obviously, when the investment enthusiasm in the entire market increases, the loan interest is also increasing with the scale of loan funds.

Although MakerDAO does not have any leveraged business, it essentially provides investment funds for users who are unwilling to use ETH to invest in new assets, expanding the investment scale and liquidity of the entire market.

Before the emergence of Defi lending applications like MakerDAO, centralized lending service platforms have existed for a long time, and will usher in a wave of big business growth at the beginning of every investment boom. Compared with decentralized lending applications, it has better reliability and security, and there is no risk of lending platforms running away with money. But correspondingly, users need to bear technical operational risks such as blockchain system failure.

2. Many lending applications such as Compound, Dharma, dYdX, and ETHLend have developed, forming a preliminary competitive landscape

After MakerDAO, many lending Defi applications have developed one after another. The basic model can be divided into two types: fund pool lending and peer-to-peer lending. Peer-to-peer lending, such as Dharma and dYdX, is a peer-to-peer agreement that matches borrowers and borrowers, matching lenders and borrowers, and has a clear source of repayment for borrowers; funds Pool lending, such as Compound, adds new borrowable funds to the total fund pool, and the new loan demand is completed from the total fund pool, and the borrower has no clear source of repayment. MakerDAO is quite special, and it also has the property of issuing stable currency DAI, without borrowers, and is close to the fund pool model. In addition, different applications have different specific requirements such as borrowable assets, interest, and asset mortgage rates, which can meet richer user needs.

In addition, EOS-REX, a similar mortgage lending platform on the EOS public chain, is developing very fast. But it has a more specific application scenario, mainly serving developers, helping them obtain EOS at a low cost to purchase CPU computing resources and NET broadband resources, which is closer to a financial leasing platform, and the core operation mode of the above fund lending application and The main purpose is different.

Since the launch of REX, the lock-up of EOS has steadily improved. As of June 13, REX has locked up $610 million in EOS, surpassing Maker Dao and becoming the largest Dapp in the DeFi field.

Data source: https://www.dapptotal.com/defi

Data as of 2019.6.13

3. Various financial application innovations such as payment, options, futures, insurance, and funds have initially sprouted

In addition to lending applications, various other Defi applications have also achieved varying degrees of development.

Among them, Augur itself is a prediction market application that supports users to create prediction contracts on whether any future event will occur and conduct transactions freely. Since the prediction results are only divided into two situations of "will happen" and "will not happen", it is equivalent to a "binary option contract". For example, users can create a prediction market of "whether ETH will rise next month", and users who buy "will rise" contracts and users who buy "won't rise" contracts in the market will become counterparties.

The Lightning Network is a BTC-based off-chain expansion solution. Both parties to the transaction can temporarily create a payment channel, and the "virtual bank" smart contract will net the difference between multiple transactions between the two parties in the channel, and only record the final net difference on the BTC main network, thereby improving the efficiency of a large number of micropayments. According to the statistics website 1ml, as of June 14, the Lightning Network has 8,748 nodes and 34,788 payment channels, with a total of 949.17 BTC (approximately US$7.8 million) in the payment channels.

Generally speaking, all kinds of Defi applications are still in the early stage of development, and they are facing obvious development bottlenecks: 1) The number of basic assets with broad value recognition is small, and the space for innovation in derivatives is limited; 2) Assets have strong speculative attributes but insufficient commercial applications, The financial system is not sound. We might as well imagine boldly that in the future, a blockchain content sharing community like "steemit" will develop and reach a user scale similar to that of Facebook. Steemit tokens will give birth to options, futures and other derivatives Defi trading markets. Various insurance services for the rights and interests of content authors will be developed, and the entire Defi application will have more possibilities.

4. The decentralized exchange DEX is an important infrastructure for the development of Defi business

To truly decentralize the financial closed loop, the decentralized exchange DEX is essential. In fact, in the past few years, before the concept of Defi was born, decentralized exchanges have been developing silently for many years. Today, the decentralized exchanges in the single public chain of ETH and EOS are well realized, and can support peer-to-peer transactions between digital assets of the same technical standard in a single public chain.

Decentralized exchanges have gradually developed into three models: on-chain order book model, off-chain order book model and reserve library model. Exchanges that adopt the on-chain order book model are completely decentralized exchanges, such as EtherDelta, and transactions are costly and inefficient. In order to increase transaction speed and reduce costs, people began to adopt the model of "off-chain matching + on-chain settlement"; in order to further improve efficiency, people designed the "reserve" model, which provides funds to support transactions, so that directly The matching link is removed, which is more efficient, but strictly speaking, it is not a decentralized exchange.

It is worth noting that the blockchain network of BTC, the largest digital currency in the blockchain digital world, cannot implement complex smart contract code commands due to its smart contract design and UTXO model based on a simple stack language, which is extremely complex. It is difficult to develop BTC-based Defi applications. At the same time, it also adds great difficulties to the cross-chain interaction between BTC and other public chains.

Ideally, the further development of cross-chain side chain technology will promote the transaction of BTC and other types of assets, that is, more complex financial business innovation. But for now, the "relay chain" solution in Cosmos, a representative solution of cross-chain technology, is still a semi-centralized existence. It can be predicted that, at least in recent years, a wider range of cross-chain asset transactions and absolute decentralization cannot coexist.

5. The identity authentication application is an important supporting tool for the development of Defi business, and it is expected to realize the "credit investigation" and "credit" business in the blockchain world.

It is also worth mentioning that the lack of credit investigation and credit business in the current DeFi business is essentially due to the "no identity authentication" feature brought about by the anonymity of blockchain digital assets. However, with the further development of financial services, identity authentication applications will play an increasingly important role in the financial system, such as selfkey, bloom, uport, etc. There are also applications dedicated to lending credit assessment, such as colendi.

"What type of public chain is more suitable for DeFi to develop?" This question ultimately needs to answer "What kind of conditions does the financial infrastructure in the blockchain world need to meet?". We believe that it can be judged from at least three dimensions: security, transaction efficiency and liquidity.

The security of blockchain asset transactions is mainly determined by the security of the underlying system of the blockchain and the security of smart contracts. The security of the underlying system of the blockchain can be reflected to a certain extent by the degree of decentralization; the transaction efficiency is mainly It depends on the transaction performance of the public chain system, that is, the concurrent processing capability; the evaluation of liquidity is relatively complicated, and it needs to comprehensively consider the user scale of a public chain and the capital scale of financial applications.

Security: POW > VRF+POS and other new sharding consensus > POS /POC > DPOS / BFT (sorted according to the degree of decentralization of the consensus algorithm)

Transaction efficiency: alliance chain > multi-chain sharding > DPOS > DAG > large blocks (sorted according to the public TPS data representing the public chain)

Liquidity: Top public chains with large-scale users and Defi applications, as well as exchanges and wallets with a large number of convertible users and financial service capabilities have outstanding advantages

On the whole, we rank the public chains suitable for Defi development:

1. POW/POS + multi-chain sharding + large-scale users and applications = ETH 2.0 after the realization of POS and sharding technology (the speed of technology update is uncertain)

2. POS/DPOS + multi-chain sharding + a large number of convertible users and financial service capabilities = OKChain, Binance Chain, etc. (in the early stages of development)

3. POS/DPOS + large-scale users and applications = EOS, Tron (centralization risk, insufficient security)

4. POW + large block + ecologically rich public chain = BSV after ecology (difficult to support complex Defi applications)

At this stage, because Defi applications are in the early stage of development, ETH 1.0 is still sufficient to support the current transaction efficiency requirements, but also has a rich ecology and a high degree of decentralization, so Ethereum is the most suitable among the current stock public chains The soil for the development of DeFi. It can also be seen from the current TOP20 ranking of locked assets in the DeFi field that they are mainly concentrated on Ethereum.

Data source: https://www.dapptotal.com/defi

Data as of 2019.6.13

In the long run, exchanges that actively promote decentralized exchanges and stablecoins have a competitive strength that cannot be underestimated in terms of the Defi ecological layout.

The short-term vitality of Defi applications comes from the speculative upsurge, but the core value of Defi is not limited to this. Its long-term vitality should come from the construction of a new business system and financial system to create a new, rich and diverse financial format.

The development trend of Defi in the next stage is as follows:

1) Develop from a single lending application to a diversified application;

2) Accelerate the process of supporting applications for DEX and identity authentication;

3) The exchange public chain competes with the current head public chain for ecological layout.