Decentralized Finance (DeFi) is open source alternatives to every financial service you use today — savings, loans, trading, insurance, and more — accessible to anyone in the world with a smartphone and internet connection. DeFi enables financial transactions that do not depend on intermediaries, transactions run through decentralized networks, like ethereum on a peer-to-peer basis. For example, borrowers submit collateral to a smart contract on one side of the decentralized application, lenders provide loans on the other side of the decentralized application (Dapp), the Smart Contract intermediates the matching of the borrower and lender the rate and the security of the collateral. The Smart Contract and Dapp, are not controlled by any one person, company, or organization, they are managed by the community around the decentralized protocol.
The majority of users interact with DeFi/crypto through centralized finance, CeFi. Blocktane, Coinbase, Binance, etc are CeFi, they are centralized finance companies, most actions users take on these exchanges rely on those organizations acting as the users expect & contract. Users trust these CeFi platforms to act on their behalf to interact with the decentralized protocols that hold the coins. Strong CeFi products are the core to driving the adoption of DeFi.
Interacting directly with DeFi is challenging for experienced crypto users. The user experience of peer-to-peer transactions remains an important challenge for the ecosystem making using DeFi applications like Decentralized Exchanges (DEX), Automated Market Making (AMM), Lending, and Staking daunting to adoption. Crypto Exchanges (like Blocktane in Brazil, Bitbuy in Canada, Kraken in the USA), provide the trust and functionality to enroll users into DeFi. This has been the pattern for the mainstreaming of users purchasing and trading decentralized assets like bitcoin and ether and will have a role in the mainstreaming of DeFi.
The challenge is the resources needed to develop optimal CeFi to DeFi products are scarce and in demand. An optimal CeFi to DeFi product delivers as much of the functionality ‘on-chain’ as possible. This gives the user as much of the benefits of decentralization as possible. Wrapped Tokens are a prime area of innovation, enabling increased opportunities for CeFi to DeFi. The Wrap ideally represents an on-chain smart contract that issues back a token with added features secured by the smart contract. Typically, the wrapped token represents an original asset, such as ETH. The ETH is put to work within a DeFi application (Dapp), while the wrapped ETH is sent back to the user as a claim on the underlying ETH with additional benefits not native to the original ETH. Generally, wrapped ETH (wETH) is a one-one claim ETH:wETH plus the wETH accrues new features which often generate a yield of additional digital assets like ETH. Yield Farming and Liquidity Mining are the most common applications of wrapped tokens.
In this post, we highlight Yield Farming as the most straightforward DeFi function for users to begin with. Yield Farming places the underlying asset (ETH) into a smart contract in order to perform a service such as Staking in order to earn a Yield. The Farming analogy is used, in part, to demonstrate that the asset is stationary inside the contract, as opposed to Liquidity Mining which puts assets in motion, usually in a marketplace like a DEX.
Yield Farming, especially when to Stake, provides an excellent CeFi to DeFi bridge. Staked assets are clearly visible on-chain, as they are Staked to the nodes that validate/run the decentralized network, as should be the wrapping Smart Contract, thus making the product on-chain with the exchange using its functionality available to make it more simple for users to wrap and unwrap their assets.
A user with ETH has the opportunity to work with an exchange like Blocktane to wrap that ETH for it to be Staked to the ETH 2.0 validator contract and earn ETH 2.0 validator rewards that are currently generating 5-10% annual percentage yield ETH on ETH, so 1 ETH staked 12 months later should have produced an additional 0.05 to 0.1 ETH for securing the ETH 2.0 protocol. Blocktane provides the user-wrapped ETH as an ERC-20 Token to represent the Staked ETH 1:1 plus the rewards the staked ETH generates minus Staking Service Fees. The Wrapped ETH can be traded on Blocktane for other assets or withdrawn like any other ERC-20.