As the cryptocurrency universe undergoes a transformation, we look at the major differences between Bitcoin and decentralized finance (DeFi).
Cryptocurrency has been changing the traditional banking system. In fact, recently, during the Indian budget meeting on February 1, 2022, the Finance Minister, Nirmala Sitharaman, proposed a 30 percent tax on income earned from digital assets. While it may seem like a significant amount, the move shows that the country has recognized cryptocurrency as a financial asset that affects the economy. The Founder and CEO of the cryptocurrency exchange CoinSwitch, Ashish Singhal, noted, “What this signals is that [the] government recognizes this industry and hopefully the crypto bill would address the legality of this ecosystem as well.”
However, it is worth noting that the cryptocurrency universe is vast and varied. From Bitcoin to DeFi, the multiverse, non-fungible tokens (NFTs) and more—there’s a lot going on. Here, we look at the major differences between Bitcoin and DeFi to help you navigate the virtual financial terrain.
What are Bitcoin and DeFi?
While Bitcoin is a decentralized cryptocurrency—and the most popular one—DeFi is a concept that covers a range of financial services. Bitcoin is a store of value, much like fiat currency, that operates on its own blockchain. On the other hand, DeFi allows you to lend, borrow and trade cryptocurrencies, like Bitcoin, akin to quintessential financial institutions, such as banks. DeFi projects are typically built on the Ethereum blockchain, and users can earn interests, take loans and even put up their NFTs as collateral. In addition to that, users can become liquidity providers to decentralized exchanges via DeFi apps.
The focus of both these entities is to remove middlemen, be it for exchanging money or taking loans. Typically, there would be intermediaries enabling these activities and charging you money for it. But with their virtual iterations, users are able to save money and have more control over their “bank account” which is in the form of a digital wallet. The President of smart contracts platform Ava Labs, John Wu, expounds that DeFi-related applications operate “without a central service exercising control over the entire system”.
How do they work?
Smart contracts are at the heart of DeFi, as they enable transactions once the “if…then…” condition is satisfied. Bitcoin, contrarily, uses the proof of concept models, like Proof-of-Work and Proof-of-Stake, employing miners to validate transactions. People prefer using cryptocurrencies as it is the cheaper and easier way to engage in international payments. The same goes for DeFi apps. Still, Bitcoin has established itself as a crypto leader, having been around since 2009. DeFi is still gaining steam as people learn about ways to use this institution to deal with more complex financial functions.
The risks involved
That risks are indispensable while cryptocurrency trading is evident as we witness crypto scams, volatility-induced losses and more every day. Whether you decide to use Bitcoin or DeFi, you must account for the challenges. Digital assets company CoinShares’s Chief Strategy Officer, Meltem Demirors, shares, “I think every DeFi protocol and every DeFi project has a different level of risk and a different level of reward. It’s important to understand the reason the reward is high is because the risk is higher. The reason we see high yield is there is risk here.”
Though DeFi is a newer entry into the crypto world, it is growing at a fast pace. Wu warns that this growth might result in people falling for scams. He says, “DeFi is growing so fast and the yields are so high that opportunities can feel too good to be true. When in doubt, trust your gut or look for more objective members of the community with the technical expertise to thoroughly review the code.”
All things considered, as digital currencies expand, we can look forward to newer interpretations of traditional financial ecosystems virtually. Will the lack of middlemen make transactions more seamless, or will it pave the way for grander frauds? Only time will tell.
Header Image by Unsplash
