How Decentralized Finance (DeFi) Is Disrupting Traditional Financial Institutions

Already the differences between Decentralized Finance (DeFi) and traditional financial institutions are sharp, but the greatest dissimilarities have yet to be experienced. Most of DeFi has centered around cryptocurrency and crypto exchanges to date. As DeFi evolves, more foundational aspects of finance will change, and new opportunities will become realized with more profound effects and greater differentiation. In fact, the DeFi of today will hardly look like the DeFi of the future.

Despite its success and appeal, DeFi today does not live up to its name and primary value. DeFi is mainly not decentralized. A report last year from Chainanalysis showed that less than 1% of holders in a Decentralized Autonomous Organization (DAO) project have 90% of the voting power. So much for the hallmark of decentralization—a distribution of control and a kind of financial utopia free from the control of a central authority.
At the same time, DeFi is not completely about creating a more equitable and decentralized financial system. While this is still a worthy and viable goal, it is based on a premise of “us and them” between traditional financial institutions and new DeFi ones. Part of the DeFi future is the possibility of traditional financial companies embracing a hybrid model that blends DeFi and traditional aspects of finance. Some may opt for “spin-off” entities that are more purely DeFi, and some may more substantially shift their systems and governance model towards DeFi.

Despite the firm limits of regulation and the conservative traditions of banking, the industry has changed significantly and is continuing to change. See, for example, the profound shift from walk-up teller interactions to self-service, anytime ATMs, and then online and mobile banking that now predominates around the world. Traditional financial institutions need to maintain the highest fiduciary standards with the lowest risk, but they also need to continue to decrease costs, increase revenues and cater to customer and client expectations and demands.
New types of lending, purchasing, and ownership may become possible through standalone DeFi or hybrid organizations.

NFTs are the tip of the iceberg for fractional or multi-party ownership. Primary dwellings, cars, boats, vacation homes, recreational vehicles, and even group travel could all could all change substantially in how they are procured, owned, and financed. Some may value collaboration between a large investor, such as a car or ride-sharing company or vacation rental firm, and individuals. Financial institutions could make money on transactions or their role in the ongoing management of decentralized ownership and loans, or they could directly become investors.
While such changes may seem unthinkable, realizing the full impact of blockchain-based mechanisms will be a game-changer, not just for start-ups and new ventures but also for existing companies. A new model for transparency, accountability, auditability, and immutability could actually reduce risk rather than increase it with these new application areas. Decentralization can mean far greater flexibility, speed, and participation and markedly lower costs without giving up standards or requirements, two important values in traditional financial “control.”
Smart contract features could dramatically change the process of initiating and maintaining loans and ownership. The idea of centralized order book could give way to decentralized accountability. Verification costs and times could dramatically decrease or go away completely.

Like most things, the future of DeFi as a standalone and DeFi as a hybrid depend on a combination of technology, imagination, trust, and demand. While the technology largely exists in the form of being able to create nearly any kind of blockchain application and reside on or create decentralized networks, the knowledge of how to use it has been greatly constrained. There is an acute shortage of experienced blockchain developers and a combination of relative newness and complexity that have limited new creation. Training, development communities, and full-featured blockchain development frameworks will give rise to this new and dramatic future.