One of the most popular features of decentralized finance (DeFi) is lending. It is fair to say that this feature is expanding to take a significant share of global financial lending space simply because it is easy to use and removes the barriers to accessing loans in the traditional financial system.
Bank loans are not available to everyone
Lending and borrowing are one of the core offerings of the traditional financial system, and most people are familiar with the terms in the form of mortgages, student loans, etc. These are usually granted by banks, which take measures to minimize the risks associated with providing a loan by conducting background checks such as Know Your Customer and credit scores before a loan is approved. It’s a system that is closed to those who cannot pass the banks’ requirements.
The role of smart contracts
DeFi, by contrast, is a system where lending and borrowing can be conducted in a decentralized manner wherein the parties involved in a transaction can deal directly with each other without an intermediary or a financial institution. That’s because DeFi uses smart contracts.
Crypto as loan collateral
A bank will not accept your crypto as collateral for a loan, whereas crypto is central to DeFi platforms. Users can deposit their coins into a DeFi protocol smart contract and become a lender – or a borrower. Usually, the loans are over-collateralized to account for unexpected expenses and risks associated with decentralized financing.
Choosing a DeFi platform for lending or borrowing
The best way to assess which DeFi platform is best for lending or borrowing is by looking at its TVL – total value locked. TVL is a measure of the assets staked in smart contracts and is an important indicator used to evaluate the adoption scale of DeFi protocols as the higher the TVL, the more secure the protocol becomes. The TVL in DeFi protocols has grown by over 1,000% from just $18 billion in January 2021 to over $110 billion in May 2022. One of the best sources for checking TVLs is https://defillama.com/
Perhaps most importantly, the transparency provided by DeFi platforms is unmatched by any traditional financial institution. These platforms also allow permissionless access, signifying that any user with a crypto wallet can access services from any part of the world. Although you’ll need to check each platform, as some DeFi services are not available in certain jurisdictions, e.g. a European platform may not give access to US citizens, and vice versa.