DeFi tokens are continuing to rally even as ETH is hitting all time highs and Bitcoin is also showing signs of life again. Sushi and 1inch are up more than 100% in the past 7 days. DeFi shows no signs of stopping and with the shenanigans of the traditional markets in the spotlight I expect interest will continue to grow.
Being an American with with interest in crypto I have high hopes for DeFI and in particular decentralized exchanges. The US is one of the most restrictive jurisdictions when it comes to crypto currencies. As citizens are locked out of most foreign exchanges we need to rely US based exchanges such as Coinbase or Kraken. These exchanges have a limited amount of trade-able currencies and less than stellar reliability leaving US citizens at a great disadvantage. There have been more instances than I care to remember when I have been unable to access my tokens during major market moves due to technical issues on the exchanges.
Decentralized exchanges (DEXs) like SushiSwap and 1inch are a welcome alternative. DEXs promise borderless, non custodial, automated currency exchange powered by smart contracts. This has the following benefits:
- No KYC
- No geo restrictions
- Access to any currency with liquidity
- User never loses custody of tokens
- Not controlled by a government
The items above are very compelling but it is still early days. Most of the majors DEXs run on the Ethereum blockchain. While this is a good thing for the price of Ethereum this can quickly become a liability for DeFi. The current incarnation of the Ethereum network has limited capacity which is easily exceeded. Once the network is congested fees go up and become unpredictable. It is not uncommon for a trade to fail exposing the the user to both opportunity cost and the fees associated with the failed transaction. Often times trading on a DEX can be more expensive than on a centralized exchange. Despite all this the use of DEXs is growing faster than ever.
There are a large number of projects looking to address the challenges facing DeFi due to the Ethereum base layer. There is of course Ethereum 2.0 but there are others that look to deliver a an improved user experience much sooner. Layer 2 DEXs such as Loopring and ZkSwap promise much higher throughput and greatly reduced fees. Built on top of the Ethereum blockchain layer 2 solutions operate off chain but maintain trust by submitting regular checkpoints to the main chain.
Another set of solutions are focusing and building entirely new layer 1 solutions. These solutions will be peers of the Ethereum network. Polkadot is currently seeing a lot attention and very similar to what Ethereum 2.0 will look like. Another layer 1 project, Algorand, promises to solve the “blockchain trilema” problem. The trilema states that given a choice of security, scalability and decentralization a blockchain will need to compromise on at least one of the three.
Needless to say this an exciting time from a technology and financial freedom perspective. The user experience is sure to improve and the efforts to make this happen are sure to provide excellent investment opportunities.