Within the cryptocurrency space, the rise of decentralized finance was one of the defining stories of 2019. For the benefit of the uninitiated, decentralized finance, or DeFi, is a broad term used to categorize financial services that operate using blockchain-based applications. The vast majority of DeFi applications are based on the Ethereum blockchain, but in principle, the term can be applied to financial applications on any blockchain.
To say that DeFi is growing fast would be an understatement. The term itself only started to become popular among cryptocurrency enthusiasts somewhere around the middle of 2018. By the middle of 2019, more than half a billion dollars were tied up in DeFi. As things stand, that sum has now risen to over $800 million. The next milestone of one billion dollars can only be a matter of a few months away.
So how has this phenomenon come to settle on Ethereum as its platform of choice when Bitcoin is by far a more popular asset? As the first smart contract platform, Ethereum has become the go-to for developers wanting to launch distributed applications (dApps.) According to dApp tracking website State of the dApps, Ethereum currently hosts 2,746 dApps compared to its next nearest competitor, EOS, with 320.
Therefore, like many other dApps, DeFi found its home on Ethereum.
How DeFi’s Enabler Could Be Its Downfall
Within the blockchain community, Ethereum often comes under heavy criticism for its lack of scalability. The chart above illustrates this - EOS significantly outperforms Ethereum on transaction volume, despite hosting far fewer apps.
Last year, it emerged that the long-awaited Eth 2.0 upgrade could still be a matter of years away. Nevertheless, many of the 2020 predictions are that DeFi will undergo further stellar growth. Ultimately, there’s a risk that Ethereum’s lack of scalability could prove to become a constraint to DeFi’s expansion.
A seemingly obvious solution is that developers could start building their DeFi applications on another platform. But another critical challenge in the blockchain space is a lack of interoperability between blockchains. If someone wants to develop a DeFi dApp on another blockchain, invested assets won’t be easily transferable to dApps on Ethereum, potentially alienating users.