DeFi on Ethereum Explained – Decentralized Finance (Ultimate Beginners' Guide)

Hello I’m Crypto Casey. In this video we will be talking about DeFi or Decentralized Finance. We will talk about what DeFi is, learn about its technological foundation, and how it works I’ve broken down this guide into five easy chapters. If you are new to cryptocurrency and haven’t watched my videos explaining what Ethereum is in the Ethereum 2.0 upgrade, I highly suggest checking those out first because it will make this video much easier to follow and understand Before we get started please take note of all of my official Crypto Casey accounts listed here on the screen Many scammers are making impersonation accounts pretending to be me as well as other crypto content creators So it’s crucial to double and triple check the URLs and account names you are accessing to ensure it’s the correct one. Please note that the best way to contact me is via email at casey@cryptocasey.com. Also, conduct a weekly AMA or “ask me anything” every Wednesday on Instagram at Instagram.com/cryptocasey So please use the link to my Instagram account listed in the description area below to follow me and ask me anything you want every Wednesday If after watching this video, DeFi is something you would consider investing in, you can use the links in the description area below to safely access my list of recommended exchanges and cryptocurrency wallets Lastly, be on the lookout for an announcement about open enrollment for a course I am creating that will help cryptocurrency beginners become profitable, confident, cryptocurrency investors Awesome! Now that we’ve got that covered, let’s learn about DeFI Chapter 1: What is DeFi? DeFi is the trendy, shortened version of the term “decentralized finance” and to better understand what decentralized finance is we will compare it with “centralized finance” or the not so trendy, CeFi for short. So the word finance and these concepts simply refers to the financial industry at large. While decentralized and centralized describe the nature of its foundation and how it works. Currently the entire traditional finance industry is centralized. So centralized finance is just how financial systems work now and have been working in the past few decades And as we can all see, especially in recent times, the CeFi or centralized finance foundation is severely outdated and highly manipulated making it wrought with costly fees, inefficiencies, deception, fraud, and corruption; all while being vastly inaccessible to most people living on the planet and maybe more for the better than worse who really knows? Luckily the leaps and bounds we’ve made in the technological realm, this past decade, have allowed for the development and emergence of a new decentralized finance foundation So although, DeFi stands for the term decentralized finance, the word DeFi is used colloquially to describe the movement or crusade towards a low-cost, fast, efficient, trustworthy, and completely transparent global financial ecosystem that operates without any central authority and is highly accessible to everyone around the world with just a smartphone or internet connection. Wow, that sounds pretty exciting, right? Or maybe, a bit delusional, perhaps it more accurately sounds like the ramblings of some pesky, avocado eating, millennial with poor work ethic and entitlement issues? Well, now that we know DeFi conversationally and in the media alludes to a paradigm shift in the global financial industry let’s talk about the underlying technology that has millennials, gen xers, and some boomers alike, bullish on DeFi actually becoming a reality in the not so distant future Chapter 2: DeFiy’s Foundation Blockchain So, how can the backbone of a new global financial system conceivably harbor all of these attributes like efficiency, transparency, and accessibility that have been completely absent from the current system we’ve known and been subjected to our entire lives? Ethical politicians? Altruistic governments? Philanthropic financial institutions? Decent, hard-working millennials? No, oxymoron equips will not be our saving grace Neither will leaving matters in the hands of genuinely, ethical and altruistic people Instead, the new financial era will operate on the very place from which numbers, mathematics, physics, and computer science were derived. The ever, enduring fabric of the universe Traditionally, banks, accountants, bookkeepers, and governments have managed the financial system However, in the coming years, DeFi will allow the entire financial foundation to operate purely from principles of mathematics and computer science using what’s known as blockchain technology; and blockchain technology is the cornerstone of decentralized finance as it’s what makes the decentralization aspect of DeFi

possible. So to better understand what the “De” in DeFi means, let’s break down what blockchain technology is and how it works? The best way to understand what blockchain means is by separating the word “block” from the word “chain.” So, imagine a list of transactions showing payment sent to and from people around the world being listed one after the other as they occur in real time Then, once a maximum amount of transaction data in the list has been reached, the list of transaction data becomes a block of data The block of data is then linked to a previous block of transaction data So we have new blocks of data being linked to previous blocks of data as transactions continue to be recorded, eventually forming more blocks of data. And the word “chain” simply describes the linked nature between each of these blocks of data So the word “blockchain” represents groups of transaction data linked together forming a chain of blocks. And there are three pillars of blockchain technology that make it unique: Decentralization, Transparency, and Immutability Let’s start with decentralization. So the word “decentralization” is where the “De” in DeFi was derived Decentralization in blockchain technology is two-fold One, it means that instead of data being stored in one physical location like on one computer and one building Data is stored in multiple locations, on multiple computers all around the world And two, decentralization also describes how no one person, corporation, government, authority, or entity can control any aspect of the data recording and storage process For example, in our current centralized financial system, the entire supply of US dollars is controlled by the Federal Reserve And the Federal Reserve is one central authority that dictates the monetary policy that essentially drives our economy affecting all people, corporations, and other entities within it. From the Fed’s money printers, US dollars typically flow into other centralized entities, like Bank of America or JPMorgan Chase And each of these entities are in complete control of where and how their data is recorded, stored, and managed. They can decide what types of servers to use, where the servers are located, and how their security protocols work So, if you think about all of the different entities that make up the whole financial market at this time, like Paypal, American Express, Citibank, and more. We pretty much know and accept that they all have their own separate, centralized systems. You can imagine the current CeFi, or centralized finance ecosystem, as several separate, centralized systems that do not communicate with each other efficiently; Similar to separate galaxies all across the universe To transfer value or things representative of value, like US dollars, between these closed centralized systems costs money, takes time, and is not efficient. In contrast, Blockchain allows transaction data management to be decentralized on a network of computers around the world using open source software. And any changes to this open source software or blockchain protocol have to go through a consensus process that no one person, company, or government has control over Which protects the integrity of the network. So that is the essence of the decentralization pillar The next pillar of blockchain technology is” Transparency” And transparency in blockchain describes how transaction data is recorded on a public ledger that is available for everyone to see This ledger of transactions is saved on the network of computers all around the world, I mentioned earlier, which makes it impossible for the data to be changed or altered. To better understand the value of transparency in data recording, storage, and management, let’s compare these two scenarios Currently, as we have seen in the news, the US Government is refusing to reveal where every single dollar of our taxpayers coronavirus aid went. And even if the government decided to show us how some of it was spent, it would be extremely easy for them to forge, manipulate, or create data out of thin air to appease us. Just like how they printed all that fiat from thin air to disperse in the first place You can see how that scenario is not transparent and not exactly trustworthy. So, imagine if everyone in the U.S had the ability to see a live, running ledger of where every single tax dollar was spent by the United States Government at any moment in time. Basically, all U.S Citizens could see a full disclosure of how our government is managing our money And in this scenario, there is more trust and transparency, the Second Pillar of Blockchain technology. The Third Pillar of Blockchain technology is “Immutability.” And immutability simply means that the data stored and recorded on the blockchain cannot be changed, forged, or altered And this is achieved through cryptography and blockchain hashing processes If you would like to watch a more in-depth video explaining what

blockchain is and why it was developed, check out my blockchain video guide by clicking above. So to summarize the three pillars of blockchain technology, Blockchain’s recording and storage protocols make it such, that once new data is verified, it is unmodifiable. It’s distributed across a vast network of computers all around the world so it’s hard to destroy. And no one person or entity controls the data or network, creating a transparent environment Awesome. Now that you are familiar with DeFi’s technological blockchain foundation, let’s talk about the technological layers built on top of its blockchain base from which DeFi was born. Chapter Three: DeFi’s Ecosystem- Ethereum. So Bitcoin and Ethereum are both use cases of blockchain technology with different purposes. Bitcoin is simply a digital currency that people can use as a form of payment to send to and from each other or hold as a store of value. While Ethereum is basically a programmable blockchain that people can build software on to create valuable products and services. And due to the decentralized properties of blockchain technology, the software people can build on ethereum, are called decentralized applications or DAPPS for short. And the nature and potential of these decentralized applications, or DAPPS, inspired the idea or desire for a crusade towards decentralized finance or DeFi back in November of 2018. The DeFi movement aims to transform the current financial system into a more transparent and trustworthy system, like I described in the scenario we discussed earlier in the transparency blockchain pillar segment So how is ethereum’s blockchain-based software application able to operate if it’s not owned or controlled by a central entity or authority? Let’s break down the ethereum network into three simple layers so that we can understand how it works in a nutshell, conceptually Imagine the base layer of ethereum consists of a vast network of computers called nodes. These nodes are connected to the internet with software installed on them that runs the ethereum blockchain And this base layer of nodes is where transaction data is processed, validated, broadcasted, and stored. So as these nodes process and publish transaction data to the blockchain, they are rewarded with ether, which is ethereum’s native currency Ether operates similarly to bitcoin, in that, it’s a digital currency that can be transferred to people around the world, used as a form of payment or act as a store of value. So ether was actually designed with the intention of fueling the ethereum network. Going back to the decentralized pillar of blockchain technology, we discussed how open source software is distributed across a vast network of computers around the world In order to incentivize people to host and maintain the ethereum network, Ether was created as a form of payment to essentially run the ethereum network. And anyone who wants to build a software application on the ethereum network has to pay for the computing power and the space required using ether. the amount of Ether required to process transaction data is determined by a built-in pricing system known as gas. Transaction data can contain value in the form of ether and information in the form of code. And these codes can transmit data and trigger actions in the next layer of the ethereum network. So imagine another layer on top of ethereum’s base hardware layer is a software layer This software layer supports a programming language library that consists of languages like Solidity, Viper, and more. Using these computer languages, developers can write what are called “smart contracts.” The term “smart contract” was actually coined back in 1998 by an American Computer Scientist named, Nick Zabo, who invented the digital currency called “bit gold” ten years before bitcoin was created Zabo’s idea was to basically use computer code to execute terms of sophisticated contracts in the buying and selling of securities, like options and futures So, smart contracts are just lines of code that dictate the terms of a contract and control the execution of the contract. And with the nature of ethereum’s hardware layer and its blockchain-based software layer, this creates the perfect trustworthy, digital environment for building and executing smart contracts. Smart contracts have the unique ability to authorize transactions and carry out terms of contracts within a trusted environment which eliminates the need for a central authority like a government, bank, or legal system So smart contracts make transactions trackable, transparent, and permanent Awesome. So we have the hardware layer and the software layer of ethereum, which basically combined, creates a global decentralized supercomputer known as the Ethereum Virtual Machine or EVM. In computing, virtual machines or VMS, are simulations of computer networks

that can be used for many different cases. In the case of the ethereum virtual machine or EVM, a very basic and general idea of its role in the ecosystem, is to improve the flexibility of the software and ensure separation of each software host and each software application And software applications bring us to the final layer of ethereum, the “Application Layer.” The application layer is where developers can build and launch third-party, decentralized applications or DAPPS. The applications are decentralized because they operate on ethereum’s decentralized, blockchain-based platform Popular examples of DAPPS that have been created are, Cryptokitties, which is a game and, Auger, which is a prediction market platform There are several different DAPP categories including games, identity, health, property, and more And DeFi represents the finance category of DAPPS being built on the Ethereum Ecosystem Next, let’s talk about how all of these decentralized financial applications are being developed and working together to make the DeFi Era become a reality sooner than we think Chapter Four: DeFi’s Financial Stack We’ve covered DeFi’s blockchain foundation and ethereum ecosystem, now let’s talk about DeFi’s financial stack or the components of the DeFi framework that lend to its potential usability and adoption. There are five main components to the DeFi stack They are stable coins, exchanges, money markets, synthetics, and insurance. So let’s briefly go over each component of DeFi Financial Stack. Component One: Stable Coins. So each cryptocurrency has a different function or utility. And types of cryptocurrencies that peg their price to something with stable pricing, like the US dollar, are known as stable coins. For example, DAI is a token that is pegged to the US dollar in that it maintains the same value as the US dollar This makes the token price “stable.” Staying at nearly one dollar per DAI which is why tokens with this function are called stable coins. Stable coins were designed to bridge the gap between fiat currencies and cryptocurrencies And also decrease the volatility associated with holding most cryptocurrencies by allowing people with the token to hold an amount of cryptocurrency with less price fluctuation. For example, when you look at the price of cryptocurrencies like bitcoin and ethereum, you will see how their prices are constantly in flux. One minute, bitcoin can be worth nine thousand eight hundred dollars and the next, it can be worth nine thousand dollars. With DAI, you can hold ten thousand dollars worth of the cryptocurrency in minute to minute, day to day. The value will be representative of the US dollar and remain relatively unchanged Which gives stable coins, like DAI, a lot of utility in the defy space The advantages of truly decentralized stable coins, like DAI, are that it has transparent records, it’s over collateralized, and has a minimal custodial risk. In finance, a custodian, is an entity that holds a user’s assets for safe keeping to reduce the risk of loss or theft And the nature of blockchain makes it such that superior security is insured without the need for custodian. Over collateralized simply means that there are more actual US dollars backing DAI than there are DAI in circulation. It’s important to note that there are some stable coins that are not completely decentralized and transparent Stable coins, like tether, do not make their records public And tethers lawyers have actually admitted to being under collateralized by over 25 percent, meaning that there is more tether in circulation than actual US dollars backing the stablecoin. This could cause massive liquidity issues for tether users and holders. Which is why it’s so important to make sure you are using an actual DeFi stablecoin and not just any random stablecoin out there So as you can see, DeFi stable coins are an important building block in the DeFi financial system, as it ensures the stability of value in the market. Let’s take a look at the next component within DeFi’s financial stack Component 2: Exchanges. Exchanges in DeFi are commonly referred to as a “DEX”‘ which is short for decentralized exchange. In DEX’s, are financial applications that allow users to swap cryptocurrencies for other types of cryptocurrencies directly peer-to-peer without an “Intermediary.” Currently with centralized exchanges, intermediaries, like companies, function as middlemen to facilitate trading assets and charge their users trading fees while also being under-collateralized causing liquidity issue when trying to place large orders. With decentralized exchanges, like Kyber network or Uniswap, users can trade cryptocurrencies, like

Ether in exchange for DAI, with minimal custodial risk due to the nature of the blockchain technology; while keeping their data private, maintaining complete control over their funds, and exchanging cryptocurrencies directly with users for small swap fee, instead of less secure and costly third parties. Some exchanges, like Uniswap, offer other services in addition to exchanging cryptocurrencies Like allowing users to pool their cryptocurrencies and earn interest or the ability to send another person a certain type of cryptocurrency while using a different cryptocurrency they hold For example, If I had Ether, but the person I’m sending funds to wanted DAI, I could use Uniswap to send my Ether and have the recipient receive DAI. So you can see how DeFi exchanges offer important functionality to the DeFi Financial Stack, offering low fees, superior security, over collateralization, and overall increased control and ease of asset management for users Next, let’s talk about another component of Device Financial Stack Component 3: Money Markets Money Markets simply represent lending and borrowing money. And money markets provide liquidity, which is a key component to any financial market. And centralized money markets, this can largely only be done by banks There are some online peer-to-peer applications that facilitate lending and borrowing outside of the banking system, however again, like we’ve discussed with the other DeFi tools, these options are not as secure, private, low-cost liquid, or functional as DeFi money markets With decentralized money markets, users can borrow and lend their cryptocurrency assets in exchange for interest Lending your cryptocurrency in exchange for interest is a great way to earn passive income on idle assets you are holding for an extended period of time Unlike traditional peer-to-peer lending available with centralized services like, Lending Club, DeFi money market projects like, Compound, use what’s called a “liquidity pool model.” So if users want to lend cryptocurrency assets, instead of lending it directly to a user, the cryptocurrency is placed in a pool with other lenders funds And users that want to borrow can secure a loan with an interest rate that is based on supply and demand and DeFi money markets are completely transparent So anyone at any time, can review the amount of loans issued from a lending pool to ensure that the liquidity pool is over collateralized or that there is more than enough cryptocurrency backing the outstanding loans Another interesting thing about DeFi money markets, is there are no credit scores or credit history associated with its users, which ensures borrowers privacy. Instead, in order to secure a loan with a DeFi money market, borrowers used Collateralized Debt Positions or CDP’S. Which is similar to how you are able to lean against your house or take out a loan secured by land or some other asset as collateral So in a DeFi money market a borrower would deposit a certain amount of some cryptocurrency asset in order to borrow another. And if the value of the cryptocurrency they used as collateral for the loan ever drops below the amount they borrowed, the loan instantly goes into liquidation eliminating the position In this scenario, a borrower would pay a penalty to the liquidators and any excess collateral would be issued back to the lenders So you can see how DeFi money markets are much more transparent and trustworthy. While offering the users the ability to: One, earn interest on income from idle cryptocurrency assets and Two, liquidity through cryptocurrency loans Cool. Let’s move on to the next component of DeFi Financial Stack Component 4: Synthetics Synthetic is a term used in finance that represents an asset designed to behave like another asset Except, with some specific changes to the assets behavior So, since the asset is not actually the asset it’s mimicking, that is why the word “synthetic” is used because it’s made to imitate something that’s real. In finance, Synthetic products are derivatives and derivatives are assets whose value is derived from and dependent on the value of another asset. These include options, swaps, and futures contracts. So Synthetic financial products exist because they offer investors highly customizable options that provide certain risk, exposure, and cash flow patterns The current centralized synthetic asset market value is about 1.2 quadrillion dollars. So you can see how this type of financial instrument

is necessary to have and DeFi financial stack In DeFi, decentralized synthetics are tokens that follow the price of another token In these decentralized synthetics are used to simulate activities like funding, liquidity creation, and market access while offering complete transparency and superior security to the underlying cryptocurrency assets Users can engage in synthetic activities in DeFi through platforms like synthetics Synthetics is a decentralized platform that issues synthetic cryptocurrency assets. So, using the synthetics platform, users can use Ether as collateral and Mint Synthetic DAI. With Synthetic DAI a user gets simulated price exposure to the US dollar This part of DeFi’s Financial Stack is extremely complex and could expose users to a lot of risk, which brings us to the final component of the DeFi Financial Stack Component 5: Insurance Insurance is used to mitigate risk and protect people from certain types of losses In DeFi, decentralized insurance protects users against the risks associated with using these new bleeding edge financial protocols, unlike centralized insurance that requires people to use insurance companies In decentralized insurance, users can choose to provide insurance in exchange for interest or they can buy insurance DeFi projects that currently offer decentralized insurance products and services include Nexus Mutual and Opyn Essentially, decentralized insurance acts as a safeguard against hacks, glitches, or bugs so users feel more comfortable knowing their cryptocurrency assets are protected while working and investing in this very new DeFi Ecosystem Awesome. Now that we are familiar with all of the main categories of DeFi’s Financial Stack, let’s get into some of the detail about how all of these DeFi DAPPS are working together to understand how DeFi will very likely become the backbone of our future global financial system Chapter 5 : DeFi’s Architecture- Money Legos. The simplest way to describe and understand DeFi’s Architecture or the relationship between all of these components and decentralized financial applications on ethereum is by comparing them to legos. In fact, when you do some research on the internet about DeFi you will find that most people compare DeFi Architecture to legos. Yes, those colorful plastic construction toy blocks you may have either played with as a kid, painfully stepped on as an adult, or maybe even both So let’s compare DeFi’s Architecture with legos Imagine DeFi is its own theme of legos and within this theme there are five different categories of DeFi lego blocks. These categories represent each component of DeFi’s Financial Stack And then imagine within those categories there are unique sets of legos that represent DAPPS So if you are a developer in the DeFi Space and you have a project in mind you want to build, you can assess the different categories and sets of legos to use and assemble that would work together to create your product or service. In more technical terms, each lego basically represents computer protocols that dictate how the DAPP interacts with the Ethereum Ecosystem, other DAPPS, and cryptocurrencies. This architecture allows developers to essentially build on existing foundations while mixing and matching pre-built functionalities to create new financial products and services One of the main principles of the DeFi Ecosystem is to achieve “interoperability” that way each new project doesn’t just exist as an individual product or service, but rather serves as a new lego piece or building block, developers can leverage for other projects Let’s break down a couple DeFi projects together to better understand how the DeFi Architecture works from a development standpoint Maker DAO is the protocol behind the DAI Stablecoin And the team behind Maker DAO created a collateralized depth position tool using a custom smart contract that connects with the DAI Stablecoin. So imagine the Custom Smart Contract as one lego piece and the DAI Stablecoin as another lego piece Connected together, they create the Maker DAO CDP Tool, which enables users to borrow funds in the form of DAI using Ether as collateral. So users can continue to have price exposure to Ether while using DAI. Maker DAO’s CDP Tool is open for other developers to use and create other tools and projects. In fact, the project called “Compound” operates using the Maker DAO CDP Tool,

the Stablecoin DAI, and their own Custom Smart Contract So the Maker DAO CDP Tool lego piece, the DAI lego piece, and the compound custom smart contract lego piece all connected together creates “Compound.” and compound Is a lending market that is using Maker DAO’s pre-built, borrowing infrastructure to operate. So instead of having to build the borrowing aspect from scratch, Compound, connected with another existing DeFi project These are just two examples of projects that are using just a few building blocks to create new, useful financial products and services Some projects like Zerin, use an assembly of a myriad of blocks or projects to create a valuable new service. Zerin uses the Maker DAO CDP Tool, Compound, Uniswab, Metamask, imToken, Trust Wallet, Coinbase Wallet, and Tokenary to provide users with a simple, single, entry point to an array of DeFi services With these more complex structures, developers have the ability to build on top of and add more blocks to existing DeFi Architecture. So instead of choosing from a random pile of legos to start assembling something, they can actually take existing lego structure to run with in a new direction So you can see how DeFi’s lego-like architecture allows for efficient, limitless, creation, and expansion of a whole new global financial universe Awesome. Thank you for taking the time to watch my video If you enjoyed the content and would like to see more videos in the future, please make sure to like this video and “subscribe” to my Youtube Channel If DeFi is something you would like to start investing in, you can click on the links listed in the description area below to safely access my list of recommended exchanges and cryptocurrency wallets. Also, make sure you head over to my Instagram account at instagram.com/CryptoCasey for more content and to “Ask Me Anything” every week on my Wednesday, AMA’s. Remember to look out for more information about my course that will help cryptocurrency beginners become profitable, confident, cryptocurrency investors. So what do you guys think about DeFi? Is it something you would consider investing in? Which DeFi projects do you think have the most potential? Let me know in the comments below Be Safe Out There you