Byzant is a new series by Neo News Today, providing access to insider perspectives from knowledgeable individuals in the Neo ecosystem and broader blockchain industry. For the following week after a guest has shared their insight, they will be encouraged to participate in discussion on the Neo subreddit by answering relevant questions from the community.
In this week’s feature, we talked to Yuan Gao, Neo Global Development’s head of marketing, to share his thoughts and perspective on emergence of decentralized finance, its underlying components, and how to bring it to the Neo blockchain.
Yuan has work experience across numerous sectors and degrees in computer science and finance, making him well suited to adapt to the unique blockchain industry and capable of offering insight from both technical and business perspectives.
Readers interested in learning more about decentralized finance can join the conversation and take advantage of Yuan’s knowledge at the following thread:
NNT: What are the most important pieces of infrastructure required for decentralized finance (DeFi) applications? What applications do you think are the most interesting, and what are we missing to bring Defi to Neo?
Yuan Gao: The recent surge of DeFi marked the beginning of a major transition, the most established and revenue generating theme in the blockchain industry – crypto asset exchange – is moving on chain. All the innovations and projects, though different at the surface, are all centered around this major theme. Decentralized exchanges (DEX), automated market makers (AMM), lending/borrowing, cross-chain assets, synthetic assets, transaction routers/aggregators, and asset management are all integral parts of a sophisticated exchange system, that we can easily find resemblance to the centralized exchange space.
The core features of DeFi stand out as blockchain infrastructure matures:
- Take control of your assets: Non-custodian and transparency in the system, less counterparty risk.
- Permissionless and unified liquidity provision: altering the fragmented centralized exchange landscape.
- Organic composability: that different DeFi projects and components can be composed to achieve more complicated functionalities, and thus provide an organic path to evolve into a more robust and sophisticated ecosystem.
However, the current DeFi system is not without flaws:
- Scalability: capacity of blockchain platform is the single biggest obstacle for DeFi. The surging gas fee on Ethereum is not retail investor-friendly, thus defeating the purpose of financial democratization.
- User experience and cognitive cost: It is still quite difficult for the average Joe to understand the DeFi puzzle, given all the jargon, obscure underlying mechanisms, and fragmented user experience.
- Security and vulnerability on DeFi protocols: as the Total Value Locked (TVL) on specific DeFi protocols continue to grow, there will be growing risk from external attacks exploiting the code or logic flaws.
- Viability of the long term sustainability of “yield farming” which jump-started the whole frenzy.
Personally I am still cautiously optimistic about the future of DeFi. From the very fundamental level, DeFi indeed mitigates some of the shortcomings of the current financial system: lower friction of transaction – especially for cross border transactions; and coded transaction logic – lower counterparty risk.
Among all those projects, a few inspired me the most. First, automated market makers such as Uniswap, Balancer, and Curve. The daily transaction volume of Uniswap exceeded 100M USD recently. They are no longer the last resort of liquidity provision for long-tailed assets, but gradually become the source of price discovery for major assets. The elegance of AMMs is that they provide instant liquidity to a certain pair / group of assets with predictable price, while reflecting the supply/demand along the curve. It becomes an essential component to the whole DeFi ecosystem, which can also be integrated with order-book based DEXs as another source of liquidity. The price on an AMM will be automatically corrected by arbitrageurs to reflect the market consensus.
Secondly, synthetic asset solutions such as Synthetix and UMA. They provide investors and users risk exposure to any kind of assets without really having the asset on chain, thus enormously mitigating the slow pace of tokenization of traditional financial assets and compensating for the lack of mature asset cross-chain solutions. While UMA is still at a relatively early stage, there are a few shortcomings for Synthetix:
- The collateral rate of SNX is very high (target collateralization ratio: 750%), limiting the capital efficiency greatly. The asset volume of SNX is still relatively low especially considering the high collateralization ratio, limiting the scalability of the platform.
- Dependency of an oracle is a potential risk.
- Associated platform risk when settling synthetic assets in volatile market situations.
There are some essential pieces of infrastructure or features for DeFi to thrive on a blockchain as a contender to Ethereum:
- Reliable Stablecoins serve as the basic unit of account. It can be either an algorithm-based stablecoin such as DAI, or a compliant and secured centralized stablecoin such as USDC or PAXOS, or both.
- Relatively low cost of smart contract deployment and interaction while maintaining the security, as a competitive edge compared with Ethereum.
- A relatively high market cap of primary assets, such as NEO, and abundance of long-tailed assets, such as NEP-5 to start and scale.
- Indexing protocols or services that make querying on-chain data easy, such as The Graph and Dune Analytics.
- Various plugin wallets for easier user-side asset management, and DeFi application front-end interactions.
– Yuan Gao