What is DeFi?

DeFi (distributed finance) is a decentralized financial ecosystem built on a blockchain distributed ledger.

DeFi applications (dApps) reduce the need for end users to use banks for cryptocurrency financial transactions. DeFi services are accessible to anyone with a digital wallet and internet access; all transactions are recorded on public blockchains.

DeFi is an important concept because it has the potential to create financial inclusion for unbanked and underbanked segments of a population and help make cryptocurrency transactions easier for all end users to manage. Today, most dApps are built on the Ethereum blockchain. Each transaction is executed as a self-executing smart contract in which the terms of the contract are written into lines of code.

DeFi platforms are controversial because potentially, unregulated fintech could lead to unstable, untaxable markets, sudden price crashes and a higher likelihood of financial losses for individual investors.

Additional factors contributing to the controversy surrounding DeFi include:

Security risks – dApps are built with smart contracts, which can be vulnerable to security exploits if coded incorrectly. Should there be a security breach due to poor coding, the decentralized nature of DeFi can make it difficult for authorities to determine who should be held accountable for losing funds or exposing personally identifiable information (PII).

Financial instability -- The rapid growth of decentralized financial ecosystems has raised concerns about the risk that DeFi poses to traditional financial systems. While most proponents of DeFi believe it's unlikely -- it's still possible that the interconnectedness of DeFi protocols could lead to a series of failures that would eventually impact banks and other traditional financial institutions.

Cybercrime -- The somewhat anonymous nature of blockchain transactions can make it difficult for authorities to track and identify individuals engaging in tax evasion or other illegal activities such laundering money or conducting ponzi schemes.

Digital divide -- In theory, DeFi aims to democratize access to financial services, but critics argue that in practice, the concept actually exacerbates the digital divide (and wealth inequality) because DeFi mobile apps still require a certain level of technical expertise to navigate complex user interfaces and understand the risks and implications of various DeFi activities.

Despite these controversies, DeFi continues to attract interest and investment from users and software developers. According to Grand View Research, the global decentralized finance market size was valued at USD?13.61 billion in 2022 and is expected to?expand at a compound annual growth rate (CAGR) of 46.0% from 2023 to 2030.?

In the United States, multiple federal authorities -- including the Department of Justice, the Financial Criminal Enforcement Network, the Internal Revenue Service, the Commodity Futures Trading Commission, and the Securities and Exchange Commission (SEC) are are working to establish clear guidelines and frameworks that address the unique characteristics of DeFi, while also preventing illegal activities, providing consumer protection and maintaining market stability.