Challenges Facing Decentralized Finance Decentralized finance involves the use of public block chains in the monetary systems. It is a new fiscal scheme thus has a lot of hot debates surrounding it. the term public is fundamental in therein. It is relatable to that of the Ethereum public block chain. A public blockchain has no room for centralized authority. The need for decentralized finance comes due to the fact that not everyone around the world can accces financial services. They are not available to up to 1.7 billion people in the world. Financial institutions are also unable to set the essential infrastructure that would make people access more money. The current infrastructure is massive but it is inadequate in ensuring that it reaches everyone out there. With decentralization, the current failures on insfrastructure are as good as over. It eliminates the failure spot and ensures that it is possible to store and share records among different joints across the network. There is excess dependency on the centralized system for the current infrastructuire to function. Overview of the decentralized finance Without the givernance, regulations and the rules that comes with it, implementation in some areas becomes difficult. That is common in places whre generation and distribution of wealth is either little or insufficient. Besides, centralized authority has the power to get rid of accounts or block them if it deems appropriate. In some cases, the restrictions may be critical. However, in most scenarios, it is suppressive and cause suffereing to the users. Another crucial feature of the decentralized finance is the dApps short for decentrazed apps. Throug them, the financial institutiions can develop functional apps on the public blockchain. They also allows anyone to work together with them with less cost per interaction. Comparison of the traditional and decentralized finance The main difference between the traditional and the decentralized finance is the mode of work. Traditional financial systems uses centralization and leads to ineffectiveness and insecurity. Security risks are tenacious in the current conventional financial system. there is also an increase in cybercrime due to lack of upgrades in the technologies used by financial institutions. There is a risk of hacking for most transactions. They all leads to data and fiscal risks. On the other hand, decentralizes finance ensures there is a solution to a certain extent. Due to the utilization of public blockchain, there is no reliance on a centralized system. Decentralized system can function without requiring proper infrastructutre. In simple terms, it decentralizes the economy and provides viability of the economic activity to everyone in the world. There things that the decentralized system brings there improvements. Permisionless Public blockchain wont require permission from anyone else so as to access and interact. It is thus a top choice for implementation in the world. It also ensures ficxing of the inequality problem. Decentralization Since there is no central authority, data storage occurs amongst the differents joints in a network. Transparency There is transparency in public block chain. However, the growth and proponents of the decentralized system faces several challenges that would entirely affect its adoption. Challenges that face decentralized finance. 1. Hacking of smart contract Decentralized finance projects depend on smart contracts that run on Ethereum. The code for the programs is usually public and anyone with sufficient knowledge can examine and interact with it. Blockchain networks that that run on the smart contracts are attractive to hackers. There was a scenario in 2016 when a hack resulted to the loss of 3.6m ETH. The value was approximately 70 million USD. The hack was around 10 percent of the total supply of ETH at that time. The hacker could not access the funds for 28 days. During that period, the Ethereum group managed to reverse the transaction. However, there is high likelihood that a similar solution may fail to work ever again. 2. Manipulation of oracles The decentralized finance ecosystem depends on data providers known as oracles for distribution of market data that resolves fiscal smart contracts. Oracles are also essential to Maker’s smart contracts in knowing the current price of ETH that determines whether there is adherence to the collateralization ratio. Decentralized finance applications uses price data as the most common type of data provider. The oracle responds to queries such as “What is the price of token Y at the moment”? What happens if there is a manipulation of the information that an oracle provides? An oracle error on 24th June 2019 led to wrong price data thus causing an irregular performance on the Sythentix protocol. The malfunction allowed KRW holders to buy ETH at a discount. 3. Ethereum non- scalability Decentralized finance is essentially a movement based on Ethereum. Innovation and liquidity largely focuses on them. There is launch of new projects all the time that aims to lure new users either with better returns and/or more effective token assortment management. Although there is little on the front-end, the Ethereum public blockchain is carrying out a lot of heavy lifting behind the scenes. There is dependence on the collaborative building network of the separate nodes. Due to the challenges facing its scalability, Ethereum either fails or becomes too expensive to work together with dapps. In several occasions, there has been network congestion. The best solution to the scalability challenges would be a major upgrade in the network. Already it is happening already, it will take time for its benefits to materialize completely. 4. Stablecoin Failure Maker is a project on Ethereum and started operations in 2014. In 2017, it came up with a stable coin DAI which pegs softly to the US dollar. It is possible for anyone to create DAI using ETH, BAT and USDC as the security, while maintaining a minimum ratio of 1:5:1 and 1:25:1 for the USDC. If for example you have 200 USD in ETH, you can create 100 USD in DAI. At the moment, DAI is the most extensively utilized stablecoin in decentralized finance. In case of a hack on the Maker’s smart contracts and the criminal access the user’s security, DAI becomes worthless. Such a move would affect the entire decentralized finance space. 5. Overcollaterization Due to lack of guarantee in volatile markets, lenders usually seeks for a higher secutity for their loans. it reaches a point where most of the lenders and borrowers will only work when there is a significant amount of asset as a collateral. The situation undermines the important function of borrowing and thus fails to satisfy one of the main ideas of decentralized finance which is to reach those without access to the banks. Besides, it leads to significant slash in the profits from leverage trading. 6. Composability Composability is among the most marketed elements of decentralized systems. It relates to hoe they can flawlessly integrate, enabling rapid growth, service complexity and even completely new financial products. However, composability creates essential dependencies between decentralized finance protocols that could develop into systemic risks. 1. Accessibility of the users’ tokens In decentralized finance, tokens are under the management of smart contracts which are nonliving bits of programming codes. It is a non-custodial finance service that is in contrary to the centralized system that uses humans. Custodial services calls for heavy regulations. however, when the project is non-custodial, the team save a lot of cash by dodging burdensome legislations. Admin keys helps the developers behind the decentralized finance project to have control over the smart contracts that handle user funds. The weakness is lack of transparency on who possess the keys. There is possibility that one individual could have access to all of them. Conclusion Although most people have internet connections, there is little public awareness on decentralized finance. Very few people knows about it which can affect its use rate. Besides, the fact that it is still in its infant stage means there are relatively high risks in using it. there is dire need to solve most of its challenges so as to increase its viability to different administrations and organizations. Decentralized finance focuses on creating financial services that are distinct from the traditional fiscal and political system. It has the potential to prevent instances of censorship, discrimination across the world and allow for a more transparent financial system.
