DeFi rewards and risks

DeFi rewards and risks

Decentralised finance is set to boom, but risks inherent in fragile ecosystem mean it won't replace traditional banks

DeFi uses blockchain technology to record and process transactions without the need for intermediaries such as financial institutions and banks.
DeFi uses blockchain technology to record and process transactions without the need for intermediaries such as financial institutions and banks.

Decentralised finance (DeFi) has the potential to transform Thailand's financial services industry, but it cannot yet substitute fully for traditional services offered by commercial banks.

DeFi is disrupting the landscape of financial services, creating new investment opportunities while attracting app development companies, financial institutions and commercial banks that are seeking to take advantage of its potential.

"This year in Thailand, we'll see a significant uptake in DeFi as more and more users are attracted to these new, innovative services," said Vilaiporn Taweelappontong, consulting lead partner and financial services leader with PwC Thailand.

"Whether for transfers, payments, asset delivery or lending, these services are much more convenient and affordable to access.

"If the use of DeFi continues to surge, it presents a real threat to the demand for commercial banking services in the future. This would certainly impact the world of financial investment. We've already seen many institutional investors diversifying their portfolios into cryptocurrency."

A representation of Ethereum with its native cryptocurrency ether is seen in this illustration taken Nov 29, 2021. (Photo: Reuters)

A recent report by PwC, "DeFi: Defining the future of finance", highlights six services in the DeFi ecosystem that are set to disrupt traditional finance the most:

1. Stablecoins: A type of cryptocurrency where the price is pegged to the value of reserve assets to reduce volatility.

2. Decentralised exchanges: Ex-changes that allow users to trade digital assets without intermediaries.

3. Lending and borrowing: Blockchain technology allows users to carry out these key financial activities without intermediaries.

4. Insurance: Users can purchase insurance (for certain risks such as smart contract failures and crypto deposit risk) without an insurance company as an intermediary.

5. Derivatives (synthetic assets): A contract with value derived from an underlying asset, which allows users to trade assets through a blockchain network without having to hold the underlying assets.

6. DeFi aggregators: An information hub for users to view prices and the optimal yield for their transactions. This makes the market more efficient in the DeFi ecosystem.

"The ease of access to financial services and minimal verification processes make DeFi an appealing option, especially for the unbanked sections of society and digital asset investors," said Ms Vilaiporn.

"The biggest demographic of individual users to embrace DeFi is the younger generation who have been raised on a digital diet and are quick to embrace new technologies."

LIMITATIONS AND RISKS

DeFi uses blockchain technology to record and process transactions without the need for intermediaries such as financial institutions and banks. Proponents believe the technology is the future of financial services. But that future might still be a way off.

"DeFi won't be a complete substitute for traditional banking services as there are inherent risks that still need to be addressed such as hacking or fraud, which could cause significant damage to investors and users," cautioned Ms Vilaiporn.

As for the banks themselves, they should invest in R&D with the goal of integrating DeFi into their ecosystem, such as acting as intermediaries or providing DeFi aggregator platforms. Alternatively, they could become DeFi platform operators, which would allow their clients to leverage the full scope of new services, she said.

Moreover, banks can use DeFi to expand their services to the unbanked population, estimated at 1.7 billion people worldwide. This presents huge commercial viability for banks, and could help millions of individuals to attain financial well-being.

"We've already seen positive movements from two commercial banks in Thailand who are keenly investing in and developing DeFi services," said Ms Vilaiporn. "Meanwhile, new entrants, who are non-banks, have broadened the range of technological expertise in the market. These new players are issuing digital tokens to users and allowing lenders to use their platform for loans."

As the DeFi sector continues to develop rapidly, regulators are rushing to keep pace.

In Thailand, the Securities and Exchange Commission (SEC) is studying guidelines for digital asset fund managers and consultants related to DeFi and digital assets, with the aim to protect consumers from manipulation and cyberattacks.

Recently, the SEC issued a set of regulations that bar digital asset business operators from promoting the use of digital assets as payment. The regulation will take effect on April 1.

"DeFi is considered a new technology that's still in its infancy. That means operators and users must be aware of the risks involved such as transparency and cybersecurity of the platform to prevent hacks and data breaches," said Ms Vilaiporn.

"Meanwhile, they should remain cautious about the volatility of digital assets as well as keep an eye on any updated rules governing this sector, which will impact the future of DeFi."


To download the full report, visit https://www.pwc.ch/en/insights/digital/defi-defining-the-future-of-finance.html

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