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What is DeFi 2.0?

September 01, 2022 - 7 min read

The launch of DeFi was a seismic shift in the financial industry. 

The emergence of cryptocurrency presented a more user-friendly alternative to centralized financial institutions. DeFi can provide a wide range of financial services due to its decentralized design, including conventional banking, mortgages, and loans, as well as complicated contractual agreements and asset trading. Even though the initial DeFi protocols gained traction only a few years ago, the birth of the decentralized financial movement may seem like a lifetime ago. In DeFi 2.0, the reliance on subsidized liquidity is swapped out for one controlled by the protocol.

Introduction to DeFi 2.0

DeFi 2.0 is a group of decentralized finance initiatives that seek to improve upon DeFi 1.0. The initiative focuses on enhancing liquidity, scalability, governance, and security. DeFi 2.0 is a new term in the blockchain industry that refers to a subset of DeFi protocols based on previous DeFi innovations, such as yield farming, lending, and other things. Numerous on-chain systems with native tokens face liquidity limits, a primary focus of significant DeFi 2.0 implementations.

In contrast to the previous generation of DeFi apps, designed for end users, the newcomers have a business-to-business (B2B) emphasis. DeFi 2.0 protocols take advantage of the fact that the first generation of DeFi products successfully bootstrapped the industry by establishing an initial user base and providing the essential DeFi primitives that future manufacturers can use to build the next wave of DeFi applications. This new generation of DeFi protocols is intended to ensure the sector’s long-term survival.

Objective of DeFi 2.0

DeFi 2.0 protocols aim to fix DeFi 1.0’s problems. DeFi 2.0 would ensure the movement continues decentralizing finance. Third-party providers and token incentives ensure liquidity in decentralized finance. DeFi is unrelated to traditional finance or the global economy. These issues potentially threaten decentralized finance’s long-term viability. DeFi 2.0 and subsequent updates would fix these concerns. Early DeFi 2.0 projects like OlympusDAO offer new long-term liquidity alternatives. In addition, DeFi 2.0’s protocol-controlled value methods can empower DAOs.

How does it work?

The software is known as decentralized application, which enables users to interact with DeFi with ease. For example, unlike traditional banks, users are not required to complete an application to open an account. Obtaining a loan is now relatively straightforward. You do not need to submit documentation to get a loan. Users can also receive “flash loans,” typically unavailable from conventional financial institutions. Users can engage in peer-to-peer exchanges of their crypto assets. There is no requirement for a broker to purchase or sell stocks.

Users can also store their cryptocurrency in an interest-bearing savings account. Additionally, users can also place long or short bets on particular crypto assets, treating them as futures contracts or stock options.

Benefits of DeFi 2.0

Some of the beneficial use cases of DeFi 2.0 include:

1. Asset-staking flexibility

DeFi 2.0 improves on DeFi 1.0’s yield farming incentives. Even though users earned LP tokens for staking assets in a liquidity pool, the assets’ value increased. LP tokens as loan collateral can enable DeFi 2.0 projects to introduce new incentives and conveniences. For example, MakerDAO uses LP tokens to mint more tokens.

2. Impermanent loss protection

Changes in price ratios might hurt liquidity-mining investors. DeFi 2.0 protocols are developing new ways to prevent loss. DeFi 2.0 users must use the token protocol. If a user adds a token to the liquidity pool, the protocol balances the pair. Users and protocols can collect payments for pair swaps. The protocol can leverage insurance fees to prevent temporary loss.

3. Smart insurance contracts

Insurance-backed smart contracts are another DeFi 2.0 use case. DeFi is transparent and open-source. However, due diligence and risk assessment for DeFi protocols and smart contracts might be complex for those with poor technical skills. For customers, DeFi 2.0 crypto can now fix the problem with smart contract insurance, which ensures customer deposits for a charge. These systems are in development and rely heavily on smart contracts.

4. Self-Repaying Loans

DeFi 2.0’s environment enables self-paying loans. For example, a lender can offer money for a small deposit. Then, the lender invests a stake and earns interest. Once the lender has earned the whole loan amount, they refund the deposit, and the borrower doesn’t have to repay it.

Major DeFi 2.0 projects

1. Olympus DAO

Olympus DAO is a DeFi 2.0 pioneer known for its protocol-owned liquidity (POL) approach. The platform is a self-governing DAO that employs OHM. Olympus says this cryptocurrency might become a decentralized reserve currency. DAI and FRAX tokens back OHM tokens. Hence, their prices are stable. Olympus DAO was probably the first DeFi 2.0 project you heard of. This decentralized reserve currency technology sparked DeFi 2.0. Investors can stake and buy bonds on the project. The company’s bonding concept is user-friendly.

2. Convex Finance

Curve Finance is a decentralized finance platform (CRV). Convex gives Curve Finance’s liquidity providers higher rewards without locking in CRV tokens. The site charges no withdrawal or performance fees. Staking enthusiasts can utilize Convex to stake CRV tokens for improved payouts.

3. Alchemix

Alchemix is an innovative DeFi 2.0 protocol at the forefront of the DeFi 2.0 movement. While its user-friendliness is enhanced by its simplicity, its new features are drawing eager investors. The system provides crypto holders with opportunities such as self-repaying loans, DAOs, and future yields, making it worthy of attention.

4. MakerDAO

The MakerDAO was one of the earliest titans of decentralized finance, forcing numerous individuals to inquire about DeFi 2.0. The holders of its stablecoin administer DAI, pegged to the dollar. Investors find MakerDAO alluring due to its blend of stability and innovation.

How To Invest in DeFi 2.0

1. Yield Farming

Those familiar with decentralized finance may have wondered how DeFi 2.0 handles yield farming. DeFi 2.0 protocols use yield farming to acquire user cash. Tokens can be used as collateral for loans. This variation in yield farming attracts investors. This key feature of DeFi 1.0 is much more valuable for investors in DeFi 2.0. DeFi 2.0 protocols use yield farming to acquire user cash. This variation in yield farming attracts investors. The few familiar with decentralized finance may have wondered how DeFi 2.0 handles yield farming. This key feature of DeFi 1.0 is much more valuable for investors in DeFi 2.0.

2. Liquidity Mining

Liquidity is dispersed across multiple blockchains and platforms. Liquidity locks in funds and their value. In most circumstances, staking tokens in liquidity pools creates capital inefficiencies. However, liquidity gives cryptocurrency holders an easy method to benefit from. Holders pass some cryptocurrency to a liquidity pool so users can trade against it. The currency provider gets paid. These win-win transactions help DeFi 2.0 recruit liquidity and profit customers.

3. Trading on Decentralized Exchanges

Decentralized exchanges (DEXs) enable users to conduct cryptographic transactions beyond the purview of third parties, such as banks. Even though certain authorities and nations put rules on this form of trading, the decentralized nature of the practice provides substantial freedom. Not only do DEXs typically offer reduced fees, but they also facilitate margin trading and other advantageous operations.

4. Participating in DAOs

Anyone enquiring about DeFi 2.0 is likely also interested in DAOs, the autonomous entities that serve as the foundation for the majority of decentralized finance. To join a DAO, investors must purchase the organization’s token. Once you have invested in a community, you should have a voice in its governance. This direct participation is an incentive for understanding how to invest in DeFi 2.0.

Risks of DeFi 2.0

DeFi and crypto innovation are risky. The general view in the space is that the dangers diminish compared to the benefits of DeFi 2.0. However, risk considerations shouldn’t be neglected. Educating users, using rigorous smart contract auditing procedures, and ensuring errors don’t harm the ecosystem are approaches to avoid these risks.

As the OlympusDAO protocol is still young, market turbulence can swiftly affect investor mood and support, especially OHM’s pricing and stability. The recent drop of crypto markets in January 2022 after the Federal Reserve announced a rate hike shows this. Olympus protocol has fallen almost 50% since January 10 because of the market sell-off. Despite how tempting or smart OlympusDAO may appear, considerable price volatility is expected during any growing phase.

Final Thoughts

DeFi 2.0 represents improvement and, at the very least, a significant step beyond DeFi 1.0’s initial bootstrapping phase. DeFi 2.0 is an updated version of the expansive DeFi ecosystem that strives to rectify its problems and capitalize on its strengths to provide users with exciting new chances to continue along the path to financial independence. As smart contract execution mechanisms in blockchains become more efficient, gas fees are anticipated to decrease, especially with Ethereum 2.0. DeFi 2.0 should also enhance scalability, security, and liquidity. New DAO communities utilizing DeFi staking, such as Lido, may enhance DeFi 2.0 activities. As smart contract execution mechanisms in blockchains become more efficient, gas fees are anticipated to decrease, especially with Ethereum 2.0. DeFi 2.0 should also enhance scalability, security, and liquidity. New DAO communities utilizing DeFi staking, such as Lido, may enhance DeFi 2.0 activities.

To level up and gain a deeper knowledge of all things related to the future of the cryptocurrency industry, check out the latest content in the Supra Academy section.

References

  1. DeFi 2.0: A beginner’s guide to the second generation of DeFi protocols. Cointelegraph.
  2. What Is DeFi 2.0 and Why Does it Matter?. Binance Academy.
  3. What is DeFi 2.0?. Taikai Network.
  4. Ahmadi, A. (2022, Jan.). The Investor’s Guide to DeFi 2.0. Blockworks.
  5. Chung, J. (2021, Nov.). DeFi 2.0: An Alternative Solution to Liquidity Mining. CONSENSYS.
  6. (2022, May). What Is DeFi 2.0, How It Improves on DeFi 1.0 — and How to Invest in It. Bybit.

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