The continued rise of decentralized finance (DeFi) is fueling debate about the future of banking, with questions being asked about how DeFi will disrupt traditional finance. Offering a variety of transactions without the constraints of daily transactions, automated control of financial assets, and transaction transparency, DeFi has the power of blockchain and FinTech to change the expectations of traditional banks.
Will DeFi eventually replace traditional banking? Or are there widespread risks and financial limitations that make this impossible? This article explains how DeFi changes banking through financial technologies such as blockchain, smart contracts, NFTs, and peer-to-peer networks. We also assess the differences between decentralized finance and traditional banking.
What is DeFi (Decentralized Finance)?
Decentralized Finance (DeFi) is a financial environment built on blockchain technology and cryptocurrencies to eliminate intermediaries like banks and enable direct peer-to-peer transactions between people and businesses.
While some claim that the origins of DeFi go back to the birth of the cryptocurrency Bitcoin, which was launched in 2009, the real change began with the emergence of Ethereum in 2015. These decentralized financial networks built on blockchain technology create an efficient financial environment not controlled by a single authority.
Whether it is DeFi in cryptocurrency, banking, Binance, or any other financial system, the definition of DeFi is the same. Unlike traditional currencies, DeFi banking and cryptocurrency provide financial freedom by eliminating intermediaries.
Traditional Finance vs Decentralized Finance
The differences between DeFi and traditional finance are summarized in the table below. Central institutions like banks and governments manage transactions in conventional financial systems, which can mean high costs and strict regulations. However, decentralized finance (DeFi) operates on the blockchain without intermediaries like governments or banks to ensure transparency, low registration barriers, low costs, and fast transactions.
Future of Banking: Will Decentralized Finance Replace Traditional Banks?
The future of banking with decentralized technologies or traditional finance remains a topic of debate, with the balance increasingly tilting towards the DeFi ecosystem. Many international brands have expressed their opinions on how DeFi disrupts the traditional economy with financial technologies such as blockchain, smart contracts, tokenization, non-fungible tokens (NFTs), and peer-to-peer networks.
According to Deloitte, blockchain development is gradually changing the capital market industry with the help of artificial intelligence and automation. Forbes also suggests that banks should be ready to incorporate generative AI into their algorithmic trading to keep up with DeFi. Furthermore, PWC is firmly convinced in its various communities that traditional banks may disappear from the global economy between 2025 and 2030. The rise of cyber threats to accounting firms further demonstrates this trend.
However, business leaders like Sheikha K. Al-Bahar of the National Bank of Kuwait explain how banks are still making big profits despite the threat of liquidation from DeFi and advanced FinTech. DeFi and traditional finance compare a highly regulated system to a token-centric and decentralized system with fewer rules. Banks must find a way to maintain their core advantages of popular, trusted, and branded reputation while gradually adopting trends in AI and digital computing to provide more than just basic financial services. This change may reduce the token’s visibility but will allow more flexible services to compete with the DeFi platform.
How Is DeFi Disrupting Traditional Finance Today?
While discussing the future changes in banking and the role of DeFi, let’s find out how decentralized finance disrupts the traditional financial system.
1. Elimination of Intermediaries
Removing intermediaries like banks and brokers during transactions exemplifies how DeFi disrupts traditional finance. Removing intermediaries or blocks increases the speed of transactions for each user. Using DeFi in crypto or banking, peer-to-peer financial services like lending and borrowing are possible without verification or waiting for institutional approval. This disruption of traditional banking processes increases efficiency and reduces transaction costs because financial transactions are decentralized. DeFi users have more control over their finances than conventional banks.
2. Global Accessibility Through Blockchain Technology
DeFi breaks the dependence on traditional finance by providing financial services to somebody with an internet connection. Unlike conventional banking methods, decentralized finance is not limited by business hours, geographic location, or strict accounting rules that exclude certain people. DeFi offers global financial integration with low barriers to entry. For example, to transact on DeFi platforms, you only need a digital money wallet and an internet connection. This opens up the possibility of trading, saving, or lending in remote areas without the involvement of banks. Trust Wallet and MetaMask are examples of digital wallets you can create. At the same time, you need digital assets like Ethereum (ETH) or statistical coins like USDC to transact without being limited to one sector.
3. Transparency
Trust is built on the user’s interaction with the financial service provider for banks or brokers. Therefore, hidden fees or lack of accountability from the central authority can undermine this trust. DeFi platforms’ details of each transaction are guaranteed to be transparent because they happen on public blockchains. Every peer-to-peer transaction is publicly recorded and accessible to everyone, while your identity is hidden. This makes transactions easy to verify with decentralized finance. We also have smart contracts in DeFi that automatically finalize transactions. This level of transparency explains how DeFi is disrupting traditional finance.
4. Innovation in Financial Services
DeFi looks set to continue disrupting traditional finance, thanks to the constant introduction of FinTech innovations that cannot be replicated. Decentralized finance allows users to create and earn passive income or discover new investment opportunities. DeFi applications such as farming, manufacturing, and tokenization play a major role in shaping the future of banking in decentralized technology. Meanwhile, banks are struggling to keep up as they are held back by regulations limiting asset management and creation.
Challenges of DeFi as the Future of Banking
While the benefits of DeFi disrupting traditional finance are significant, they bring us to the problems associated with decentralized finance taking over banking. One of the main concerns is the lack of strict regulations, which raises questions about DeFi’s adoption and trustworthiness.
For example, the US Treasury Department has reported that DeFi’s anonymity could facilitate money laundering and other financial crimes. Additionally, blockchain technology requires a unique key, which could mean the entire money is lost without recovery if the keys are forgotten. The deficiency of regulation also raises concerns about the level of risk for new users as decentralized networks continue to expand.
Conclusion
The future of banking is on the cusp of significant change as we explore how DeFi is disrupting traditional finance. While banks may not disappear in the next 5, 10, or even 20 years, they must grow to survive.
For individuals, this article provides insight into how decentralized finance offers greater control and freedom over financial assets. Traditional banking stakeholders must also understand that adapting to the latest fintech technologies is no longer optional but necessary. Banks must be agile enough to explore the new future of DeFi and focus on efficient asset transaction methods.