Why do institutions need to incorporate DeFi into their financial products?

Despite the collapse of the cryptocurrency market at the end of May 2022, DeFi services continue to be in demand among users in the long run. Financial institutions and banks need to prepare for the growing request for DeFi services and should consider gradually implementing DApps into their products. And there are several reasons why. 

Decentralised finance is an ecosystem of traditional financial services on the blockchain. This is defined by its open, permissionless and trustless access: anyone with a crypto wallet and an Internet connection can access DeFi services, such as exchanges, lending protocols, deposits, insurance etc. without relying on trusting another person. But who is interested in DeFi services? 

What is the DeFi consumer market? 

DeFi is available to anyone with an Internet connection, which currently has 4.6 billion users worldwide, thus could potentially solve the problem of financial inclusion. According to the World Bank, more than 1.7 billion people worldwide do not have access to banking services, of which 1 billion have mobile phones. Therefore, thanks to decentralised technologies, these people could have the opportunity to get access to lending, deposits and insurance services through the online network. 

However, in addition to Internet users, potential customers of DApps are also the users of financial apps. According to the American investment company Grayscale, as the DeFi ecosystem becomes mature, more and more financial applications are switching to crypto protocols, and this is the most important user base that DeFi can attract. 

The demand for DeFi is growing 

Even though the situation in the crypto market is unfavourable in the short term due to events like the collapse of the Terra ecosystem’s stablecoin and its native crypto LUNA,  crypto assets have shown their ability to recover in the long term perspective. And this is also true of the DeFi market. 

According to a recent report by Andreessen Horowitz, the value of the DeFi market has grown from nearly zero to over $100 billion in less than two years. And currently, the capitalisation of the DeFi market reaches $112 billion. 

The recent statement by S&P Global Ratings about creating the Decentralised Finance Group as a response to increased demand among investors also reveals the prospects of DeFi. The company said: “S&P Global Ratings recognises that decentralised finance is increasingly transforming the capital markets, including an expansion in the spectrum of market participants, the creation of new asset classes, and the development of new capabilities in the execution of financial transactions”. 

Therefore, if financial companies do not think about their presence in the world of decentralised applications, such inaction threatens the loss of customers. Why did banks and financial institutions start buying digital assets in 2020 and 2021? Because both the company’s customers and its shareholders have seen a high demand for cryptocurrencies and the profits it brings. 

As we can see, people are the primary driver of DeFi adoption. People will want to get rid of their debts and make more money, and this creates a demand for investment in cryptocurrencies and the usage of DApps. That’s why companies need to consider incorporating DeFi into their financial products today because they already have a ready pool of customers ready and willing to use new services. 

On consumer behaviour 

At the moment, banks do not need to develop DeFi protocols – they just need to provide access to this ecosystem to allow users to utilise exchanges and save their money. For instance, customers want to make a deposit through the DeFi protocol so that people can borrow their money and, in return, receive the interest on their deposited funds. 

But many people don’t know how to access these platforms and services. After all, when a sales manager in a store thinks about money, they first of all think about a bank or some neobank apps. They would ask why they do not have the option to put money into the DeFi protocol and receive a conditional 15% per annum in a dollar instead of 0.5%, which the traditional bank provides. And 14.5% is a significant difference, so customers will want to access such financial products.  

People want to use these technologically advanced services through the already known reputable banks because it provides a sense of security; customers tend to trust longstanding, household name brands, as they’ve been on the scene for many years. Often times, customers will want to get loans easier and faster than banks can, and many don’t want to deal with providing proof of income and navigating other bureaucracy. Therefore, companies need to offer alternative financial products and determine for themselves in what way their centralised services are better than decentralised ones. 

The advantage of banks is that they can lend money to a customer just by relying on the person’s name, this has been seen most recently with banks lending billions to Elon Musk. But for the majority of people this still requires a variety of documents from the client, such as a contract with an employer, a credit history, etc. The advantage of decentralised finance is that the only thing that customers need is to put any digital collateral that has a value to take a loan. And centralised companies should evaluate these benefits, where they can earn more, where less, and how they can invest their profit in such hybrid services. 

A recent successful example of DeFi being adopted by the licensed financial institution is JPMorgan Chase & Co’s case of using blockchain for collateral settlements in the trading of traditional financial assets. In the fintech sphere, this has been seen with Wirex and their DeFi product, X-accounts , which has been used by more than 100,000 users in the first six months of launch. It can also be seen with the NEXO crypto card and their crypto lending services. In fact, all these fintech services seem to customers as familiar as online banking, but under the hood, all these operations are carried out in the DeFi ecosystem.  

Back in 2021, analysts at S&P Global Ratings stressed that ignoring the trend of DeFi could lead to a wake-up call for financial companies in the future. Also, in their opinion, financial services customers can see the benefits of blockchain solutions and redirect some of their funds to DeFi products. Banks need to consider the benefits of using smart contracts to complement existing products and services to increase efficiency, as well as using new sources of revenue  to engage their customer base more deeply. That’s why it is necessary for financial companies to consider providing clients with access to the DeFi ecosystem if they want to be able to expand their services and meet the growing demand among customers in DApps. This can be the next big move for the mass adoption of blockchain. 

To be clear, not each financial institution needs DeFi products, but those who want to stay in the market and have a large enough user base to have a loud voice from customers will need to implement decentralised financial services to their products in order to keep up with the constantly evolving economic system.