DeFi 2.0 can be the next hot thing in the crypto space, and if you’re not aware of what it is yet, you might miss out on something big.
There were quite a lot of projects that got launched back in the summer of 2020 when gas fees were pretty reasonable, so if you had begun learning about cryptocurrencies by then, you could’ve made a lot of money.
However, people are more inclined to learn new skills in Search Engine Optimization (SEO) and other knacks that can be used in a remote side hustle. Improving skills to earn higher wages is not wrong, but they have probably missed out on something that may have made them an enormous amount of money.
Nevertheless, there is no point in dwelling on it unless there’s a time machine that they can use to go back in time. A second chance is not always available, but now that you’re reading this, it seems like luck is on your side to give you another chance to ride on the new wave in the crypto world and earn good bucks.
We tend to put every single thing into a neat category and have things in black and white to wrap our minds about it easily— this is precisely what is transpiring around Web 1.0, Web 2.0, Web 3.0, and DeFi 2.0. They literally just gather different ideas and collectively call them however they want to, making it easier for them to refer to them.
Before we continue, you must be aware that DeFi 2.0 isn’t a genie that would give you money but also a mere name to categorize a new idea in the world of cryptocurrencies and decentralized finance.
What is Decentralized Finance (DeFi)?
Commonly known as DeFi, decentralized finance has been on a hot streak, standing strong as one of the most successful waves of innovation through blockchain technology. It has built-in smart contract functionality, as well as secure oracle networks. Essentially, DeFi refers to a wide variety of decentralized application that bridges existing traditional financial services, unlocking new financial primitives.
Decentralized finance is fueled by its inherent open-source and inherent development nature. The DeFi protocol has been running at lightning speed over these past few months, and the skyrocketing movement of liquidity centered on DeFi projects has advanced an entirely new wave of DeFi innovation.
Early DeFi pioneers like Aave, MarkerDAO, UniSwap, Bancor, Compound, etc., have established a solid foundation for the evolving DeFi economy. This has led to the emergence of several composable “money LEGOs” into the DeFi ecosystem.
Now, let’s talk about liquidity since it is way more important compared to market capitalization when it comes to cryptocurrencies.
Decentralized Finance (DeFi) and Liquidity
Let’s say you’re buying a television, so you decided to go to a store around your neighborhood that sells television. When you entered the store, you noticed that they only have five television options in their store. This means that they can only sell a maximum number of 5 TVs and only has 5 TV liquids.
If the store owner had 5000 TVs in their shop, he would have more supply with the same amount of demand. On the other hand, if the store owner has only 1 TV left, there is less supply with the same demand. Accordingly, the store owner could charge a lot more for that television.
Liquidity is something that should not be overlooked when it comes to cryptocurrencies. For DeFi 2.0, the liquidity of the decentralized exchanges (DEXes), specifically PancakeSwap and Uniswap, critically matters. These crypto projects utilize an algorithm referred to as Constant-Product Automated Market Maker.
Decentralized exchanges such as the two mentioned only have liquidity if someone gives it to them. Thus, crypto investors can only go to PancakeSwap and purchase Shiba Inu (SHIB) if someone comes along and give PancakeSwap a Shiba Inu (SHIB) for you to trade with.
Those who give PancakeSwap their tokens provide them in a pair, for example, Shiba Inu (SHIB) and USDC. This is to earn even a small fee from traders that are making trades between the two tokens.
Trades take place in PancakeSwap all day long, but the liquidity of the project comes from the liquidity that others provided. If the liquidity is too low, the price will be volatile.
Supposed there are only about $10,000 worth of liquidity, or just $10,000 tokens given for the exchange. A whale investor can come to trade and 10X the price easily since the overall liquidity worth is pretty affordable, but if there are millions of dollars in liquidity, whale investors can’t really influence the price with a small amount of money.
DeFi 1.0
The decentralized finance 1.0 is depicted by a number of cryptocurrency protocols that depend on other cryptocurrency users furnishing their tokens as liquidity for other people to trade with. Although such a mechanism works just fine for a good period of time, it also has its fair share of shortcomings.
In DeFi 1.0, if a crypto holder sells a large amount of liquidity of the liquidity pool, the tokens’ overall liquidity will be greatly affected, making the prices so volatile that whale investors can easily influence them significantly.
Furthermore, users who deliver their tokens can have an increased risk of losing money even without an even portion of the upside. This is referred to as impermanent loss.
The main idea of DeFi 2.0 is to solve liquidity problems by having decentralized exchanges possess their liquidity. Instead of taking on a huge risk by having anyone provide liquidity, having the protocol provide liquidity for itself or at least buy them back from users is more feasible.
Liquidity Mining
The previous decentralized finance system— DeFi 1.0— was to incentivize investors to give their tokens to DEXes like PancakeSwap or UniSwap. Someone would give this DEXes money to let them earn even small percentages on trades automatically. These incentives are called liquidity mining or farming rewards.
The purpose of liquidity mining is to allow traders to have more money to trade with. This influences the price to lower and not as volatile as others.
The money that is used to incentivize users comes from tokens that users are supplying. Other people would earn these tokens and eventually sell them, making the prices of the tokens drop. Once the extra rewards ran out, no investor would probably stick around since they won’t be earning money anymore.
Users will be discouraged from participating in the DeFi ecosystem without enough liquidity level because of the induced swaps. And without users joining token transactions, there won’t be sufficient fee volume produced to incentivize third-party users to motivate them to pool their tokens and provide liquidity.
Hence, although liquidity farming is highly effective, it does not completely solve the liquidity problem itself because of the limitation it possesses. Farming surely stands out at bootstrapping liquidity but doing so must be undertaken with a long-term plan in mind to secure sustainable, lasting liquidity.
The solution to this liquidity problem is a protocol to have its own liquidity, rather than having people in charge of the liquidity. This kind of protocol is what OlympusDAO is seeking to accomplish.
OlympusDAO and Liquidity
By means of the idea of the bonding model, Olympus flips the script for liquidity farming. More than just renting liquidity through farming to expand supply, Olympus utilizes bonds to trade-off LP tokens from third parties for a protocol’s native currency at a discount.
The idea that Olympus comes up with furnishes an advantage to the very protocol and to any project that will make use of the protocol. With the help of bonds, the protocols can purchase their own liquidity by unfastening the potential for liquidity exits. This assists in establishing a long-lasting pool that can make a decent amount of revenue for the protocol.