Decentralized Finance (DeFi) is the new era of cryptocurrency. Since the colossal market drop in 2018 the number of active users has thinned and thinned. It’s no surprise that the number of users correlates closely with the levels of hype and positive price action.
However, the people that have stuck around are the true believers. Most of them aren’t in this space purely for profit – they see a new world developing before their eyes. For many, a big part of that new world is decentralized finance (DeFi). DeFi is a new type of monetary system that can exist with no middlemen.
It is a combination of decentralized applications that work together to provide financial services with a completely different approach to traditional finance. Instead of large corporations being the sole profiteers, the DeFi systems are run by the people, for the people. Changes are voted on. Profits are proportionally distributed between contributors. There is no discrimination – financial services are accessible to all when they are decentralized.
Because of these merits, DeFi is making waves in cryptocurrency at the moment. There is a strong belief that DeFi is going to be the catalyst that propels cryptocurrency into the forefront and causes an influx of new users. Of course, as with anything new there are growing pains and issues – DeFi is no exception. There are quite a few iconic examples to study.
Essentially, the set up of a DeFi system is astoundingly important because there is no centralized control. If someone can find an exploit in the code or just how the system runs, they are able to exploit that and profit, which in turn can make other users of the service lose money.
One recent example is the bZx price oracle exploit.
What happened with bZx?
bZx is a decentralized finance protocol ecosystem which has a number of use cases, such as saving, staking, storage, exchanging, leverage trading, lending and more.
Back in February a malicious user exploited the offerings of the bZx ecosystem to their own gain, which has now left a large outstanding loan, the resolution of which is yet to be concluded.
Here’s what happened: the user opened a massive (10,000 ETH) ‘flash’ loan. A portion of this loan was used to open a large 5x leverage short position on ETHBTC and the remaining loan was used to manipulate the on-chain price oracle by selling a large amount of crypto into an illiquid market, which significantly moved the price in favour of the leverage position and enabled the attacker to generate a large profit – a total of 1193 ETH.
The weakness here is the on-chain price oracle system, which was too open to manipulation. One user was able to exploit the system and manipulate one market to generate a huge gain on a leverage position.
The solution – decentralized data feeds
In response to this exploit the bZx team swiftly implemented Chainlink’s decentralized oracle networks as the basis for their price oracles. This significantly increases the network reliability because instead of drawing a price from one place, the oracle solution draws prices from more than 7 independent data aggregators for each critical price feed. This will therefore prevent a manipulation case like the one before because the price oracle isn’t based on just one illiquid market.
Importance of decentralised data feeds
By relying on more than one data source, the manipulation risk is largely mitigated, which provides users with a much more safe and secure experience. Without these data feeds, the overall integrity of decentralized finance is at risk. How many people would be using DeFi if there is a risk that at any time someone could find an exploit and put your money at risk?
For DeFi, having an accurate, non-exploitable data sourcing set up is essential to reflect true market conditions while being totally decentralized. The underlying code can be perfect, but if the data sources are exploitable, the decentralized system can output unsatisfactory results.
Therefore, by leveraging a decentralized data source, such as Chainlink’s oracle solution, DeFi services are able to sustain a higher level of security that is also more accurate than an on-chain solution could be. In reality, this is how all DeFi products should exist by default, since this removes any single points of failure, which is essentially what an on-chain oracle is – and this is exactly what DeFi is meant to eradicate in the first place.
Taking DeFi further
ProDefi is a cryptocurrency project that is designed to bridge centralized and decentralized financial systems to build a deriable hybrid. This enables decentralized finance systems, such as price oracles, to exist and strengthen networks while providing a fail-safe layer through centralised systems and processes.
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