What Is DeFi?
An introduction to decentralised finance, its building blocks, and the risks behind its open access.
Jump to section
What to remember
- DeFi applications run on smart contracts rather than relying entirely on a bank or broker to maintain the rules and records.
- Slippage — the gap between an expected and actual execution price — grows when a trade is large relative to a pool's available liquidity.
- DeFi's risks (smart-contract bugs, oracle failures, volatile collateral, phishing) are structurally different from traditional finance's risks, not simply a smaller version of them.
- Open access to a DeFi application doesn't mean it's audited, safe, or suitable for every user — that still needs independent verification.
DeFi in plain language
Decentralised finance, or DeFi, describes financial applications built from blockchain networks and smart contracts. Instead of relying entirely on a bank or broker to maintain the rules and records, users interact with contracts through wallet software.
Common building blocks
- Decentralised exchanges that use liquidity pools or other automated market mechanisms
- Lending protocols that match supplied assets with borrowing demand
- Stablecoins and other tokens used to represent value or rights
- Wallets that let users control their accounts and sign transactions
Liquidity and pricing
Many DeFi markets depend on liquidity: assets available for users to trade or borrow. A trade can move the pool's price, especially when the trade is large compared with available liquidity. Slippage is the difference between an expected execution price and the price actually received.
Check the pool depth before a large trade
A trade that's small relative to a pool's available liquidity executes close to the quoted price. The same trade in a shallow pool can move the price significantly against you — the interface showing a price doesn't guarantee you'll receive it, which is exactly what a slippage tolerance setting exists to manage.
Risks to understand
DeFi risks include smart-contract bugs, oracle failures, volatile collateral, poor liquidity, administrative keys, phishing, and network or bridge failures. Open access does not mean an application is audited, safe, or suitable for every user.
A practical starting point
Learn the underlying blockchain, confirm which network and contract you are using, and understand every permission and fee before signing. Treat projected yields as uncertain outcomes rather than promises, and never risk funds you cannot afford to lose.
What to remember
- DeFi applications run on smart contracts rather than relying entirely on a bank or broker to maintain the rules and records.
- Slippage — the gap between an expected and actual execution price — grows when a trade is large relative to a pool's available liquidity.
- DeFi's risks (smart-contract bugs, oracle failures, volatile collateral, phishing) are structurally different from traditional finance's risks, not simply a smaller version of them.
- Open access to a DeFi application doesn't mean it's audited, safe, or suitable for every user — that still needs independent verification.
Part of these learning paths
Related concepts
Centralized vs. Decentralized Exchanges
Read the comparison
Yield Farming
Read the Yield Farming glossary definition
Staking
Read the Staking glossary definition
Unstaking
Read the Unstaking glossary definition
DeFi Total Value Locked: What It Measures and Its Limits
Read the research article
DeFi
Read the DeFi glossary definition
Liquidity
Read the Liquidity glossary definition
Slippage
Read the Slippage glossary definition
Crypto ROI Calculator
Open the calculator
Stablecoin
Read the Stablecoin glossary definition
What Is Web3?
Read the full guide
Aave vs. Compound
Read the comparison
Uniswap vs. Curve
Read the comparison
DeFi Protocols and the "Identifiable Controlling Entity" Question
Read the full guide