The DeFi Ecosystem and Application Stack

The DeFi stack layers

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  1. Settlement Layer 

    1. where transactions are ultimately settled

    2. DeFi’s Layer 1 (L1)

    3. the foundation for all activities in a decentralized ecosystem

    4. the underlying blockchain, as well as its native asset (example: Ethereum/Ether)

    5. Store information, value, and ownership securely 

    6. Ensure that status changes (balances, ownership, etc) follow the blockchain’s rules 

    7. Enable trustless execution

  2. Asset Layer 

    1. includes all tokens used in DeFi apps

    2. refers to both the native (L1) & non-native assets

      1. Native tokens • They are the lifeblood of the L1 blockchain, underpinning its basic functions and fueling all apps built on it

      2. Non-native tokens • All other tokens used in specific applications, serving different functions.

    3. Each L1 blockchain has its own rules for token issuance, encapsulated in standards

    4. Example: Ethereum non-native token standards:

      1. ERC20
        • The most widely used standard API for fungible tokens on the Ethereum blockchain.
        • All units of a fungible token are interchangeable and have the same value. 

      2. ERC721
        • The standard for non-fungible tokens (NFT) issued on the Ethereum blockchains.
        • Unlike their fungible counterparts, ERC721 tokens are unique and non-divisible. 

      3. ERC1155
        • A newer standard, supporting fungible, semi-fungible and non-fungible tokens under a single set of rules, aiming to minimize computational overhead and provide a gas-efficient token contract for developers.

      4. list of all Ethereum token standards: https://github.com/PhABC/ethereum-token-standards-list

       

    5. Governance Tokens 

      1. Allowing collective ownership & decision making of DeFi protocols. 

      2. Only governance token holders can submit and vote on protocol governance proposals. 

      3. (in order: UNI, ENS, APE, CAKE, OP)

    6. Liquidity Provider (LP) Tokens 

      1. LP tokens represent shares in liquidity pools, used in decentralized exchanges (and elsewhere).

  3. Protocol Layer 

    1. where most DeFi apps lie

    2. includes the core functionality of dApps

      1. dApps are implemented as smart contracts 

      2. These contracts are typically interacted with by users in a standard Web2 interface. This interface is part of the next layer (Application Layer).

    3. includes smart contracts for things like: • Decentralized exchanges • Lending and borrowing • Derivatives • and much more

  4. Application Layer

    1. front-end layer that provides easy access to DeFi smart contracts. 

    2. Important: Web front-ends are a way to access DeFi apps; they are not the apps themselves!

  5. Aggregation Layer

    1. combine several DeFi protocols for convenience, comparability and crossfunctionality, in a single access

    2. is an extension of the application layer

    3. Examples • Zapper (DeFi portfolio management) • 1inch (decentralized exchange aggregator)

Composability in DeFi

  • Composability in Decentralized Finance is the ability of dApps to interact with each other in a permissionless manner.

  • This is also known as the Money Lego aspect of DeFi.

  • Web2 apps are not composable; DeFi apps are.

  • Money legos allow for innovation & explosive growth

Thoughts

  • Bitcoin Layer 1 does not support smart contracts so it is not suitable for DeFi. Future Layer 2 might add this funcionality.

  • There is still a lot to be done around bridges between Blockchains.