# The DeFi Ecosystem and Application Stack

By [CryptoNotes](https://paragraph.com/@cryptonotes-3) · 2022-05-31

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**The DeFi stack layers**

![](https://storage.googleapis.com/papyrus_images/fbfb94c761e766906168d4cb7fbebc10186be8542ae3f51effe154ad28165bdb.png)

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](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.

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*Originally published on [CryptoNotes](https://paragraph.com/@cryptonotes-3/the-defi-ecosystem-and-application-stack)*