Modular DeFi is changing how financial systems are built on the blockchain from the ground up. Unlike monolithic protocols that do everything in one place, modular designs separate key parts like execution, settlement, and governance to make them easier to scale, upgrade, and manage. As demand grows for high-performance, composable infrastructure, protocols evolve to specialize in specific roles, creating a more dynamic and adaptable ecosystem.

This article by SwapSpace CEO Andrew Wind breaks down how modular DeFi is changing decentralized finance.

DeFi’s architecture can be divided into three phases: the monolithic era, the DeFi boom, and the modular shift. Each reflects the maturing demands of performance, flexibility, and composability in on-chain finance.

This era was defined by vertically integrated smart contracts. Protocols bundled execution, liquidity, governance, and business logic into a single architecture. These designs were simple and easy to understand but difficult to modify, scale, or extend.

Examples: Compound (2018) integrated lending, interest rate models, and governance into a single suite of contracts. Adjustments required protocol-wide upgrades. MakerDAO (2019) combined CDP management, risk logic, stablecoin issuance, and MKR-based governance into one monolithic stack.

Monolithic designs enabled the first wave of DeFi innovation but lacked modularity and upgradability as usage increased.

DeFi exploded in usage during this phase, with TVL surging past $180B by late 2021. As congestion and complexity grew, protocols began experimenting with modular ideas, even though most remained fundamentally monolithic.

Examples! Yearn Finance (2020) introduced vaults and strategy plug-ins, allowing new yield-generating logic without rewriting core contracts. SushiSwap’s Bentobox (2021) separated protocol logic into extensible components, laying the groundwork for reusable infrastructure.

These early modular patterns showed the limitations of tightly coupled systems and hinted at a better way forward.

After 2021, DeFi entered a new phase focused on decoupling execution, data availability, and settlement. Modular designs enable flexibility, scalability, and composability across chains and layers.

Examples! dYdX v4 (2023) launched on Cosmos as an app-specific chain, separating execution and governance from the constraints of general-purpose L1s. Celestia (2022) introduced a modular data availability layer, allowing rollups to plug in without relying on Ethereum for consensus or DA.

Modular DeFi now represents the emerging design for next-gen financial systems.

Modular DeFi breaks away from the “all-in-one” design by unbundling the core layers of a financial system (execution, settlement, consensus, and data availability) into specialized, interchangeable components. This shift enables scalability, flexibility, and permissionless innovation. Some core principles driving this modular transformation include:

Each layer in a modular stack performs one distinct function, allowing developers to optimize individual components. For instance, Optimism’s OP Stack separates the sequencer, execution engine, and governance, enabling new chains (e.g., Base by Coinbase) to launch modular L2s quickly.

Instead of relying on a single protocol stack, developers can compose multiple best-in-class modules. Thus, a rollup built with the OP Stack can use EigenDA for data availability, Ethereum for settlement, and custom execution environments like the Bedrock engine. This promotes rapid iteration and ecosystem interoperability.

Modular architectures allow applications to control their own governance and upgrade logic, instead of being constrained by host chains. For example, dYdX v4 on Cosmos has full control over validator sets, gas mechanics, and protocol upgrades, enabling performance optimizations previously impossible on StarkEx.

By adhering to these principles, modular DeFi enables a more robust, scalable, and innovation-friendly environment, marking a departure from the limitations of monolithic finance.

A new generation of development infrastructure is accelerating the shift to modular DeFi by making it easier than ever to build custom, composable financial systems. This tooling ecosystem spans everything from rollup frameworks to data availability services and application-specific SDKs.

1. Rollup SDKs and frameworks
   Open-source rollup frameworks have dramatically lowered the barrier to launching Layer 2 and Layer 3 networks. The OP Stack, created by Optimism, allows developers to spin up their own rollups using a modular architecture. It’s already been adopted by major players like Base (launched by Coinbase) and Zora Network, helping secure billions in TVL. Similarly, Polygon’s Chain Development Kit (CDK) enables the deployment of zero-knowledge rollups that can plug into various data availability layers like Celestia or Avail. Rollkit, built by Celestia Labs, offers a customizable rollup framework where execution logic is separated from consensus and DA — ideal for sovereign rollups.

2. Data availability services

Together, these tools enable a new generation of modular DeFi applications to launch faster, scale better, and innovate more freely.

While modular DeFi offers clear advantages in scalability and flexibility, it introduces new complexities and trade-offs that developers and users must navigate. Decoupling system components adds freedom but also coordination overhead and security risks.

1. Increased complexity
   Modular architectures demand that developers make design choices at every layer — execution, data availability, settlement, and interoperability. This fragmentation can slow development, increase attack surfaces, and make debugging harder. For example, a rollup that uses Celestia for DA, Ethereum for settlement, and a custom VM for execution must ensure all three systems interoperate securely.

2. Latency and trust assumptions
   Breaking apart the stack introduces latency between layers and new trust assumptions. Rollups relying on external DA providers or off-chain sequencers must deal with issues of data liveness and censorship resistance. For instance, EigenDA uses delegated validators to store rollup data, which can improve throughput but introduces quasi-trusted roles that must be monitored and incentivized.

3. Fragmentation and liquidity silos
   As modular chains expand, they risk recreating the same siloed environment DeFi was meant to escape. App-specific chains or rollups may split liquidity and user experience across fragmented environments. While interoperability layers like IBC (used in Cosmos) and shared sequencers are emerging to mitigate this, seamless composability across modular ecosystems remains an ongoing challenge.

Modular DeFi looks promising but requires balancing innovation with careful infrastructure design and robust coordination across decentralized layers.

Modular DeFi is still in its early stages, but its long-term potential is transformative. As developer tooling matures and infrastructure layers standardize, we’re likely to see a surge in highly customized, performant DeFi applications.

One major opportunity lies in app-specific rollups — chains optimized for a single use case, like lending, trading, or derivatives. Projects like dYdX v4 and Canto are already pioneering this model. Shared sequencing, modular MEV markets, and programmable data availability are also on the horizon, enabling new design spaces for trustless coordination and composability.

Institutions and enterprises may benefit from modular stacks by deploying permissioned appchains with customizable compliance and governance layers. Meanwhile, developers can build lean, upgradeable protocols without the overhead of running full L1s. As fragmentation gives way to interoperability, modular DeFi could unlock a new era of scalable, resilient, and globally accessible financial infrastructure.

Modular DeFi represents how we design and scale financial systems. It empowers developers to build faster, more flexible, and more resilient protocols by unbundling core layers like execution, consensus, data availability, and settlement. While challenges around complexity, fragmentation, and coordination persist, the benefits of modularity are already proving transformative. As tooling improves and interoperability deepens, modular architecture will likely become the foundation of next-generation DeFi. What began as an experiment in unbundling is now shaping up to be the blueprint for a scalable, composable, and open financial future.