Difference between revisions of "White paper original"

From DeFiChain-Wiki
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=== Timeline ===
 
=== Timeline ===
 
[[File:Roadmap.png|center]]
 
[[File:Roadmap.png|center]]
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== Background/Industry ==
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=== DeFi’s promises and challenges ===
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Decentralized Finance promises to provide a variety of financial instruments without the need for middle(wo)men to ensure that the services are trusted. According to the OECD, financial services typically make up 20–30% of total service market revenue and about 20% of the total gross domestic product in developed economies1. This is an enormous industry dedicated to one thing: making sure that financial transactions are trusted. With the advent of blockchain, trustless systems and smart contracts can be used to replace much of the functionality of this industry, dramatically increasing the return on investment for the individual investor.
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Financial services today are providing an important service, but at a very high cost, and despite many fintech developments, the following underlying issues persist:
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* High transaction costs. Due to regulatory requirements, legacy systems with complex interoperability issues, and control by large institutions, transaction fees are high for the average user of banking and financial services. Services that require a broker are even more expensive, as agents and other types of middlemen are involved.
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* Slow transactions, particularly for international transactions. Although theoretically, it should only take minutes for computers to transact, moving money from one institution to another can take hours within a country, and it can take days between countries.
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* Lack of transparency and unfair advantages to large players. Financial instruments are complex and most people do not have access to the information that would allow them to make optimal decisions. Lack of transparency is one of the major factors that led to the 2008 financial crisis and in the short term, it always leaves smaller investors (the average person) at a disadvantage compared to institutional investors.
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* Inaccessibility and/or higher cost to lower-income people. Financial services are simply not available in many geographies, and when they are, lower-income people are hit with even higher fees (percentage-wise) than average.
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* Despite legislation to reduce money laundering and related crimes, there is almost no evidence to suggest the current system or AML is, in fact, reducing money laundering.
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Fintech has been attempting to address these problems, with some success. Fintech solutions such as online international transfer services, savings, and investment apps, and mobile money for underserved markets have begun to improve the situation. However, the change is incremental, and is still built on top of a system that fundamentally requires the overhead of agents to provide trust. While some of the costs can be reduced, fundamentally, fintech can’t address the underlying issues of lack of transparency because it is dealing in the same financial instruments and going through the same major institutions as traditional finance.
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[[File:2019-defi.png|center]]
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For this reason, many investors have begun moving parts of their investments into cryptocurrency. Cryptocurrency, by definition has full transparency that traditional systems simply cannot provide. Furthermore, the amount of administration and bureaucracy required is minimal. Most of the activities that were carried out by agents can be written into the code in decentralized financial systems. Of course, there is still some overhead in creating and maintaining the code, as well as maintenance of the networks, but the amount of bureaucracy is minimal, eliminating much of the cost of transacting on these systems.
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Despite the promise of decentralized finance, the technology is still nascent, and there are many opportunities to create a richer and more robust decentralized finance environment. To date, investors in cryptocurrency have extremely limited investment options. Promises of peer-to-peer lending platforms, asset tokenization and other types of blockchains have either failed to deliver, been hacked, or delivered a pared-down version of the original promise.
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Today, almost universally, cryptocurrency investors have only one way to earn money on their capital: rise of the cryptocurrency asset. While in the short term, this may be a good investment, it’s not how currency is designed to work. The investment of capital should provide a return on investment, and cryptocurrency is designed to be like any other form of currency. Investors today want the possibility to lend, invest, and receive returns on their cryptocurrency investments. Well-designed DeFi platforms should allow the development of a variety of safe and secure financial instruments for the investment of cryptocurrency.
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[[File:Be-your-own-bank.png|center]]
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=== The state of DeFi ===
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The current state of Decentralized Finance (DeFi) is populated by general purpose blockchains, most of which provide Turing-complete command sets for the development of smart contracts on the chain. While appropriate for many programming languages, this dogmatic pursuit of Turing-complete smart contracts languages has resulted in a variety of problems when it comes to scalability, security and robustness of the blockchains.
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* The sheer mass of dApps on networks such as Ethereum, EOS and TRON have potential (or proven) impact on other dApps on the network. The most obvious example was when CryptoKitties ground the Ethereum network practically to a halt. While some of the faster-throughput networks say this can’t happen, it will be some time before any other network reaches the critical mass of apps on Ethereum so that we can prove whether this is or isn’t the case.
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* For serious financial type dApps, it’s important to know that the network is being maintained and managed in a responsible and secure manner. Having a blockchain that is swamped with games, gambling and other types of less “mission critical” apps will ultimately influence the development and direction of the blockchains. With governance models that allocate power to masternodes, dev groups, and token-holders, the core development team will ultimately be influenced by the biggest players. Decentralized Finance apps can’t afford the potential consequences of sharing a blockchain with anyone who chooses to use that operating system.
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* Using Turing-complete command sets requires programmers to create complex programs to develop any kind of app. For example, to create a peer-to-peer lending contract on top of MakerDAO, a programmer requires approximately 2000 lines of code. Any bug in that code can cause loss of the funds, or some other consequence. Maintaining such a large code base intrinsically means larger chances for mistakes and a large attack surface for even simple apps.
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The limitations of general-purpose blockchains for DeFi apps has opened up a market opportunity to serve this market. While cryptocurrency momentum has continued to rise, most of the current applications are still on Ethereum. Concerns about the network have already led some of the major projects to consider porting or working with alternative or additional blockchains.
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=== DeFi’s current problems ===
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* Finance dApps require reliability and do not want to be associated with blockchains that host apps such as betting, entertainment or other apps that may tarnish the reputation of a blockchain at any time.
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* Sudden increases in volume of any dApp on a blockchain can potentially impact all the other dApps on that blockchain, either in terms of throughput, transaction price, or additional impacts, as seen with CryptoKitties on Ethereum.
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* General-purpose blockchains require a large amount of coding to provide financial services, increasing the risk of hackability or bugs in the code. Functionalities that are basic requirements for financial services, such as multisig, are often difficult to implement or missing on general-purpose blockchains.
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* Maintenance of a Turing-complete blockchain means that resources are not focusing on the areas valued by DeFi apps.
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* Governance models of most of today’s blockchains are immature and showing signs of politicization, centralization and uncertainty. Without formal governance structures, the future of these blockchains is uncertain. Recent discussions of upgrades and forks in both Ethereum and Bitcoin have revealed the immaturity of these systems, and even the leader in governance, Aragon, showed the vulnerability of its on-chain governance system in the summer 2019 vote, where one large “whale” token-holder changed the outcome of several proposal votes at the last minute. Such vulnerabilities are unacceptable on blockchains dealing with finance.
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* Regulatory standards and regulatory bodies that appropriately address the needs of natively cross-border currencies and financial instruments. Jurisdiction-based regulation, and regulation based on legacy technology is falling short of the needs of the DeFi industry. It is clear that a new legal and regulatory framework is needed to protect the rights of people using these systems.
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* The blockchain industry itself has not shown the maturity to put in place its own standards bodies that will provide best practices or self-regulation in a way that would demonstrate the industry’s reliability for decentralized finance applications. To date, attempts at creating interoperability or self-regulation have been immature and have not resulted in leadership or standards that could be adopted by international bodies or serious regulators. The lack of self-regulation leaves the industry even more vulnerable to regulation from outside, making the environment risky for serious investors.
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=== Consequences in the DeFi Market ===
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* Multisig wallets are the best the industry has to provide when it comes to joint management of funds, and the solutions for multi-sig are, to some degree, kludges. Multisig tends to be leger-specific and not flexible for different scenarios. For example, in traditional finance, multi-signature accounts can assign signatories different levels of authority, or require different signatures for different transaction types and levels. Different chains take different approaches to adding multisig capabilities to their existing blockchains.
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** The BIP 11: M-of-N Standard Transactions is a Bitcoin Improvement Proposal (BIP)designed to add multisig support to Bitcoin blockchain.
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** Ethereum provides a Turing-complete command set for development of multisig on chain, leading to multiple entities providing multisig smart contracts. Bugs such as those in the Parity multisig (discussed below) have resulted in untold sums in lost funds.
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* As a result of the complexity of the code required for multisig, in 2017, more than 150,000 ETH was lost to a hack in the Parity multisig wallet, due to an error in the code2. The referenced article notes ways in which this code bug could have been avoided, but it emphasizes the point that these complexities in coding cause many different attack vectors. An entire industry has sprouted up around smart contract auditing, because the situation is so vulnerable.
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* In the largest industry hack (or bug?!), The DAO was drained of 3.6 million ETH due to a coding error in the smart contract holding all of the funds of The DAO.
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One of the many results is that the high risks get priced in to the underlying contracts leading to excessive costs for users, as can be seen when comparing rates from DeFi and non-DeFi examples. (For example 8% with decentralized DAI to 1.75% with centralized USDC (dated at the beginning of October 2019): <nowiki>https://deficompare.com/</nowiki>) Both coins represent 1 USD but the decentralized version ist 6.25% more expensive due to a priced in risk from the Ethereum contract.
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The points described above are simply unacceptable for any type of financial transaction or investor. For that reason, it’s important to build dedicated services that will prevent such breaches, lower risks and thus cost. In the Blockchain world, having proper programming rules and reducing the attack vectors prevents this kind of attack.
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== Comparing existing DeFi alternatives ==
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=== Bitcoin: Why Not? ===
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Given our optimism on Bitcoin, the first question one might ask is why not develop DeFi using the Bitcoin Blockchain. While Bitcoin allows only basic smart contracts, some projects have begun developing workarounds. However, the transaction costs are restrictive on the Bitcoin chain, and we don’t believe it is going to be appropriate for the speed required for financial transactions. The Bitcoin chain is currently working as designed as a store of value. In our opinion, sticking to that single purpose is the best use of the chain and it is proven over the last decade. Adding financial services into the main chain adds unnecessary complexity and may cause side effects both for DeFi and for Bitcoin that are undesirable. Furthermore, it is not something we think that the Bitcoin governance is prepared to handle, and at some point, if DeFiChain requirements differed from those of the miners or developers on the Bitcoin chain, we would be subject to their decisions.
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=== Turing-complete Solutions: Ethereum, EOS, Tron… ===
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To date, a number of DeFi applications have been built on Ethereum, Tron, EOS and many other turing-complete chains. Since Ethereum has the biggest adoption it allowed the surfacing of issues that come with using a turing-complete blockchain for DeFi applications the fastest. The DAO hack was one of the first and most dramatic exposures of the vulnerability of using such a complex language. Anyone issuing a token on the network knows how difficult it is. Just to create and issue an ERC20 token can easily cost over 100,000 USD, considering the cost of smart contract auditing that is necessary for innovative solutions. Simply the fact that there’s an entire industry built around “smart contract audits” should be enough to illustrate the problem. Despite the fact that ERC20 is the industry standard, it’s still so easy to hack that it’s impossible to issue even a simple token without getting a high-cost professional auditor as well as a programmer.
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On an even more stark note, it’s now possible to scan for exploitable code using automation, and a 2018 study managed to scan a million smart contracts, finding over 34,000 hackable smart contracts<sup>3</sup>. It’s unfathomable that 3.4% of financial transactions would be vulnerable. While this at the moment seems to be a problem mainly centered around Ethereum, we believe most other turing-complete chains will experience the same issues once more use cases get adopted on top of them.
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The second problem stays mostly within Ethereum, which is the network’s usage being already close to maximum capacity. It simply does not seem feasible to use the network for all of the decentralized finance applications. Ethereum’s market cap is a tenth of that of Bitcoin. If the system is already near capacity, it’s hard to see how it can manage the capacity of becoming a true DeFi network for the rest of the ecosystem. Something Vitalik Buterin has acknowledged in an interview: [https://beincrypto.com/ethereum-founders-admit-never-designed-scalability/ https://beincrypto.com/ethereum-founders-admit-never-designed-scalability/.]
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[[File:Graph.png|center]]
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== DeFiChain Solution ==
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=== Staying in the Bitcoin Ecosystem ===
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The cryptocurrency market as a whole is difficult to predict. Most of the coins have become valueless, and it remains to be seen how the system will sustain itself after cash runs out from many of the major ICOs.
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Despite this, our outlook on Bitcoin specifically is extremely optimistic. Over the last year, through market volatility, including instability in traditional financial markets, Bitcoin has retained its value, demonstrated its impermeability to attack and hackers, and gained increasing respect from traditional financial players.
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Bitcoin is increasingly being seen as a store of value, and it is perceived as the standard by which other cryptocurrencies are measured. While people’s portfolios vary widely, Bitcoin remains the standard currency that almost every crypto investor holds as a major part of their holdings. The tremendous community and ecosystem around Bitcoin bode well for its long-term viability as a store of value.
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For that reason, creating decentralized financial services around Bitcoin represents a tremendous opportunity that has yet been untapped, partially because of the difficulty of creating smart contracts that work with the Bitcoin network, and partially because of the fractalization of the development community to many side projects. We believe this tendency of the development community to jump on the newest developments has drawn attention away from the real story: Bitcoin is here to stay.
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Thus, we believe, building a DeFi Blockchain on top of Bitcoin would bring the best out of both worlds: Bitcoin’s stability and immutability and DeFi-chain’s scalability and functionality.
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=== Building on Top of Bitcoin ===
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One of the major challenges in new blockchains is creating the robust immutability available after a critical mass of users and blocks secure the chain. To provide immediate security and immutability of the blockchain, DeFiChain will be anchoring itself to the bitcoin blockchain. Every few minutes, DeFiChain saves its most recent Merkle tree to the Bitcoin blockchain, similar to how Rootstock (Turing Complete Smart contracts secured by Bitcoin https://www.rsk.co/) is planning on connecting to Bitcoin. In this fashion, the most recent chain is always fully secure and immutable, and can be checked against the most recent record anchored to Bitcoin. Over time, DeFiChain will space out the anchors at larger intervals. This anchoring mechanism ensures provably immutable records from day one and defends against attacks, hackers and vulnerabilities that can cause concern in emerging chains.
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At the same time DeFiChain keeps its own consensus mechanism and function set, allowing for all those characteristics that Bitcoin does not inherently have. This is achieved by DeFiChain being a dedicated non-Turing-complete blockchain, designed specifically for the decentralized finance (DeFi) industry built on top of Bitcoin. DeFiChain provides full functionality for this specific segment of the DLT community, sacrificing other types of functionality for simplicity, rapid throughput and security.
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DeFiChain utilizes a completely decentralized Proof-of-Stake mechanism allowing for:
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* a massive scalable and energy conserving consensus.
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* fast transactions and high security
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* ability to create a variety of DeFi apps based on one chain, rapidly and with very low attack surface
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* multi-token support on one chain through decentralized wrapped token technology.
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* decentralized governance
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* independence of other financial systems and financial instruments.
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* fully liquid investments with no minimum size of investments, and no minimum lock-up periods
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Unlike Ethereum or other turing-complete blockchains, DeFiChain is not a general-purpose blockchain, and commands outside the basic set of functions are not allowed. Limiting the allowed commands on purpose provides a dramatically reduced attack surface for smart contracts, eliminating the obvious breaches that are made possible when programmers need to design complex coding for these functions. The details of these will be described in the next section.
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=== Benefits of DeFiChain: Summary ===
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* Development of a variety of financial operations & vehicles for cryptocurrency economy.
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* High throughput for all transactions
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* Safer, more secure blockchain specifically for decentralized finance..
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* Rapid development of dApps for decentralized finance.
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* Peace of mind that the blockchain is not used for any types of non-financial dApps, thus decisions of Foundation and core developers are focused 100% on decentralized financial use-cases and nothing else.
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* Rapid development of dApps with dedicated calls specifically for finance applications.
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* Minimal attack surface of financial smart contracts developed on the platform.
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* Reliable governance (off-chain and on-chain).
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* Highly immutable – by periodic anchoring to Bitcoin blockchain.
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=== Initial dAppSets ===
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* The initial function set includes:
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* Decentralized lending
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* Decentralized wrapping of tokens
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* Decentralized pricing oracles
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* Decentralized exchanges
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* Transferable debts and receivables
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* Decentralized non-collateralized debt
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* Asset tokenization
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* Distribution of dividends
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This chapter provides an overview of each of these functions and the following chapter covers the technical details in how this is achieved.
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=== Decentralized Lending ===
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Decentralized lending allows individuals and groups to borrow and lend without the intervention of a bank. Through collateralized systems, decentralized lending on Ethereum reached over a quarter of a billion dollars in 2018.
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All of these systems are based on Ethereum, meaning they are addressing only 15% of the market based on market capitalization. The DeFi platform will be addressing the entire 100% of the market by leading with Bitcoin, but also including the entire market through wrapping and pooling as described below.
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The major decentralized lending platforms (Compound, Dharma, dYdX, and Maker) provide lending at rates ranging from 0.5% through 6%. Because everything is managed through smart contracts, the overhead of banks is eliminated, and the platforms are able to provide much better rates than banks. As these types of decentralized lending services become safer, it’s likely the market will also see an increase in peer-to-peer lending opportunities through dedicated applications.
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The power of decentralized lending lies in the market efficiencies available by eliminating the middlemen and administration involved in lending. Furthermore, with investors concerned about minimal or even negative interest rates, decentralized lending protects the investors from that potentiality, providing market rate interest while giving borrowers better rates than they can get in the existing financial markets. Given the magnitude of credit and the role it plays in the economy as a whole, decentralized lending offers the potential for many more initiatives to borrow money based on open markets and favorable conditions. Easier access to lending translates into a faster-growing economy.
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Initial implementations of decentralized lending are fully collateralized, and because of the volatility of cryptocurrency, most platforms require double or more collateral on loans. This allows people to take loans based on cryptocurrency they hold. They can manage their cash flow problems without having to sell their crypto holdings, and meanwhile get favorable conditions on the loan.
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=== Decentralized Wrapping of Tokens ===
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An important issue for DeFi is the ability to work with a variety of cryptoassets, directly, on-chain. While the transaction on the chain is done via the native $DFI coin, DeFiChain can use Bitcoin, Ethereum, ERC-20, or any other cryptoasset through wrapping.
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Wrapping allows the utilization of any digital asset such that the underlying asset is maintained, but it can transact on a different blockchain. DeFiChain provides a decentralized wrapping mechanism which allows the owner of the crytpoasset to maintain pegging to the asset and utilize a trustless wrapping mechanism that does not rely on any third party as a guarantor of the wrapping or asset. The wrapped tokens can be easily exchanged for their original value on their respective blockchain.
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Creating a wrapped token on DeFiChain is a rewarded activity, such that there is incentive for cryptocurrency holders to create wrapped tokens on the DeFi network as a form of rewarded decentralized financial investment.
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Wrapping is a key capability of DeFi due to the need for interoperability of different types of cryptocurrencies and assets. To date, there are no interoperability standards between different currencies, and the only way to interoperate between currencies is by using wrapping or collateralization, which has to be provided by a third party. The entire point of decentralization is that people do not need to trust an authority, yet, today that is the main way that investors can interoperate between Bitcoin and Ethereum without converting from one coin to the other. The Polkadot protocol provides a platform for the development of interoperable apps, but not specifically for DeFi. As a new protocol, it is yet to be seen how it will be leveraged.
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Without wrapping, holders would need to convert their cryptoasset to the DeFi currency in order to use the services offered. Obviously, for most investors, that’s unacceptable. The investor has put their money into Bitcoin, or Ethereum, or whatever else, because that is the currency they want to hold. The main purpose of DeFiChain is to enable financial transactions in any type of crypto asset, such that people can use the assets and coins they hold, as currency for investment in other types of financial vehicles.
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The decentralized wrapping function is crucial in allowing people to hold any asset and perform investments in another currency. So, for example, someone holding Bitcoin could make a loan to someone who wants to borrow ETH, or someone who wants to hedge against the cryptocurrency they have could do so using a wrapping function to use some of their assets to purchase options in other types of assets.
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=== Decentralized Pricing Oracles ===
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DeFiChain will include pricing oracles to collect data from outside blockchains. Oracles are used to collect data such as pricing of other cryptoassets4. Oracles are an important way for blockchains to collect accurate information from both other blockchains and from non-crypto markets5.
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Participating as an oracle allows earning of tokens based on the accuracy of the oracles. The built-in oracle function will allow smart contracts to determine the number of oracles, consensus percentage, and the parameters for rewarding oracles for the data they provide.
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Oracles are eventually meant to be decentralized. However, DeFiChain will be launched with a few appointed trusted pricing oracles that periodically submit pricing data from trusted source onto DeFiChain.
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=== Decentralized Exchanges ===
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The decentralized exchange function will allow atomic swap of cryptocurrencies in a peer-to-peer fashion6. The decentralized exchange function matches people for trading directly, without the need to buy and sell currency through an exchange. Using decentralized exchange reduces the risks associated with using exchanges, and ensures that the cryptoasset doesn’t leave the custodianship of the token-holders. It also removes the risk of custodianship from the exchange itself, because the mechanism is peer-to-peer based on an agreed-upon price or on the market price at the time of the exchange.
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While a number of decentralized exchanges are available on the market today7, DeFiChain solution allows integration of atomic swap capabilities in third-party applications by creating a decentralized exchange as a service.
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=== Transferable Debts and Receivables ===
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DeFiChain will offer a set of calls to work with transferable debts and receivables. In the centralized finance world, debts and accounts receivable can only be managed through financial institutions that handle loans. The lack of transparency of these transferable debts was one of the factors leading to the financial crisis of 2008.
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For small and medium enterprises, this can be a particularly powerful tool. For example, Jane’s widget factory supplies widgets to a large car manufacturer, but the car manufacturer pays for those widgets on a basis of invoice +60. Meanwhile, Jane has to pay for the materials to produce the widgets, and, of course, regular salaries to her workers on a monthly or weekly basis. The car manufacturer will pay the invoice, but not in time for Jane to pay all of her expenses. Without Defi, Jane needs to go to the bank and pay whatever interest rates they demand, because she has no alternatives. The transferable receivables function would allow anyone to offer Jane a loan based on the receivables. Since many people would be able to see that the car manufacturer is a low-risk customer, and that they will pay their invoices, anyone who wants can make an offer to Jane for a better rate than the bank, creating a competitive market for debts and receivables based on the real risk and market assessment of that risk. Jane now can get a loan with great rates, and the lenders, likewise get excellent returns on their loans, despite the fact that they are loaning the money for only 30-60 days.
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Blockchain adds transparency to the exchange of debts and loans based on receivables or other types of financial promises. DeFiChain will include the capability for organizations to create smart contracts that allow straightforward investment in such assets, so that peer-to-peer loans can be made without the need for a financial institution to guarantee these types of financial assets.
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=== Decentralized Non-Collateralized Debt ===
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In the future, it will be possible to provide non-collateralized loans based on the reputation and other factors about borrowers. Through different forms of verifiable credentials, and records of an individual’s borrowing and repayment history, non-collateralized systems can be developed. Many of the identity solutions being developed today are looking at anonymous and pseudonymous reputation-reporting systems, based on a Decentralized Identifier (DID) issued by the individual, and Verifiable Credentials (VC) issued by known authorities who are reputable to provide information about the individual’s credit history.
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The appropriate reputation based systems and risk assessment systems will need to be built out. While this will take time, perhaps years, it is foreseeable that this kind of system could supplement or replace today’s credit ratings scores.
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Another potential application of this feature would be the ability to create non-collateralized decentralized stablecoins. The success of DAI and MakerDAO show the desirability of pegged stablecoins, yet the high level of collateralization is a deterrent to creating more such projects. It is feasible that through market mechanisms and staking, decentralized non-collateralized stablecoins can be created.
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=== Asset Tokenization ===
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Asset tokenization is the representation of an asset, such as real estate or company equity, in immutable tokens on the blockchain8. This particular area of decentralized finance has tremendous potential and is one of the most exciting areas of investment for holders of cryptocurrency9.
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While several attempts have been made at asset tokenization in the blockchain space, most of them have pivoted and now provide services not directly related to asset tokenization (LAtoken, Etherparty). Tokeny and Tokenize-IT advertise themselves as tokenization platforms, but as of the writing of this paper, their processes are still fairly manual, and are heavily reliant on specific localities and regulatory requirements for those specific jurisdictions. Other blockchains, such as Tezos, have been mentioned as good platforms for asset tokenization, but, as with other multi-use blockchains, the Turing-complete set of commands will create complex smart contracts that are unnecessary when using DeFiChain.
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DeFiChain will provide a module specifically designed for asset tokenization, and will be particularly easy to use to tokenize assets such as company equity, real estate, and other valued holdings.
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Recently (October 2019), the Lichtenstein Blockchain law created the legal basis upon which any asset can be tokenized and legally bound to tokens or “containers” that represent the right to the asset. The law is precise in its wording, describing how a container issued by a trusted party now can hold the legal rights to the disposal over the asset. Disposal over the asset is distinct from ownership or rights to the asset, or even control as a specific concept. The careful wording of this law is a breakthrough for everyone in the world of asset tokenization, because it will now allow someone to go to a court of law with a token and expect to have legal legitimacy for assets that are tokenized (as long as the authority granting the token is recognized as a trusted authority to do so). It also opens up a space for DeFiChain to apply for this trusted status, such that the Asset Tokenization capability described here can be offered as a decentralized, legal and authorized capability that people can trust, without having to depend on any centralized authority.
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For more information on this law, please see Liechtenstein’s website at <nowiki>https://liechtensteinusa.org/article/liechtensteins-parliament-approves-blockchain-act-unanimously</nowiki>
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Examples of assets people can now tokenize using the blockchain:
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* Securities, such as ETF investing, stocks and shares.
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* Shares in privately held companies.
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* Energy and income generating devices, such as wind turbines, solar farms, satellites.
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* Ownership in food means of production (new forms of cooperative farms where non-farmers could own food supply instead of commodities traded on exchanges)
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* Self-driving cars, vending machines, ATMs, pinball machines, and other types of revenue-generating self-regulating devices.
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* DAOs (Distributed Autonomous Organizations).
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* Small real estate investments (time shares, short-term rental apartments, etc.)
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* Large real estate investments (airports, amusement parks, apartment complexes, business parks)
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=== Distribution of Dividends ===
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Any tokenized asset with return on investment can use the dividends distribution module to create smart contracts that pay out returns on the investment automatically. Using DeFiChain will allow a leap in the functionality of dividends distribution. It will be possible to implement models similar to today, where payouts are performed on a weekly, monthly, or quarterly basis, or models where payouts are on a daily, hourly or even minute-by-minute basis.
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Distribution of dividends would be relevant in any type of tokenized asset, as described above. For example, today, a municipal government might do a bond issue to invest in a wind turbine to supply electricity. The government would take care of everything, and repay that bond according to the schedule. With distribution of dividends, the community could purchase the wind turbine directly, and distribute the dividends to the investors in the wind turbine. Instead of going through the administration required through the centralized authority (government), every citizen who wanted to could invest in that wind turbine, and dividends would be paid according to each person’s contribution to that investment. Eliminating overhead and fair distribution of profits would be major benefits for the community owning the wind turbine. In this case, the wind turbine is a public good, but it could also simply be a private investment.
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Any private investment could be run this way: a pinball machine, self-driving taxi, real estate investment, etc. Automatic distribution of dividends reduces the need for administration and overhead, as well as eliminating uncertainty about payouts and control by a centralized authority.
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The need for joint dividend investing is becoming increasingly relevant with IoT. Devices are able to create tremendous value. A self-driving car will be able to provide taxi services. Vending machines, sensors, satellites, etc., are all potentially revenue-generating devices that people can own together and share in the profit of together, yet until now the legal and financial complexity of doing so has been prohibitive. DeFi can simplify those processes.
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Similarly, distribution of profits for a private company can be implemented. One of the first experiments in this area is a DAO (Distributed Autonomous Organization) called dOrg. dOrg is a collection of programmers (as well as a sales/operations team) who co-own their software house. Distribution of salaries is through a DAO that functions as a multi-sig, such that every 2 weeks, the whole organization submits their payment requests for work contracted, and the team votes to pass one anothers’ salary requests. Inside dOrg, each person holds a “reputation” that represents the percentage of ownership each person has earned (they earn ownership according to the amount of work done since the inception of the company). But what will happen to the profit at the end of the year? Presumably, each individual will have to submit a request for their percentage of the profits, and everyone will have to vote on that, too, because the DAO does not allow for automated distribution of profits. Using DeFiChain, the team could easily implement a quarterly or annual function that would automatically distribute the profits of the company to each person, according to their holdings in the company. This scheme would work even for people who were active in the past, but are no longer active, so they aren’t in the DAO any longer, but they still hold a percentage based on their past contributions. Other contributors might be an investor who puts money into the company, but does not participate.
 +
 +
The examples above seem logical and straightforward, but today are extremely time-consuming and complex. People who want to make an investment together in companies, real estate, or other income-deriving assets type of dividend distribution today is complex and requires a lot of manual calculations. Through the DeFi Distribution of Dividends functionality, it becomes not just simple, but automatic for companies to distribute dividends to equity owners.
 +
 +
== DeFiChain Design ==
 +
 +
=== Design Parameters ===
 +
Looking at the business requirements from the chapter before, DeFiChain needs to meet the following requirements:
 +
 +
# Robust and secure: built on a proven and secure blockchain.
 +
# Fast and scalable.
 +
# Includes decentralized consensus mechanism.
 +
# Provides extensible smart contract support, without a Turing-complete instruction set.
 +
# As immutable as possible (Block anchoring enabled.) .
 +
 +
Each of these design principles is described in detail below.
 +
 +
==== 1. Robust and Secure ====
 +
Bitcoin Core is the most robust and longest running blockchain in the world. It has been operating with no disruptions since the genesis block in January 2009. Furthermore, from a security standpoint, Bitcoin core has proven itself to be most secure blockchain with no security incidents, while securing the crypto asset with the highest valuation in the world, that is, Bitcoin (BTC). As of this writing, Bitcoin Core successfully secures $150 billion worth of crypto assets, or 68% of the crypto asset market capitalization.
 +
 +
The proven security and robustness of the Bitcoin Core made it the blockchain of choice for DeFiChain base for extension. DeFiChain is built based on a fork of Bitcoin Core 0.18, specifically v0.18.1.
 +
 +
DeFiChain will be written in C++, and the plan is to use other languages, such as Rust, in the future.
 +
 +
While DeFiChain is a new blockchain, basing it on a Bitcoin Core fork results in a chain that is easy to integrate with for exchanges and apps that support Bitcoin.
 +
 +
==== 2. Fast and Scalable ====
 +
One of the proven disadvantages of the Bitcoin blockchain has been the slowness of transactions on the chain. Furthermore, scalability has become an issue as the number of blocks on the chain increase.
 +
 +
In order to implement a blockchain with the required speed and scalability, DeFiChain fork of Bitcoin Core will include the following improvements:
 +
 +
* Block time: 30 seconds
 +
* Block size: 16 MB
 +
 +
These improvements provide a transaction rate of over 2,200 transactions per second (tps) while maintaining manageable compute and bandwidth requirements to allow for decentralized operations of DeFiChain.
 +
 +
The following table compares Bitcoin and its forks, as well as Ethereum, to DeFiChain performance:
 +
{| class="wikitable"
 +
|
 +
|Block time (s)
 +
|Block size (MB)
 +
|Tx block space (% of block size)
 +
|Min tx size (B)
 +
|Avg tx size (B)
 +
|Txs in a block (max)
 +
|Txs in a block (avg)
 +
|Max tps
 +
|Average tps
 +
|-
 +
|Bitcoin Core
 +
|600
 +
|1
 +
|98%
 +
|220
 +
|500
 +
|4,561.45
 +
|20,07.04
 +
|7.6
 +
|3.35
 +
|-
 +
|Bitcoin Cash
 +
|600
 +
|10
 +
|98%
 +
|220
 +
|500
 +
|45,614.55
 +
|20,070.40
 +
|76
 +
|33.45
 +
|-
 +
|Bitcoin SV
 +
|600
 +
|32
 +
|98%
 +
|220
 +
|500
 +
|145,966.55
 +
|64,225.28
 +
|243.28
 +
|107.04
 +
|-
 +
|DeFi Chain
 +
|30
 +
|16
 +
|98%
 +
|220
 +
|500
 +
|72,983.27
 +
|32,112.64
 +
|2432.78
 +
|1,070.42
 +
|-
 +
|Block time (s)
 +
|Gas limit
 +
|Tx block space (% of block size)
 +
|Min tx size (gas)
 +
|Avg tx size (gas)
 +
|Txs in a block (max)
 +
|Txs in a block (avg)
 +
|Max tps
 +
|Average tps
 +
|
 +
|-
 +
|Ethereum
 +
|13.5
 +
|10m0
 +
|100%
 +
|21k
 +
|60k
 +
|476.19
 +
|166.67
 +
|35.27
 +
|12.35
 +
|}

Revision as of 20:40, 3 March 2021

White paper

Everything about DeFiChain.

Abstract:

The DeFiChain Foundation is developing DeFiChain, a blockchain specifically dedicated to decentralized financial applications. By focusing on the functionality of the blockchain and dedicating it specifically to decentralized finance, DeFiChain provides unparalleled high transaction throughput, reduced risk of errors, and intelligent feature development specifically for the fulfillment of financial services on the blockchain.

This Document is not a Prospectus

This document does not constitute nor imply a prospectus of any sort. No wording contained herein should be construed as a solicitation for investment. Accordingly, this whitepaper does not pertain in any way to an offering of securities in any jurisdiction worldwide whatsoever. Rather, this whitepaper constitutes a technical description of the functionality of the Cake products and the development and distribution of DeFiChain.

This Document is not a final technical specification

This document does not constitute nor imply a final technical specification of DeFiChain. Information presented on this whitepaper, technical or otherwise, is meant to outline the general idea of DeFiChain, its design and its use-cases and is subject to change with or without notice. For the latest up-to-date technical specification, check out the updates and documentations on the official website https://defichain.com.

Executive summary

The cryptocurrency industry is based on a simple premise: people should be fully in control of their finances. While it seems like a simple and obvious statement, the current systems are far from providing financial services that are truly under the control of the people who use them. The mission of DeFiChain is to give people (and in the future, machines, and devices) seamless access to decentralized financial services.

For that purpose, we are introducing DeFiChain, a dedicated blockchain specifically for decentralized finance (DeFi) www.DeFichain.com.

By dedicating the functionality of a blockchain specifically to decentralized finance, DeFiChain provides high transaction throughput, reduced risk of errors, and intelligent feature development specifically for the fulfillment of Satoshi’s original intent: To create a reliable alternative form of financial services built on top of Bitcoin.

Bitcoin, as described in the original Satoshi whitepaper, is designed as a form of digital cash, as a store and exchange of value. The evolution to Ethereum and smart contracts has allowed for tremendous new functionalities to be built on top of a blockchain, yet this development has come at a cost. The concept of one global operating system for everything has created a system that requires a complex codebase for smart contracts, slow throughput, and difficulty around the governance of the system.

DeFiChain approaches decentralized finance as a specific and critical segment of the blockchain community. DeFi is a dedicated blockchain that is optimized specifically for DeFi applications. DeFiChain is intentionally non-Turing-Complete and does not support any function, other than those needed for Decentralized Finance, resulting in a blockchain that provides higher throughput and better functionality specifically for dApps related to finance. The advantage of a non-Turing complete command set is that there is a much lower potential for coding errors of the type that have plagued Ethereum smart contracts such as with the DAO hack or the locked funds with Parity. While it is important that we have some smart contract languages that are Turing complete, in the area of finance, it is appropriate to restrict the capabilities of the language in favor of a more secure system with greatly-reduced attack vectors.

The Problem

Today, almost all financial services are run by banks. Investments, for example, by definition, is the use of capital to earn more capital. Investors use a bank to put their money into interest or dividend-making instruments in order to grow their wealth. The problems with financial services are increasingly becoming obvious to everyone: compounded costs due to middle(wo)men, slow transactions, delays for cross-border transactions, and inaccessibility to many sectors of the population. A myriad of fintech solutions have been brought in to improve the system, but fundamentally the underlying banking system is still in control, so fintech has brought only limited improvements.

Cryptocurrency and Decentralized Finance (DeFi) offer a way to start with a new system, circumventing the difficulties faced in changing the finance industry. While crypto has attracted billions in investments, decentralized financial services are lagging. When it comes to investment in cryptocurrency, crypto investors can buy and sell, but that’s it. The cryptocurrency itself cannot be invested in the same way fiat currency can be. Initial attempts to create peer-to-peer lending and asset tokenization so far have proven partial and unreliable, so investors have extremely limited options when it comes to an investment of their cryptoassets. The potential is enormous to provide financial services in crypto, the same way they are offered in fiat currency.

The Solution

DeFiChain is designed for investors in the cryptocurrency market who are looking to make their cryptocurrency work just like any other form of capital, such that they can ensure a return on investment in any market. DeFiChain is a dedicated non-Turing-complete blockchain, designed specifically for the decentralized finance (DeFi) industry. DeFi provides full functionality for this specific segment of the DLT community, sacrificing other types of functionality for simplicity, rapid throughput, and security.

The function set includes among others:

  • Decentralized lending
  • Decentralized wrapping of tokens
  • Decentralized Pricing oracles
  • Decentralized exchanges
  • Transferable debts and receivables
  • Decentralized Non-collateralized debt
  • Asset tokenization
  • Distribution of Dividends

Timeline

Roadmap.png

Background/Industry

DeFi’s promises and challenges

Decentralized Finance promises to provide a variety of financial instruments without the need for middle(wo)men to ensure that the services are trusted. According to the OECD, financial services typically make up 20–30% of total service market revenue and about 20% of the total gross domestic product in developed economies1. This is an enormous industry dedicated to one thing: making sure that financial transactions are trusted. With the advent of blockchain, trustless systems and smart contracts can be used to replace much of the functionality of this industry, dramatically increasing the return on investment for the individual investor.

Financial services today are providing an important service, but at a very high cost, and despite many fintech developments, the following underlying issues persist:

  • High transaction costs. Due to regulatory requirements, legacy systems with complex interoperability issues, and control by large institutions, transaction fees are high for the average user of banking and financial services. Services that require a broker are even more expensive, as agents and other types of middlemen are involved.
  • Slow transactions, particularly for international transactions. Although theoretically, it should only take minutes for computers to transact, moving money from one institution to another can take hours within a country, and it can take days between countries.
  • Lack of transparency and unfair advantages to large players. Financial instruments are complex and most people do not have access to the information that would allow them to make optimal decisions. Lack of transparency is one of the major factors that led to the 2008 financial crisis and in the short term, it always leaves smaller investors (the average person) at a disadvantage compared to institutional investors.
  • Inaccessibility and/or higher cost to lower-income people. Financial services are simply not available in many geographies, and when they are, lower-income people are hit with even higher fees (percentage-wise) than average.
  • Despite legislation to reduce money laundering and related crimes, there is almost no evidence to suggest the current system or AML is, in fact, reducing money laundering.

Fintech has been attempting to address these problems, with some success. Fintech solutions such as online international transfer services, savings, and investment apps, and mobile money for underserved markets have begun to improve the situation. However, the change is incremental, and is still built on top of a system that fundamentally requires the overhead of agents to provide trust. While some of the costs can be reduced, fundamentally, fintech can’t address the underlying issues of lack of transparency because it is dealing in the same financial instruments and going through the same major institutions as traditional finance.

2019-defi.png

For this reason, many investors have begun moving parts of their investments into cryptocurrency. Cryptocurrency, by definition has full transparency that traditional systems simply cannot provide. Furthermore, the amount of administration and bureaucracy required is minimal. Most of the activities that were carried out by agents can be written into the code in decentralized financial systems. Of course, there is still some overhead in creating and maintaining the code, as well as maintenance of the networks, but the amount of bureaucracy is minimal, eliminating much of the cost of transacting on these systems.

Despite the promise of decentralized finance, the technology is still nascent, and there are many opportunities to create a richer and more robust decentralized finance environment. To date, investors in cryptocurrency have extremely limited investment options. Promises of peer-to-peer lending platforms, asset tokenization and other types of blockchains have either failed to deliver, been hacked, or delivered a pared-down version of the original promise.

Today, almost universally, cryptocurrency investors have only one way to earn money on their capital: rise of the cryptocurrency asset. While in the short term, this may be a good investment, it’s not how currency is designed to work. The investment of capital should provide a return on investment, and cryptocurrency is designed to be like any other form of currency. Investors today want the possibility to lend, invest, and receive returns on their cryptocurrency investments. Well-designed DeFi platforms should allow the development of a variety of safe and secure financial instruments for the investment of cryptocurrency.

Be-your-own-bank.png

The state of DeFi

The current state of Decentralized Finance (DeFi) is populated by general purpose blockchains, most of which provide Turing-complete command sets for the development of smart contracts on the chain. While appropriate for many programming languages, this dogmatic pursuit of Turing-complete smart contracts languages has resulted in a variety of problems when it comes to scalability, security and robustness of the blockchains.

  • The sheer mass of dApps on networks such as Ethereum, EOS and TRON have potential (or proven) impact on other dApps on the network. The most obvious example was when CryptoKitties ground the Ethereum network practically to a halt. While some of the faster-throughput networks say this can’t happen, it will be some time before any other network reaches the critical mass of apps on Ethereum so that we can prove whether this is or isn’t the case.
  • For serious financial type dApps, it’s important to know that the network is being maintained and managed in a responsible and secure manner. Having a blockchain that is swamped with games, gambling and other types of less “mission critical” apps will ultimately influence the development and direction of the blockchains. With governance models that allocate power to masternodes, dev groups, and token-holders, the core development team will ultimately be influenced by the biggest players. Decentralized Finance apps can’t afford the potential consequences of sharing a blockchain with anyone who chooses to use that operating system.
  • Using Turing-complete command sets requires programmers to create complex programs to develop any kind of app. For example, to create a peer-to-peer lending contract on top of MakerDAO, a programmer requires approximately 2000 lines of code. Any bug in that code can cause loss of the funds, or some other consequence. Maintaining such a large code base intrinsically means larger chances for mistakes and a large attack surface for even simple apps.

The limitations of general-purpose blockchains for DeFi apps has opened up a market opportunity to serve this market. While cryptocurrency momentum has continued to rise, most of the current applications are still on Ethereum. Concerns about the network have already led some of the major projects to consider porting or working with alternative or additional blockchains.

DeFi’s current problems

  • Finance dApps require reliability and do not want to be associated with blockchains that host apps such as betting, entertainment or other apps that may tarnish the reputation of a blockchain at any time.
  • Sudden increases in volume of any dApp on a blockchain can potentially impact all the other dApps on that blockchain, either in terms of throughput, transaction price, or additional impacts, as seen with CryptoKitties on Ethereum.
  • General-purpose blockchains require a large amount of coding to provide financial services, increasing the risk of hackability or bugs in the code. Functionalities that are basic requirements for financial services, such as multisig, are often difficult to implement or missing on general-purpose blockchains.
  • Maintenance of a Turing-complete blockchain means that resources are not focusing on the areas valued by DeFi apps.
  • Governance models of most of today’s blockchains are immature and showing signs of politicization, centralization and uncertainty. Without formal governance structures, the future of these blockchains is uncertain. Recent discussions of upgrades and forks in both Ethereum and Bitcoin have revealed the immaturity of these systems, and even the leader in governance, Aragon, showed the vulnerability of its on-chain governance system in the summer 2019 vote, where one large “whale” token-holder changed the outcome of several proposal votes at the last minute. Such vulnerabilities are unacceptable on blockchains dealing with finance.
  • Regulatory standards and regulatory bodies that appropriately address the needs of natively cross-border currencies and financial instruments. Jurisdiction-based regulation, and regulation based on legacy technology is falling short of the needs of the DeFi industry. It is clear that a new legal and regulatory framework is needed to protect the rights of people using these systems.
  • The blockchain industry itself has not shown the maturity to put in place its own standards bodies that will provide best practices or self-regulation in a way that would demonstrate the industry’s reliability for decentralized finance applications. To date, attempts at creating interoperability or self-regulation have been immature and have not resulted in leadership or standards that could be adopted by international bodies or serious regulators. The lack of self-regulation leaves the industry even more vulnerable to regulation from outside, making the environment risky for serious investors.

Consequences in the DeFi Market

  • Multisig wallets are the best the industry has to provide when it comes to joint management of funds, and the solutions for multi-sig are, to some degree, kludges. Multisig tends to be leger-specific and not flexible for different scenarios. For example, in traditional finance, multi-signature accounts can assign signatories different levels of authority, or require different signatures for different transaction types and levels. Different chains take different approaches to adding multisig capabilities to their existing blockchains.
    • The BIP 11: M-of-N Standard Transactions is a Bitcoin Improvement Proposal (BIP)designed to add multisig support to Bitcoin blockchain.
    • Ethereum provides a Turing-complete command set for development of multisig on chain, leading to multiple entities providing multisig smart contracts. Bugs such as those in the Parity multisig (discussed below) have resulted in untold sums in lost funds.
  • As a result of the complexity of the code required for multisig, in 2017, more than 150,000 ETH was lost to a hack in the Parity multisig wallet, due to an error in the code2. The referenced article notes ways in which this code bug could have been avoided, but it emphasizes the point that these complexities in coding cause many different attack vectors. An entire industry has sprouted up around smart contract auditing, because the situation is so vulnerable.
  • In the largest industry hack (or bug?!), The DAO was drained of 3.6 million ETH due to a coding error in the smart contract holding all of the funds of The DAO.

One of the many results is that the high risks get priced in to the underlying contracts leading to excessive costs for users, as can be seen when comparing rates from DeFi and non-DeFi examples. (For example 8% with decentralized DAI to 1.75% with centralized USDC (dated at the beginning of October 2019): https://deficompare.com/) Both coins represent 1 USD but the decentralized version ist 6.25% more expensive due to a priced in risk from the Ethereum contract.

The points described above are simply unacceptable for any type of financial transaction or investor. For that reason, it’s important to build dedicated services that will prevent such breaches, lower risks and thus cost. In the Blockchain world, having proper programming rules and reducing the attack vectors prevents this kind of attack.

Comparing existing DeFi alternatives

Bitcoin: Why Not?

Given our optimism on Bitcoin, the first question one might ask is why not develop DeFi using the Bitcoin Blockchain. While Bitcoin allows only basic smart contracts, some projects have begun developing workarounds. However, the transaction costs are restrictive on the Bitcoin chain, and we don’t believe it is going to be appropriate for the speed required for financial transactions. The Bitcoin chain is currently working as designed as a store of value. In our opinion, sticking to that single purpose is the best use of the chain and it is proven over the last decade. Adding financial services into the main chain adds unnecessary complexity and may cause side effects both for DeFi and for Bitcoin that are undesirable. Furthermore, it is not something we think that the Bitcoin governance is prepared to handle, and at some point, if DeFiChain requirements differed from those of the miners or developers on the Bitcoin chain, we would be subject to their decisions.

Turing-complete Solutions: Ethereum, EOS, Tron…

To date, a number of DeFi applications have been built on Ethereum, Tron, EOS and many other turing-complete chains. Since Ethereum has the biggest adoption it allowed the surfacing of issues that come with using a turing-complete blockchain for DeFi applications the fastest. The DAO hack was one of the first and most dramatic exposures of the vulnerability of using such a complex language. Anyone issuing a token on the network knows how difficult it is. Just to create and issue an ERC20 token can easily cost over 100,000 USD, considering the cost of smart contract auditing that is necessary for innovative solutions. Simply the fact that there’s an entire industry built around “smart contract audits” should be enough to illustrate the problem. Despite the fact that ERC20 is the industry standard, it’s still so easy to hack that it’s impossible to issue even a simple token without getting a high-cost professional auditor as well as a programmer.

On an even more stark note, it’s now possible to scan for exploitable code using automation, and a 2018 study managed to scan a million smart contracts, finding over 34,000 hackable smart contracts3. It’s unfathomable that 3.4% of financial transactions would be vulnerable. While this at the moment seems to be a problem mainly centered around Ethereum, we believe most other turing-complete chains will experience the same issues once more use cases get adopted on top of them.

The second problem stays mostly within Ethereum, which is the network’s usage being already close to maximum capacity. It simply does not seem feasible to use the network for all of the decentralized finance applications. Ethereum’s market cap is a tenth of that of Bitcoin. If the system is already near capacity, it’s hard to see how it can manage the capacity of becoming a true DeFi network for the rest of the ecosystem. Something Vitalik Buterin has acknowledged in an interview: https://beincrypto.com/ethereum-founders-admit-never-designed-scalability/.

Graph.png

DeFiChain Solution

Staying in the Bitcoin Ecosystem

The cryptocurrency market as a whole is difficult to predict. Most of the coins have become valueless, and it remains to be seen how the system will sustain itself after cash runs out from many of the major ICOs.

Despite this, our outlook on Bitcoin specifically is extremely optimistic. Over the last year, through market volatility, including instability in traditional financial markets, Bitcoin has retained its value, demonstrated its impermeability to attack and hackers, and gained increasing respect from traditional financial players.

Bitcoin is increasingly being seen as a store of value, and it is perceived as the standard by which other cryptocurrencies are measured. While people’s portfolios vary widely, Bitcoin remains the standard currency that almost every crypto investor holds as a major part of their holdings. The tremendous community and ecosystem around Bitcoin bode well for its long-term viability as a store of value.

For that reason, creating decentralized financial services around Bitcoin represents a tremendous opportunity that has yet been untapped, partially because of the difficulty of creating smart contracts that work with the Bitcoin network, and partially because of the fractalization of the development community to many side projects. We believe this tendency of the development community to jump on the newest developments has drawn attention away from the real story: Bitcoin is here to stay.

Thus, we believe, building a DeFi Blockchain on top of Bitcoin would bring the best out of both worlds: Bitcoin’s stability and immutability and DeFi-chain’s scalability and functionality.

Building on Top of Bitcoin

One of the major challenges in new blockchains is creating the robust immutability available after a critical mass of users and blocks secure the chain. To provide immediate security and immutability of the blockchain, DeFiChain will be anchoring itself to the bitcoin blockchain. Every few minutes, DeFiChain saves its most recent Merkle tree to the Bitcoin blockchain, similar to how Rootstock (Turing Complete Smart contracts secured by Bitcoin https://www.rsk.co/) is planning on connecting to Bitcoin. In this fashion, the most recent chain is always fully secure and immutable, and can be checked against the most recent record anchored to Bitcoin. Over time, DeFiChain will space out the anchors at larger intervals. This anchoring mechanism ensures provably immutable records from day one and defends against attacks, hackers and vulnerabilities that can cause concern in emerging chains.

At the same time DeFiChain keeps its own consensus mechanism and function set, allowing for all those characteristics that Bitcoin does not inherently have. This is achieved by DeFiChain being a dedicated non-Turing-complete blockchain, designed specifically for the decentralized finance (DeFi) industry built on top of Bitcoin. DeFiChain provides full functionality for this specific segment of the DLT community, sacrificing other types of functionality for simplicity, rapid throughput and security.

DeFiChain utilizes a completely decentralized Proof-of-Stake mechanism allowing for:

  • a massive scalable and energy conserving consensus.
  • fast transactions and high security
  • ability to create a variety of DeFi apps based on one chain, rapidly and with very low attack surface
  • multi-token support on one chain through decentralized wrapped token technology.
  • decentralized governance
  • independence of other financial systems and financial instruments.
  • fully liquid investments with no minimum size of investments, and no minimum lock-up periods

Unlike Ethereum or other turing-complete blockchains, DeFiChain is not a general-purpose blockchain, and commands outside the basic set of functions are not allowed. Limiting the allowed commands on purpose provides a dramatically reduced attack surface for smart contracts, eliminating the obvious breaches that are made possible when programmers need to design complex coding for these functions. The details of these will be described in the next section.

Benefits of DeFiChain: Summary

  • Development of a variety of financial operations & vehicles for cryptocurrency economy.
  • High throughput for all transactions
  • Safer, more secure blockchain specifically for decentralized finance..
  • Rapid development of dApps for decentralized finance.
  • Peace of mind that the blockchain is not used for any types of non-financial dApps, thus decisions of Foundation and core developers are focused 100% on decentralized financial use-cases and nothing else.
  • Rapid development of dApps with dedicated calls specifically for finance applications.
  • Minimal attack surface of financial smart contracts developed on the platform.
  • Reliable governance (off-chain and on-chain).
  • Highly immutable – by periodic anchoring to Bitcoin blockchain.

Initial dAppSets

  • The initial function set includes:
  • Decentralized lending
  • Decentralized wrapping of tokens
  • Decentralized pricing oracles
  • Decentralized exchanges
  • Transferable debts and receivables
  • Decentralized non-collateralized debt
  • Asset tokenization
  • Distribution of dividends

This chapter provides an overview of each of these functions and the following chapter covers the technical details in how this is achieved.

Decentralized Lending

Decentralized lending allows individuals and groups to borrow and lend without the intervention of a bank. Through collateralized systems, decentralized lending on Ethereum reached over a quarter of a billion dollars in 2018.

All of these systems are based on Ethereum, meaning they are addressing only 15% of the market based on market capitalization. The DeFi platform will be addressing the entire 100% of the market by leading with Bitcoin, but also including the entire market through wrapping and pooling as described below.

The major decentralized lending platforms (Compound, Dharma, dYdX, and Maker) provide lending at rates ranging from 0.5% through 6%. Because everything is managed through smart contracts, the overhead of banks is eliminated, and the platforms are able to provide much better rates than banks. As these types of decentralized lending services become safer, it’s likely the market will also see an increase in peer-to-peer lending opportunities through dedicated applications.

The power of decentralized lending lies in the market efficiencies available by eliminating the middlemen and administration involved in lending. Furthermore, with investors concerned about minimal or even negative interest rates, decentralized lending protects the investors from that potentiality, providing market rate interest while giving borrowers better rates than they can get in the existing financial markets. Given the magnitude of credit and the role it plays in the economy as a whole, decentralized lending offers the potential for many more initiatives to borrow money based on open markets and favorable conditions. Easier access to lending translates into a faster-growing economy.

Initial implementations of decentralized lending are fully collateralized, and because of the volatility of cryptocurrency, most platforms require double or more collateral on loans. This allows people to take loans based on cryptocurrency they hold. They can manage their cash flow problems without having to sell their crypto holdings, and meanwhile get favorable conditions on the loan.

Decentralized Wrapping of Tokens

An important issue for DeFi is the ability to work with a variety of cryptoassets, directly, on-chain. While the transaction on the chain is done via the native $DFI coin, DeFiChain can use Bitcoin, Ethereum, ERC-20, or any other cryptoasset through wrapping.

Wrapping allows the utilization of any digital asset such that the underlying asset is maintained, but it can transact on a different blockchain. DeFiChain provides a decentralized wrapping mechanism which allows the owner of the crytpoasset to maintain pegging to the asset and utilize a trustless wrapping mechanism that does not rely on any third party as a guarantor of the wrapping or asset. The wrapped tokens can be easily exchanged for their original value on their respective blockchain.

Creating a wrapped token on DeFiChain is a rewarded activity, such that there is incentive for cryptocurrency holders to create wrapped tokens on the DeFi network as a form of rewarded decentralized financial investment.

Wrapping is a key capability of DeFi due to the need for interoperability of different types of cryptocurrencies and assets. To date, there are no interoperability standards between different currencies, and the only way to interoperate between currencies is by using wrapping or collateralization, which has to be provided by a third party. The entire point of decentralization is that people do not need to trust an authority, yet, today that is the main way that investors can interoperate between Bitcoin and Ethereum without converting from one coin to the other. The Polkadot protocol provides a platform for the development of interoperable apps, but not specifically for DeFi. As a new protocol, it is yet to be seen how it will be leveraged.

Without wrapping, holders would need to convert their cryptoasset to the DeFi currency in order to use the services offered. Obviously, for most investors, that’s unacceptable. The investor has put their money into Bitcoin, or Ethereum, or whatever else, because that is the currency they want to hold. The main purpose of DeFiChain is to enable financial transactions in any type of crypto asset, such that people can use the assets and coins they hold, as currency for investment in other types of financial vehicles.

The decentralized wrapping function is crucial in allowing people to hold any asset and perform investments in another currency. So, for example, someone holding Bitcoin could make a loan to someone who wants to borrow ETH, or someone who wants to hedge against the cryptocurrency they have could do so using a wrapping function to use some of their assets to purchase options in other types of assets.

Decentralized Pricing Oracles

DeFiChain will include pricing oracles to collect data from outside blockchains. Oracles are used to collect data such as pricing of other cryptoassets4. Oracles are an important way for blockchains to collect accurate information from both other blockchains and from non-crypto markets5.

Participating as an oracle allows earning of tokens based on the accuracy of the oracles. The built-in oracle function will allow smart contracts to determine the number of oracles, consensus percentage, and the parameters for rewarding oracles for the data they provide.

Oracles are eventually meant to be decentralized. However, DeFiChain will be launched with a few appointed trusted pricing oracles that periodically submit pricing data from trusted source onto DeFiChain.

Decentralized Exchanges

The decentralized exchange function will allow atomic swap of cryptocurrencies in a peer-to-peer fashion6. The decentralized exchange function matches people for trading directly, without the need to buy and sell currency through an exchange. Using decentralized exchange reduces the risks associated with using exchanges, and ensures that the cryptoasset doesn’t leave the custodianship of the token-holders. It also removes the risk of custodianship from the exchange itself, because the mechanism is peer-to-peer based on an agreed-upon price or on the market price at the time of the exchange.

While a number of decentralized exchanges are available on the market today7, DeFiChain solution allows integration of atomic swap capabilities in third-party applications by creating a decentralized exchange as a service.

Transferable Debts and Receivables

DeFiChain will offer a set of calls to work with transferable debts and receivables. In the centralized finance world, debts and accounts receivable can only be managed through financial institutions that handle loans. The lack of transparency of these transferable debts was one of the factors leading to the financial crisis of 2008.

For small and medium enterprises, this can be a particularly powerful tool. For example, Jane’s widget factory supplies widgets to a large car manufacturer, but the car manufacturer pays for those widgets on a basis of invoice +60. Meanwhile, Jane has to pay for the materials to produce the widgets, and, of course, regular salaries to her workers on a monthly or weekly basis. The car manufacturer will pay the invoice, but not in time for Jane to pay all of her expenses. Without Defi, Jane needs to go to the bank and pay whatever interest rates they demand, because she has no alternatives. The transferable receivables function would allow anyone to offer Jane a loan based on the receivables. Since many people would be able to see that the car manufacturer is a low-risk customer, and that they will pay their invoices, anyone who wants can make an offer to Jane for a better rate than the bank, creating a competitive market for debts and receivables based on the real risk and market assessment of that risk. Jane now can get a loan with great rates, and the lenders, likewise get excellent returns on their loans, despite the fact that they are loaning the money for only 30-60 days.

Blockchain adds transparency to the exchange of debts and loans based on receivables or other types of financial promises. DeFiChain will include the capability for organizations to create smart contracts that allow straightforward investment in such assets, so that peer-to-peer loans can be made without the need for a financial institution to guarantee these types of financial assets.

Decentralized Non-Collateralized Debt

In the future, it will be possible to provide non-collateralized loans based on the reputation and other factors about borrowers. Through different forms of verifiable credentials, and records of an individual’s borrowing and repayment history, non-collateralized systems can be developed. Many of the identity solutions being developed today are looking at anonymous and pseudonymous reputation-reporting systems, based on a Decentralized Identifier (DID) issued by the individual, and Verifiable Credentials (VC) issued by known authorities who are reputable to provide information about the individual’s credit history.

The appropriate reputation based systems and risk assessment systems will need to be built out. While this will take time, perhaps years, it is foreseeable that this kind of system could supplement or replace today’s credit ratings scores.

Another potential application of this feature would be the ability to create non-collateralized decentralized stablecoins. The success of DAI and MakerDAO show the desirability of pegged stablecoins, yet the high level of collateralization is a deterrent to creating more such projects. It is feasible that through market mechanisms and staking, decentralized non-collateralized stablecoins can be created.

Asset Tokenization

Asset tokenization is the representation of an asset, such as real estate or company equity, in immutable tokens on the blockchain8. This particular area of decentralized finance has tremendous potential and is one of the most exciting areas of investment for holders of cryptocurrency9.

While several attempts have been made at asset tokenization in the blockchain space, most of them have pivoted and now provide services not directly related to asset tokenization (LAtoken, Etherparty). Tokeny and Tokenize-IT advertise themselves as tokenization platforms, but as of the writing of this paper, their processes are still fairly manual, and are heavily reliant on specific localities and regulatory requirements for those specific jurisdictions. Other blockchains, such as Tezos, have been mentioned as good platforms for asset tokenization, but, as with other multi-use blockchains, the Turing-complete set of commands will create complex smart contracts that are unnecessary when using DeFiChain.

DeFiChain will provide a module specifically designed for asset tokenization, and will be particularly easy to use to tokenize assets such as company equity, real estate, and other valued holdings.

Recently (October 2019), the Lichtenstein Blockchain law created the legal basis upon which any asset can be tokenized and legally bound to tokens or “containers” that represent the right to the asset. The law is precise in its wording, describing how a container issued by a trusted party now can hold the legal rights to the disposal over the asset. Disposal over the asset is distinct from ownership or rights to the asset, or even control as a specific concept. The careful wording of this law is a breakthrough for everyone in the world of asset tokenization, because it will now allow someone to go to a court of law with a token and expect to have legal legitimacy for assets that are tokenized (as long as the authority granting the token is recognized as a trusted authority to do so). It also opens up a space for DeFiChain to apply for this trusted status, such that the Asset Tokenization capability described here can be offered as a decentralized, legal and authorized capability that people can trust, without having to depend on any centralized authority.

For more information on this law, please see Liechtenstein’s website at https://liechtensteinusa.org/article/liechtensteins-parliament-approves-blockchain-act-unanimously

Examples of assets people can now tokenize using the blockchain:

  • Securities, such as ETF investing, stocks and shares.
  • Shares in privately held companies.
  • Energy and income generating devices, such as wind turbines, solar farms, satellites.
  • Ownership in food means of production (new forms of cooperative farms where non-farmers could own food supply instead of commodities traded on exchanges)
  • Self-driving cars, vending machines, ATMs, pinball machines, and other types of revenue-generating self-regulating devices.
  • DAOs (Distributed Autonomous Organizations).
  • Small real estate investments (time shares, short-term rental apartments, etc.)
  • Large real estate investments (airports, amusement parks, apartment complexes, business parks)

Distribution of Dividends

Any tokenized asset with return on investment can use the dividends distribution module to create smart contracts that pay out returns on the investment automatically. Using DeFiChain will allow a leap in the functionality of dividends distribution. It will be possible to implement models similar to today, where payouts are performed on a weekly, monthly, or quarterly basis, or models where payouts are on a daily, hourly or even minute-by-minute basis.

Distribution of dividends would be relevant in any type of tokenized asset, as described above. For example, today, a municipal government might do a bond issue to invest in a wind turbine to supply electricity. The government would take care of everything, and repay that bond according to the schedule. With distribution of dividends, the community could purchase the wind turbine directly, and distribute the dividends to the investors in the wind turbine. Instead of going through the administration required through the centralized authority (government), every citizen who wanted to could invest in that wind turbine, and dividends would be paid according to each person’s contribution to that investment. Eliminating overhead and fair distribution of profits would be major benefits for the community owning the wind turbine. In this case, the wind turbine is a public good, but it could also simply be a private investment.

Any private investment could be run this way: a pinball machine, self-driving taxi, real estate investment, etc. Automatic distribution of dividends reduces the need for administration and overhead, as well as eliminating uncertainty about payouts and control by a centralized authority.

The need for joint dividend investing is becoming increasingly relevant with IoT. Devices are able to create tremendous value. A self-driving car will be able to provide taxi services. Vending machines, sensors, satellites, etc., are all potentially revenue-generating devices that people can own together and share in the profit of together, yet until now the legal and financial complexity of doing so has been prohibitive. DeFi can simplify those processes.

Similarly, distribution of profits for a private company can be implemented. One of the first experiments in this area is a DAO (Distributed Autonomous Organization) called dOrg. dOrg is a collection of programmers (as well as a sales/operations team) who co-own their software house. Distribution of salaries is through a DAO that functions as a multi-sig, such that every 2 weeks, the whole organization submits their payment requests for work contracted, and the team votes to pass one anothers’ salary requests. Inside dOrg, each person holds a “reputation” that represents the percentage of ownership each person has earned (they earn ownership according to the amount of work done since the inception of the company). But what will happen to the profit at the end of the year? Presumably, each individual will have to submit a request for their percentage of the profits, and everyone will have to vote on that, too, because the DAO does not allow for automated distribution of profits. Using DeFiChain, the team could easily implement a quarterly or annual function that would automatically distribute the profits of the company to each person, according to their holdings in the company. This scheme would work even for people who were active in the past, but are no longer active, so they aren’t in the DAO any longer, but they still hold a percentage based on their past contributions. Other contributors might be an investor who puts money into the company, but does not participate.

The examples above seem logical and straightforward, but today are extremely time-consuming and complex. People who want to make an investment together in companies, real estate, or other income-deriving assets type of dividend distribution today is complex and requires a lot of manual calculations. Through the DeFi Distribution of Dividends functionality, it becomes not just simple, but automatic for companies to distribute dividends to equity owners.

DeFiChain Design

Design Parameters

Looking at the business requirements from the chapter before, DeFiChain needs to meet the following requirements:

  1. Robust and secure: built on a proven and secure blockchain.
  2. Fast and scalable.
  3. Includes decentralized consensus mechanism.
  4. Provides extensible smart contract support, without a Turing-complete instruction set.
  5. As immutable as possible (Block anchoring enabled.) .

Each of these design principles is described in detail below.

1. Robust and Secure

Bitcoin Core is the most robust and longest running blockchain in the world. It has been operating with no disruptions since the genesis block in January 2009. Furthermore, from a security standpoint, Bitcoin core has proven itself to be most secure blockchain with no security incidents, while securing the crypto asset with the highest valuation in the world, that is, Bitcoin (BTC). As of this writing, Bitcoin Core successfully secures $150 billion worth of crypto assets, or 68% of the crypto asset market capitalization.

The proven security and robustness of the Bitcoin Core made it the blockchain of choice for DeFiChain base for extension. DeFiChain is built based on a fork of Bitcoin Core 0.18, specifically v0.18.1.

DeFiChain will be written in C++, and the plan is to use other languages, such as Rust, in the future.

While DeFiChain is a new blockchain, basing it on a Bitcoin Core fork results in a chain that is easy to integrate with for exchanges and apps that support Bitcoin.

2. Fast and Scalable

One of the proven disadvantages of the Bitcoin blockchain has been the slowness of transactions on the chain. Furthermore, scalability has become an issue as the number of blocks on the chain increase.

In order to implement a blockchain with the required speed and scalability, DeFiChain fork of Bitcoin Core will include the following improvements:

  • Block time: 30 seconds
  • Block size: 16 MB

These improvements provide a transaction rate of over 2,200 transactions per second (tps) while maintaining manageable compute and bandwidth requirements to allow for decentralized operations of DeFiChain.

The following table compares Bitcoin and its forks, as well as Ethereum, to DeFiChain performance:

Block time (s) Block size (MB) Tx block space (% of block size) Min tx size (B) Avg tx size (B) Txs in a block (max) Txs in a block (avg) Max tps Average tps
Bitcoin Core 600 1 98% 220 500 4,561.45 20,07.04 7.6 3.35
Bitcoin Cash 600 10 98% 220 500 45,614.55 20,070.40 76 33.45
Bitcoin SV 600 32 98% 220 500 145,966.55 64,225.28 243.28 107.04
DeFi Chain 30 16 98% 220 500 72,983.27 32,112.64 2432.78 1,070.42
Block time (s) Gas limit Tx block space (% of block size) Min tx size (gas) Avg tx size (gas) Txs in a block (max) Txs in a block (avg) Max tps Average tps
Ethereum 13.5 10m0 100% 21k 60k 476.19 166.67 35.27 12.35