Web3 and DeFi: Collaborators OR Competitors?

Web3 and DeFi are hot and trendy topics these days. However, many people don't know what they actually mean. And this is not because they are too lazy to check in with Google. There's just way too much hype and fluffy marketing out there that can make any crypto-beginner feel like their heads will explode with all this groundbreaking stuff.

Also, some companies have habits to promote themselves through trends instead of substance. It is the same as with "organic/nano/bio/carbon-free" stickers, in fact advertising only words and phrases often used on products or services that have nothing to do with them. The same goes for Web3 and DeFi when they are used like ultimate certificates verifying disruptive and decentralizing potential of online projects, even when there is none.

Take Meta metaverse as an example.

At the end of the day, a user is left with confusion: How to draw the line between Web3 and non-Web3 projects? Why do some have the Web3 label, while they are developed by the same tech giants that have been controlling much of the present Internet (Web2) for years and don't seem to change anything about their centralized governance model and data storage policy?

So with all the hype going around, the distinctions between Web3, DeFi, and ordinary mortal online business sometimes can be blurred.

We are here to fix it. Let's dive in.

What does Web3 actually mean?

Probably you might have met Web3's definition as a new-gen Internet that will give users more freedom of interaction. Well, it's pretty popular to define Web3 through some core human values. Web3 will make you free and independent, they say, like it's a new blueprint for the Liberator, but blockchain-powered. (Lol)

Let's cut the fluff and see what Web3 really is.

As long as there's no firm official definition for it yet, we can allow some freestyle with explanations.

Let's look at Web3 from narrow and broad perspectives.

1. Web3, in the narrow sense, refers to a new vision of the Internet: decentralized, blockchain-powered, and empowering p2p transactions.

This cutting-edge Web aims to overcome the disadvantages of today's Internet, i.e., Web2, that creates a plethora of limitations and risks for users.

One of the most negative aspects of Web2 is that it is, in fact, monopolized and controlled by the cartel of upper-echelon tech giants like Google, Facebook, Amazon, etc.

The cartel has an unlimited capacity to dictate to users the rules of their interactions and what content they are allowed to publish, what fees they have to pay, what data to provide, etc. Web2 users have no other option but to look up at a tech giant intermediary and interact according to its "accept-or-die" consensus algorithm.

That doesn't seem fair.

At the same time, the Web2 cartel has complete discretion over users' data – they can sell it, disclose it to third parties, or use it to manipulate consumers' perception for advertising purposes. Yes, history already knows of such cases.

Web 3.0 is tasked with the mission of getting done with this imbalance of power and breaking users’ dependency on tech giants. Instead, Web3 offers a new environment, where users will be enabled to interact peer-2-peer without the need to follow 3rd party’s rules and remain in total control over their data and identity.

Here is an excellent quote by Gavin Wood, one of the pioneers and leaders of the Web 3.0 movement, explaining this vision of a new form of users’ interactions:

“Web 3.0, or as might be termed the “post-Snowden” web, is a reimagination of the sorts of things that we already use the Web for, but with a fundamentally different model for the interactions between parties. Information that we assume to be public we publish. Information that we assume to be agreed, we place on a consensus-ledger. Information that we assume to be private, we keep secret and never reveal”.

So let’s say that tomorrow, your familiar Web would look radically different: new browsers, UX, different ways of communication, no need to adopt third-party terms and conditions that are never in your favor, and no risk of being blocked by a platform’s algorithm. Only you and your peers would set the rules, drive interactions and get rewards. No helpers. No need for anyone’s permission and consent.

The technology behind Web3

Here are the key technological fundamentals that would make Web3 a reality:

• Decentralized blockchain protocols

Public, interconnected (interoperable) decentralized blockchain protocols are the foundation of Web 3. The main job of the protocols is to ensure trusted transactions between users, strong privacy in their interactions, as well as distributed and censorship-resistant data storage.

• Smart contracts

They are the key facilitators of blockchain protocols’ work. Smart contracts are programs that automatically self-execute upon certain conditions being met. They are tamper-resistant, which means excluding the risk of any interference or modification of their terms in any way. In Web 3, among other things, they also drive such vital elements of its ecosystem, like DAOs and distributed data storage.

• DAOs

A DAO, or “Decentralized Autonomous Organization,” is a community-led online entity with no central authority. Unlike traditional companies, DAOs eliminate the hierarchy of corporate management bodies and offer a decentralized governance model.

Voting, decision making, distribution of dividends, execution of the agreed-upon decisions, and other business-related matters are regulated by the rules laid down in blockchain-based smart contracts and performed by them automatically. This is done to exclude any risk of human error or manipulation with votes. Neither a sleazy CEO nor pushy shareholders would have any chance to manipulate the entity’s work to their benefit.

The point is that it’s safer to rely on algorithms rather than on humanity’s goodwill. We all know man is weak.

• Distributed data storage

What does it mean? The vision is to ensure that users’ information is stored sliced to multiple independent network nodes instead of one server that is not under users’ control. This distributed approach will procure high-quality data protection, as well as enable users to manage their data, encrypt and keep it private, authorize access to data, and backup the storage.

• Crypto payment networks

It would be nothing new to say that crypto pioneered the principles of decentralization and anonymity, which are now at the core of Web 3.0. Contrary to fiat payments, which immediately bring nation-state borders along with regulatory complexities and limitations, crypto has offered an alternative financial paradigm — peer-to-peer trustless and anonymous transactions with no intermediary involved.

2. Web3, in the broad sense, means a better framework for sharing economy.

The concept of sharing economy (or shared economy) existed before Web3.  In general words, it stands for an economic model defined as a peer-to-peer (P2P) based activity of acquiring, providing, or sharing access to goods and services that is often facilitated by a community-based online platform.

This sounds pretty similar to what Web3 offers.

Uber and Airbnb are the most prominent examples of Web2 sharing economy projects. But the problem here is that the way they operate is far from being in line with sharing economy philosophy.

In fact, these projects act as intermediaries in what are supposedly peer-to-peer transactions leaving participants with no option but to follow the terms and conditions on offer. Also, the distribution of revenue generated on such platforms among participants quite often doesn’t work for their best interests.

Clearly, the term “sharing economy” has been misappropriated in these examples and would be better replaced with a more accurate term such as "pseudo-sharing."

Contrary to this, the Web3 sharing economy offers a real peer-to-peer environment wherein users are able to define their own rules of doing business and interact directly with each other without having to share their revenue with any third party.

Today the most developed sector of the Web3 sharing economy is decentralized finance or "DeFi" for short. By February 2022, DeFi’s total market cap has reached $93 billion.

DeFi as a sector of Web3 economy

DeFi is a blockchain-based concept of an alternative financial system aimed to replace the traditional. The goal of DeFi is to provide an open, permissionless, and tamper-proof financial infrastructure, which would allow easier access to the same financial services like payments, lending, insurance, borrowing, trading, etc., as well as inventing new ones without limitations of multiple cross-border inconsistent regulations and bureaucracy.

As a constituent component of the Web3 economy, DeFi sticks to the same ideology:

• trustless  p2p transactions in the absence of a middleman, powered by blockchain technology, and
• user’s full control over their funds and personal data.

With the use of open-source code and great availability for developer tools in DeFi, participants can experiment with more financial instruments. They can also upgrade old ones and create new products without seeking authorization from regulatory watchdogs.

When comparing DeFi to traditional financial systems, they differ primarily on the following points:

• Source of trust. In DeFi,  a public blockchain acts as the trust source, governing all operations in the financial sector. In contrast, in traditional finance, trust comes from regulatory and licensing activities of authorized state bodies (like security exchange commissions, central banks, etc.).
• Entry barriers. DeFi has no entry barriers. Its participants are only expected to understand how DeFi works and how to deal with it. No official certification is needed.
• Freedom of financial engineering.  In DeFi, anybody with programming skills can take part in building financial services and tools on top of public blockchains. Unlike traditional finance, in DeFi, newly created products do not require being approved or licensed by a regulator.
• Speed and cost of transactions. One of the most important goals of DeFi is to enable seamless cross-border transactions at a low cost. To achieve this, DeFi projects apply a two-layer concept. This means that blockchain protocols (Layer 1) are paired up with Layer-2 scaling solutions called “state channels”, allowing users to transact with one another directly outside of the blockchain (i.e., off-chain) and minimize their on-chain operations only to the specific necessary sequences.

So wrapping it up, DeFi seeks to revolutionize the financial sector by leveraging a set of progressive technology,  offering extra functionality in addition to reducing operational risks.

How do Web3 and DeFi impact each other?

Web3 sets both the technological and economic frameworks for the DeFi sector.

As the technology in finance, Web3 enables

• secure seamless and permissionless cross-border transactions at low cost and without bureaucratic handicaps
• transparency of user interactions and tamperproof records of transaction facts (like price, the total volume of debt, etc.)
• privacy and full control of financial data
• trustless governance model based on smart contracts, eliminating  any risk of 3rd party manipulations and interference, and
• absence of legal paperwork and requirements of regulatory/supervisory bodies.

As the economic framework, Web3

• democratizes access to finance so that everyone can explore it due to the absence of any qualification requirements,
• allows one to creatively engineer an unlimited variety of  income sources
• eliminates dependence on the banks
• globalizes finance and, as a result, changes the whole macroeconomic paradigm.

Key Takeaway

As Web3 evolves, so does the DeFi sector. Combo of them both is one of the most incredible examples demonstrating how cutting-edge technology can revolutionize the existing order of things and unlock a unique path towards opportunities that were never before imaginable.

Want to learn more about Web3 and DeFi?

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Stay tuned as Yellow unveils the developer tools behind Yellow Network, brokerage nodes stack, and community liquidity mining software!