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1 1 (July 28, 2021)

handle is hein.crs/govedxn0001 and id is 1 raw text is: Congressional .Research Service Decentralized Finance (DeFi) and Financial Services Disintermediation: Policy Challenges July 28, 2021 Decentralized finance (DeFi) is one of the fastest-growing areas within the digital asset industry. Total value locked (TVL), a common measure of market size for DeFi referring to the value of the digital assets committed for transactions in DeFi systems, reportedly reached $89 billion in May 2021, up from around $1 billion ayear before (although that amount has since dropped to about $66 billion as of July 26, 2021). DeFi does not yet have a standardized definition, but the term generally refers to the use of digital assets and blockchain technology to replicate and replace conventional delivery of financial services-such as loans, asset trading, insurance, and other services-through central financial intermediaries such as brokerages, exchanges, or banks. Characterized as financial disintermediation, or cutting out the traditional middleman, DeFi aims to offer financial services through a direct peer-to-peer system that uses digital assets and smart contracts, which are computer programs that automatically execute transactions via predetermined protocols. DeFi proponents believe that financial disintermediation could save transaction costs and revolutionize the operations of the industry; skeptics doubt it will significantly displace traditional intermediaries because of scalability and other concerns. In addition, others worry about the potential harm to investors and market integrity and possible disruptions to the existing financial system. They argue that the rise of DeFi may require a substantial regulatory revamp to keep up with the industry should it continue to grow at the current pace. How Does DeFi Work? DeFi applications are often built on blockchain-based networks, such as Ethereum. Participants holding digital assets (e.g., Bitcoin, Ether, and others) typically send the digital assets to a smart contract address (some of which are known as liquidity pools, where the assets of many holders are gathered together). The smart contracts lock the assets until the execution of a transaction, such as the lending of the digital assets to a borrower. As such, TVLis a common measure of DeFi's market size. For example, Uniswap, one of the largest DeFi platforms, is a decentralized crypto-asset exchange that runs on two smart contracts that automatically execute transactions-one adds new digital assets, and the other facilitates trades. Uniswap's trading transactions rely on liquidity pools and automated market- maker smart-contract protocols that execute trades against the committed assets in the liquidity pool. Congressional Research Service https://crsreports.congress.gov IN11709 CRS INSIGHT Prepared for Membersand Committeesof Congress

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