CeFi Exchanges Helped Mass Crypto Adoption; DeFi Will Further It

AUSTIN, Texas — Centralized exchanges (CeFi) have helped to push early adoption of crypto by the masses, but many of these have suffered from recent failures. In the long term, decentralized exchanges (DEX) will strengthen the backbone of future financial systems, panelists said during the "DeFi vs. CeFi: A Distinction With a Difference" panel at CoinDesk’s Consensus 2023 conference here.

The main roadblock to mass adoption of crypto by average users has been the complexity of the technology. This is why centralized exchanges such as Coinbase (COIN) have been able to provide on-ramps for many jumping into digital assets.

"If my grandparents wanted to buy bitcoin, are they going to download MetaMask, figure out how to hold their own keys and all that? Probably not," said Nathan Cha, marketing lead at crypto derivative exchange dYdX during the panel.

Read more: DeFi vs. CeFi in Crypto

However, the lack of transparency in a CeFi exchange is what eventually led to failures such as the spectacular collapse of FTX in November. When a customer uses a centralized exchange the money goes into a wallet but everything behind that is controlled by an entity that isn't transparent and is not using blockchain infrastructure, said Sidney Powell, CEO of crypto lender Maple Finance, using two failed companies, BlockFi and Celsius Network, as an example.

"Effectively, it was a private ledger," Powell said. However, that's not the case for decentralized finance (DeFi) because there is more transparency in how the money is being stored and moved. "If you contrast that with DeFi lending, whether it's Aave, Compound or Maple, you can see the movement of funds at all times and it's always controlled using Solidity and using smart contracts," he added.

"The core difference [between CeFi and DeFi] is ... self-custody. But more than that, from a technology perspective it's the use of smart contracts and a blockchain to actually operate the business," Powell said.

However, he added, that doesn't mean there will be mass adoption of the DeFi ecosystem anytime soon because CeFi will still likely be the main avenue, in the short term, for traditional finance customers and older users to adopt the digital assets.

Read more: Will DeFi Emerge From Crypto Winter Stronger?

Also, the current regulatory environment in the financial market integrates well with the CeFi model, said panelist Salman Banaei, head of policy at Uniswap Labs. "CeFi has an advantage in the sense that their business model, with clear control persons, is reflected in kind of the regulatory infrastructure that we currently have," he said. He noted that this makes it an easier transition for CeFi to fit into securities or commodities or banking laws.

DeFi, on the other hand, has a disadvantage on that front because it relies on an open-source protocol that reduces "control surface area" from a regulations perspective, Banaei added.

However, this will change in the longer term, he said. Over time the role of CeFi won't change drastically from what it is right now, whereas DeFi will eventually become the main infrastructure for the future of the financial system, Banaei said.

Down the line, "DeFi kind of becomes the backbone for a new economy, while CeFi kind of plays – continues to play – that kind of on-ramp role into this much richer DeFi-based environment," Banaei added.

Read more: FTX Showed the Problems of Centralized Finance, and Proved the Need for DeFi