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Importance of Cross-Chain Interoperability In Decentralized Finance (DeFi)

Before we dive into the relation between cross-chain technology and decentralized finance (DeFi), we must first understand some of the core concepts. Decentralized Finance is a type of technology that is powered by blockchain systems and cryptocurrencies to process finance-based trades. The term decentralized means that the system is not controlled by a single entity or lead but is rather powered by several different nodes connected by peer-to-peer networking system. Its purpose is to directly challenge traditional centralized finance by acting as a better alternative to process more financial services, like virtual banking, loan handling, asset trades etc.  

Some of the highlighted qualities that decentralized finance carries includes the removal of any processing fee that is claimed by financial institutions for using their products and services, user assets being stored inside of a personal digital wallet instead of a physical bank giving the user more power over their precious earnings, instantaneous transaction speeds which supports asset valuations even in the billions and lastly the security of the user’s profile is secured by blockchain technology which supports various complex security algorithms that are extremely tough to pass through.   

How does one acquire cryptocurrency assets?

To get their hands on cryptocurrencies, users have a choice between, brokers, digital asset exchanges, or have direct contact with a seller. Direct exchange of cryptocurrencies is often said to be performed by the users who wish to be anonymous and usually large amounts of trade worth, but even that is not completely necessary.

New users who are looking to be assisted in their purchase of cryptocurrencies mostly either utilize services from a broker or a cryptocurrency exchange, however majority of the users tend to reach out to exchanges, since it is basically a huge marketplace-based platform where buyers and sellers connect with each other and perform trading activities. As of lately, exchanges have proved to be a more popular choice, usually because of their low processing fee and easier access to the crypto space.

Additionally, since most users tend towards exchanges, they must also choose between either a centralized exchange (CEX) or a decentralized (DEX) one, with both having their perks and drawbacks respectively.

Benefits and Drawbacks of Centralized Exchanges (CEXs)

For complete beginners, centralized exchanges might seem a better route. In general, Centralized Exchanges (CEXs) are establishments that handle a higher scale of cryptocurrency trades and are usually seen to follow trade models that originate from stock exchanges. By utilizing a single or multiple models, centralized exchanges will show its presence in the market by the process of “clearing” trading activities via an order book that contains a list of available sale and purchase orders.

Adding to that, centralized exchanges provide users the ability to gain custody of their precious assets, assisting them in their trades. Centralized exchanges provide clear suggestions to users on how to invest and earn from their respective digital assets. CEXs also carry an impressive range of features and functionalities to assist users in trading, while also providing impressive levels of liquidity, enabling itself to make sure that every buyer gains a connection with a seller without any issues.

As for drawbacks, despite being more welcoming and loaded with features, these types of exchanges are not in parallel with the original purpose of decentralized currencies it deals with. Centralized exchanges might be something excellent for some, however it raises the question over the purpose of using a blockchain if centralized exchanges promote third party access itself.

Because these centralized exchanges are dependent on intermediary, they become a very attractive for not only hackers and exploiters, but also regulatory authorities. Following their core design, these platforms are working though off-chain, so they are sort of a governance for investors looking into the cryptocurrency space. Adding to that, there are many other concerns that surround centralized exchanges that include, security vulnerabilities, weak information banks, weak funds and key banks and exploitation of privacy of users. 

Benefits and Drawbacks of Decentralized Exchanges (DEXs)

Because of the removal of the involvement of any third party, decentralized exchanges not only give more power to the user but also carry the fact of being non-custodial in nature. As mentioned before decentralized exchanges are not governed by a single centralized entity, so they utilize the strategy of using smart contracts that can process themselves on the completion of certain conditions and rules, directing transactional history onto a blockchain system that is powering the exchange.

Being non-custodial means that they are not in full control of the user’s assets, so they are generally safer, because hackers and exploiters become less interested in them, basically assuring a level of safety and security for the end user. Because user’s assets are present in an external wallet, means that they are fully responsible for their activities and gain additional levels of anonymity, because they are not subject to the Know Your Customer (KYC) and Anti-Money Laundering (AML) policies. 

Although decentralized exchanges might seem extremely attractive to many, there some drawbacks that need to be considered before making a formal decision. Despite being mostly supported by cryptocurrencies, decentralized exchanges have been known for their generally poor levels of user experience, scaling and liquidation.

Decentralized exchanges are said to promote very subtle liquidity, are vulnerable to the strategies of front running and because of the huge rise in overall usage, there is also a massive increase in operating fee. Since most DEXs are still very underdeveloped, there is a chance that they will have to be separated from the market. Because of that the trading pairs that are less common that may have to comply to some orders that can take quite a while to fulfil.

Repeating the statement about DEXs being young and underdeveloped, individuals having less experience on operating through decentralized blockchain technology are susceptible to face more challenges when entering the cryptocurrency space and utilizing the services of the exchange.  

Understanding Cross-Chain Technology

Now comes the main part of discussion which is cross-chain tech. This is basically a blockchain-based technology that is third generation and gives two separate ruining blockchains the power to communicate, interrelate and exchange resources with one another.

Not only does this promote the concept of interoperability, but also gives rise to new opportunities for traders in the global financial space. Due to personal preference, some traders prefer one chain to another, while also sacrificing the use of some features provided by the other chain, however with cross-chain interoperability, the trader can take advantage of both blockchains, without having to worry about missing on features from the other chain.

Before this type of technology came into existence, blockchain systems were often pushed aside by multiple financial industries because of its infrastructure that did not have much compatibility with other chains, despite having massive support and being much more efficient than traditional systems. Minimal connection between two separate blockchains was highlighted as a major limitation by multiple financial and business-oriented industries.

But since the introduction of the ground-breaking cross-chain technology, that limitation has been discarded, with the development of a system that is more impressive than ever, creating new opportunities and projects to arrive at shore.

Cross-Chain Technology for Decentralized Finance (DeFi)

Since its introduction a few years back, decentralized finance has managed to become the go to system for managing finance-based solutions, as millions upon millions of fresh new users have entered the cryptocurrency space. Before the introduction of cross-chain tech, DeFi had some imperfections that developed barriers for it to gain attraction from industrial players. Some of these imperfections included low liquidity, slow transaction processing and high transaction fees, making it a non-attractive choice.

But as previously mentioned in the above section, with the launch of cross-chain technology supporting decentralized finance, it is set to deal with all the imperfections that normal decentralized finance had by introducing the power of interoperability, therefore bonding entire ecosystems together.

Blockchains supportive of cross-chain can promote better interoperability by connecting different DeFi-based platforms, applications and marketplaces. This gives traders interested in multiple chains, a chance to have uninterrupted access to different DeFi-based entities via the original chain, reducing overall cost and fee.

This ground-breaking technology enables tokens to be quickly transferred to different separated blockchains by bringing better connection paths between those chains. These connection paths are mainly called as “interoperable bridges”, letting users gain the ability to utilize their tokens on different chains, without having the need to go through a centralized exchange first. The introduction of cross-chain interoperability into decentralized finance is considered as a sweet gift by many who are both seeking and introducing new opportunities to take advantage off.

There are many types of blockchain protocols that are compatible with cross-chain technology. The most popular ones include, Cardano, Polkadot, XDC Network, Avalanche, Near Protocol and many more. 

Types of Cross-Chain DeFi Platforms

With the advancement of cross-chain technology, new types of DeFi-based platforms have been introduced. Following are some types that utilize cross-chain tech:

These types of platforms give users more power over their savings and enable them to gain interest on their deposits from several different chains. Users connect with lending platforms and provide loans to those to in need, gaining profits on the other side.

Taking advantage of the variety of features that cross-chain brings like, automated market makers (AMMs), multi-chain DeFi wallets, liquidity pools and many others, lending platforms utilizing cross-chain DeFi have become largely popular. Popularity has seen to have massive growth levels in the eCommerce and gaming industries, who have found unique ways to make multi-chain trades possible and profitable.

DeFi staking platforms help users to gain profits by introducing them to the method of locking. This locking method involves users locking in some amount of staking platforms token and then deducing profit from it, while also giving traders a chance to reach positions of validators. Because of cross chain, both staking and taking the position of validator is now possible though multiple chains.

These types of platforms allow users to lend and loan a great variety of different cryptocurrencies from several platforms and then enable them to earn profits through interests, while also maintaining their positions as validators across chains.

Decentralized Autonomous Organizations (DAOs) usually polishes the regulations and promotes autonomy through several entities that are responsible for the DeFi platform. As for users, they can perform investments, perform trades and can also stake their assets on these platforms, making sure that they are not governed by a central entity.

Comparing Simple DeFi with Cross-Chain DeFi

There are many factors that are considered when differentiating between standard DeFi and Cross-chain technology powered DeFi.

In terms of scalability, cross-chain DeFi is better compared to standard DeFi, because it is quicker and is efficient. Interoperability is an obvious factor in which cross-chain DeFi claims a direct win, since it is focused on it. In the case of transparency, cross-chain claims another victory, since standard DeFi transparency is only limited to a single chain, while in cross chain, transparency is end-to-end and supports live autonomous auditing of collaterals, because of interoperability.

Looking at the storage factor, standard DeFi has restricted storage capacity for its system, meanwhile cross-chain will obviously use more storage, due to the resource sharing between several chains. And finally for efficiency, as previously mentioned, cross-chain takes the win yet again for its impressive speeds and efficiency in processing trades.

Future of Cryptocurrency Exchanges

With regards to limitations of both CEXs and DEXs, several experts have highlighted that for digital assets to gain more adoption, the development of non-custodial platforms having support for interoperability must be promoted. Not only will this provide users with complete control over their assets but will also give them chance to use their assets on cross-chain DeFi platforms to make an earning, thus increasing adoption rates.

As an example, Polkadex is one exchange platform that is now following the road towards to become a decentralized peer-to-peer order-book crypto exchange. The goal of the project is like the ideal concept of having advantageous properties of both CEXs and DEXs, while getting rid of the drawbacks respectively.

Because of a new layer-2 trusted processing space, Polkadex has gotten rid of custody of assets and has also brought support for multi-chain networks in a decentralized manner. The exchange is also currently developing a liquidity bridge called as THEA, bringing an initial connection with Ethereum and then other networks in time.

Additionally, due to a campaign organized and run by the community, the exchange managed to dominate auction number 16, and held a batch 3 record of around 973,000 DOT that was lend out on the crowd loan, managing to win a Polkadot parachain slot that will enable Polkadex to develop a deeper path into the Polkadot ecosystem.

According to the website, the crowd loan has officially taken a rest and the reward distribution was selected to be two plus PDEX for reach DOT submitted to the crowd loan and the top one thousand submissions would receive an exclusive Polkadex Hero NFT for their support, granting them significant discounts over the fee on orderbooks. In partnership of the Polkadex crowd loan, many popular names like Bifrost, Equilibrium, KuCoin, Kraken, Nova Wallet, SubWallet, Subscan, Parachains.info and many others took part to express their support to the exchange.  

With features like layer-2 trusted space, support for multi-chain networks, a liquidity bridge and a Polkadot parachain slot, Polkadex is all set to become a massively popular cross-chain DeFi platform. There are many more features that Polkadex is looking forward towards, however the one that stands out it PolkaIDO, which is a decentralized IDO launchpad, that will also be interconnected with the solutions features mentioned above, including THEA and the Polkadot parachain. 

Summary

With the advancement of the financial sector, it is important that the best level of connectivity is ensured, not only amongst traders and platforms, but also across different blockchain systems operating in the global financial ecosystem, with more and more platforms going towards the decentralized path. It is very important to understand the importance of interoperability, as it is called to be a major factor that leads towards new and unique solution development, while also creating a better level of interconnectivity between different bodies.

Standard DeFi has been suffering for quite a while since its launch, due to its glaring issues, however the situation has managed to grab on to a new hope that is cross-chain interoperability for DeFi. The upbringing of cross-chain DeFi technology has brought a massive and positive change towards DeFi, promoting the introduction of new and unique sets of products, services and opportunities for many and solving the persistent issues of lack of scalability, transparency, interoperability that DeFi has been challenged with across the years since its launch.

Not only has cross-chain sparked the flames of individuals but has also sparked flames inside the hearts of corporations who are now looking towards the adoption of cross-chain DeFi technology to challenge the global market.


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