Saturday, September 18, 2021
DeFi The Changing Face Of Finance: Decentralised Finance - An Emerging Alternative Financial...

The Changing Face Of Finance: Decentralised Finance – An Emerging Alternative Financial Infrastructure – Technology

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There are currently over 4000 (four thousand) cryptocurrencies
in circulation1 and about 51,200,000 (fifty-one million,
two hundred thousand) active traders of cryptocurrency around the
world2. With the proliferation of cryptocurrency and the
associated technology that backs it, disruptors and innovators have
begun to take advantage of the multifunctional nature of
cryptocurrency3 and have created products that could
change or disrupt traditional banking and finance. Enter
Decentralised Finance or ‘DeFi’ for short.

DeFi refers to an emerging area of finance where financial
products are offered to customers using blockchain technology such
as smart contracts, limiting reliance on the traditional
institutional nature of finance where financial products and
services are offered by banks and other financial institutions.

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When compared to the traditional or centralised financial
industry, DeFi is still a small drop in a big pond. However, DeFi
products or protocols have started growing rapidly and are
attaining monumental gains. In 2019, only USD$275,000,000 (Two
Hundred and Seventy-Five Million Dollars) worth of cryptocurrency
was locked in the DeFi economy4. By February 2020, that
number grew to USD$1,000,000,000 (One Billion Dollars) and by
January 2021, over USD$40,000,000,000 (Forty Billion Dollars) worth
of cryptocurrency has been used on decentralised financial

So, with this rapid growth of decentralised financial products,
it is important to consider whether DeFi as an alternative
financial infrastructure is complementary or an adversarial to
traditional financial and banking systems.

In this article, we will attempt to answer this question by
breaking down what DeFi is, highlighting some DeFi products,
examine the advantages and disadvantages of DeFi, and conclude with
our opinion on the future of DeFi.

Understanding Decentralised Finance

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Dr. Usman W. Chohan, an international economist-academic,
describes decentralised finance as

“.an experimental form of financial praxis that is
removed from dependence on centralized financial intermediaries,
which in this context might include banks, exchanges and
brokerages. As such, DeFi purports to disintermediate financial
activity from the traditional mechanisms of finance, and it does so
through the use of a blockchain substitutive

In a nutshell, DeFi is a movement that aims to create an
open-source and transparent financial service ecosystem that is
available to everyone and operates without any central authority
such as banks or brokers. The users maintain full control over
their assets and interact with this ecosystem through peer-to-peer
(P2P) applications that are decentralised

Dapps are used by DeFi protocols or products customers to
interact which each other and are powered by ‘Smart
Contracts’, programs which run like contracts when
predetermined conditions are met and are stored on a blockchain.
Smart Contracts are self-executing contracts with the terms of the
agreement being directly written into lines of code, such that when
the pre-agreed conditions are met, the smart contract enforces
performance of the relevant terms of the agreement. The code and
the agreements contained therein exist on a blockchain network. The
code controls the execution, and the transactions are trackable and
irreversible8. defines a Dapp as an application built on a
decentralized network (blockchain) that combines a smart contract
and a frontend user interface9. Therefore, the layers of
a DeFi product are made up of the backend (Smart Contract) which
contains the terms and conditions embedded in the line of code and
the frontend (Dapp) which the users interact with. The Dapp can be
programmed to carry out various functions to enhance the user
experience like tools to compare and rate services, allow users to
perform otherwise complex tasks by connecting to several protocols
simultaneously, and combine relevant information in a clear and
concise manner10.

Dapps are the means by which customers access DeFi products. For
example, Luffy may be looking to get a loan and instead of going to
a bank, he could decide to log on to a Dapp which compares and
rates the different services on offer. Upon selecting one of the
offers, Luffy enters into a Smart Contract and accordingly, the
Dapp stipulates the conditions required of Luffy for disbursement
of funds. Once Luffy fulfils these conditions, the disbursement
term of the Smart Contract is executed and the loan amount is
disbursed to Luffy (usually in cryptocurrency) instantly and
parties are bound by the Smart Contract.

The DeFi product ,a loan in the example above, may also be
secured by collateral. Subject to the terms of the Smart Contract,
collateral may be deposited in an escrow account (off-chain
collateral) or the collateral is deposited on the native blockchain
the Dapp is built on usually in the form of the cryptocurrency
native to the blockchain (on-chain collateral). In some cases,
there may be no collateral requirement at all11.

The hypothetical loan transaction is just one of the many
financial services/products available via DeFi. In the next
section, we will explore a few DeFi products.

Decentralised Finance – Financial Services and Products

Though there are several ways DeFi protocols are being used
today, we will highlight the most prominent use cases.


Stablecoins are the most popular use cases of DeFi protocols
around the world because crypto holders, traders and even Whales
(individuals who own a large amount of a particular cryptocurrency)
can hedge against the volatility of the prices of cryptocurrency by
buying digital assets that are pegged against fiat currency (money
issued by a government and declared as legal tender) or

Stablecoins are digital assets tied to a stable asset such as
fiat currency or a commodity like gold. They tend to stay stable
for longer periods of time than those that are non-asset backed
e.g., Bitcoin (“BTC”) or Ethereum (“ETH”). The
entity issuing the stablecoin usually sets up a “reserve”
where it securely stores the asset backing the
stablecoin12 and theoretically, the holder of the
stablecoin can redeem one unit of the stable coin for one unit of
the asset that backs it i.e., 1USD Coin (“USDC”) for

There are also some complex forms of stablecoins backed by other
stablecoins. For example, the NGN Token (“NGNT”) is a
collateral-backed digital currency issued by Token Mint that is
pegged to the value of the Naira and is not volatile. In addition
to being pegged to the value of the Naira, NGNT is also backed by
USDC. USDC is issued by regulated financial institutions in the
United States, and backed by fully reserved assets, and redeemable
on a 1:1 basis for US Dollars13. Therefore, a holder of
NGNT, can redeem the USDC equivalent of NGNT he holds and trade it
in for US Dollars.

However, criticism of stablecoin as a DeFi product remain.
Critics argue that stablecoins are only as stable as the asset
backing them; thus, they are still affected by the volatility of
the underlying asset14. They also believe that there is
a counterparty risk investors need to note as most stablecoin
issuers do not specify where they store their ‘reserves’
and how much value is actually stored. In instances where the value
of the reserves of the issuer is less than the value of the stable
coin issued, this impacts the ability of investors to redeem their
stablecoin for the underlying asset15.

Despite these criticisms, stablecoins remain one of the more
popular DeFi products and are even being used in countries where
their fiat-based currencies are losing value, e.g. in Brazil where
hyperinflation, poor economic factors and a host of other issues,
has caused a crash in the value of the Brazilian Real16.
Now, most of its citizens are using Tether Coin, a stablecoin
pegged to the Dollar, to carry out transactions and have more
stable savings17.

Borrowing & Lending

Another popular use of DeFi is borrowing and lending of assets
or money. There are two variations of the loan products, either
Peer-to-Peer’, meaning a situation where
a borrower borrows directly from a specific lender, or
Pool-Based’, where lenders provide funds
to a pool managed by the Dapp that borrowers can borrow from (this
is the most common variant)18. One of the perks on the
borrower’s side when considering a DeFi loan is that there is
little to no due diligence or credit checks like you would have
when accessing a loan from a traditional financial institution like
a bank.

The Decentralised lending works without either party having to
identify themselves and there are typically no credit checks or
investigations into whether the debt profile of a borrower will
deter the lender from giving out the loan19. So how do
the loans work? As mentioned above, Pool-Based loans are the most
common variant of DeFi loans because of the incentive it offers to
its users.

Simply, a typical Pool-Based loan works by users pooling their
assets or cryptocurrency and distributing to borrowers according to
the terms of the loan written into the Smart Contract. Typical loan
terms written into the Smart Contract include:

  • Principal repayments and Interest
    – the underlying Smart Contracts of
    these loan pools are programmed to distribute the principal
    deposited plus the interest to each investor20. After
    the agreed term of the loan, the DeFi lending platform is
    instructed by the Smart Contract to deduct the principal sum and
    interest from the borrower’s cryptocurrency wallets that have
    been linked to the Dapp (typically one of the conditions precedent
    to disbursement). The principal repayment and interest payment will
    then be shared to the lenders by the Dapp pro-rata their
    contribution to the pool21.

  • Security – the Smart Contract
    will require a collateral deposit by the borrower and this
    collateral may either be required to have more value than the
    cryptocurrency being granted as a loan from the pool or may be
    equal to the value of the assets they intend to
    borrow22. Collateral may take the form of cryptocurrency
    or fiat currency, subject to the terms of the Smart Contract. In
    the event of default by the borrower, the collateral will be
    available for use to remedy the default23. Borrowers can
    access DeFi loan platforms by simply visiting any DeFi platform
    that offers loans. Potential borrowers are advised to read through
    the Terms and Conditions and the collateral requirements before
    applying for the loan.

  • In addition, where the collateral is a
    cryptocurrency, one of the terms set include that where the market
    value of the cryptocurrency drops below a certain price point set
    by the pool, it will be liquidated and shared among the individuals
    that deposited into the pool and the borrower may keep the borrowed
    asset as a result.

So for example, if you want to take a loan of 1 BTC from a pool,
you have to deposit the cash equivalent of 1BTC or another
cryptocurrency or asset as collateral into a cryptocurrency wallet
and link it to the DeFi platform built on the same blockchain
technology as the Smart Contract24. Once the collateral
is deposited, the borrower receives 1 BTC and after a few months in
accordance with the terms of the Smart Contract, the borrower
returns the 1BTC with interest and then the Smart Contract releases
the collateral to the borrower. The interest is shared among the
investors and the loan transaction has ended. On the other end,
where the borrower defaults on its payment obligations, the
collateral deposited in the vault – the equivalent of 1 BTC – is
released and used to remedy the default – also executed
automatically by the Smart Contract.

One distinct attraction of DeFi is limited obligations imposed
on the borrower, as may be gleaned from the above. For example,
there are no obligations limiting the borrower from accessing
further loans as you would find in traditional loans with banks,
there are no required financial covenants to be maintained by
corporate borrowers nor are their clauses limiting its business
such as material change and change of control clauses.

DeFi loans are also experimenting with a concept called
‘Flash Loans’. Flash loans work on the
basis that the loan is taken out and paid back in the same
transaction25. Creators of flash loans highlight how the
cryptocurrency borrowed may be sold on an exchange or platform that
has attached a higher price to it so that the borrower of the flash
loan makes an instant profit. If the loan cannot be paid back
within minutes, the funds revertto the lender or pool. For example,
if Mr A gets 1 ETH from a pool that values it at USD$200 (Two
Hundred Dollars) and sells it on an exchange for USD$220 (Two
Hundred and Twenty Dollars) or trades the asset on a P2P Platform
for USD$220, Mr A makes a $20 profit and can pay back the value of
the loan (USD$200) to the pool, or can buy 1ETH at USD$200 and give
it back to the pool. If the transaction is not completed within the
short time frame, it fails26. To curtail the risk of the
flash loan failing within the short time frame, the cryptocurrency
usually stays in the lenders wallet until the borrower has
completed the terms of the flash loan. There is no collateral
deposited during a flash loan transaction and flash loan
enthusiasts hope that it can be developed to have more use casesfor
short sellers and arbitrage traders27.

Yield Farming

One of the criticisms of cryptocurrency as an investment class
is that it does not yield interest as it sits in a wallet. However,
the soaring prices of cryptocurrency meant holders were not
particularly bothered about this. That was until the ‘Dip’
happened28. With Bitcoin crashing from an all-time high
of USD$65,000 (Sixty-Five Thousand Dollars) to USD$37,000
(Thirty-Seven Thousand Dollars), and other coins following suit
(Ethereum dipped by half of its market price), traders and holders
of cryptocurrency are looking to hedge against the volatility of
cryptocurrencies and gain interest on their investment while
holding their cryptocurrencies despite the price movements
(‘Hodling’ as popularly termed).

DeFi products are offering them an opportunity for passive
returns on their assets through yields – “Yield
Farming”29. By depositing stablecoins (defined
below) into a pool administered by the Dapp, investors will be
rewarded for their deposits with annual returns called
Annual Percentage Yields
(“APY”)30. Another interesting factor to Yield
Farming is that in addition to the expected APY, some DeFi
protocols offer a new Token as an additional
incentive31. If the new token received by the investors
begins to gain traction in the market, they can sell it and make
more profit.

As peculiar as it sounds, the incentive creates a positive
growth loop for the DeFi protocols and its investors. Getting more
people to use the protocol will increase the value of the native
token the protocol offers, and investors may be attracted to use
the protocol and “farm” to get the token.

However, Yield Farming has been criticised by stakeholders as a
“pump-and-dump” scheme as the coins can easily lose their
value if people decide to stop using the DeFi protocol it is
attached to. There is also a possibility that Whales can use it to
manipulate the price of the tokens they own by lending some to a
pool and then using another account to borrow the cryptocurrency,
artificially driving up demand, which will in turn affect the price
of the token32.

The Good, the Bad and the Ugly of Decentralised Finance

Since the global financial crisis of 2007/2008 where investors
were left with investments that had lost significant value and
rising debt, faith in traditional financial institutions have been
shaken. Citizens of countries with declining economies, like
Venezuela and Zimbabwe also hold their monetary authorities
responsible for the monetary policies they have implemented which
they believe are not economically viable. These are one of the many
reasons why cryptocurrency enthusiasts and retail investors believe
decentralised finance is the future of finance by decentring
central authorities such as central banks and middlemen such as
banks and other financial institutions, and empowering everyday
people via peer-to-peer exchanges33.

Advantages of Decentralised Finance

Some of the advantages include:

  • Speed: DeFi
    protocols and products are processed quickly; for example, loan
    requests are processed timeously considering the promptness of
    blockchain-based transactions. This is in contrast to bank loans
    which may take days or even weeks for approval.

  • Accessible and
    : DeFi products
    offered on blockchain technology fosters access to finance as users
    are not limited by location or credit history. Retail investors can
    access financial products or services through DeFi, provided they
    meet the terms of the Smart Contract. There are also no limits on
    the value that may be available users as opposed to traditional
    financial institutions who are subject to regulatory limits. For
    example, the Banks and Other Financial Institutions Act 2020
    provides that a commercial bank cannot, without the prior written
    approval of the Central Bank of Nigeria (“CBN”), grant to
    any person any loan or credit facility such that the total value of
    the liability in respect of that person exceeds 20% of the
    bank’s shareholders’ funds unimpaired by losses.

  • Transparency:
    blockchain transactions are transparent as you can trace the wallet
    IDs of contract parties, and execution and completion time of
    transactions are recorded on the network. In addition, transactions
    conducted on them are permanent and cannot be altered. Once a
    financial transaction or Smart Contract has been recorded onto a
    blockchain, its terms are visible to participants on the blockchain
    network and become immutable. This creates some form of security
    with DeFi financial products as assets or transaction records
    cannot be altered or fraudulently manipulated34. In
    addition, as the terms of the Smart Contract are written as codes
    on the blockchain, this limits disputes on interpretation of
    contract terms.

As seen above, DeFi has great benefits but there are also
inherent risks.

Disadvantages of Decentralised Finance

  • Hackers: Hackers are a major
    security risk for a blockchain technology network. While it is hard
    to hack blockchain technology, it is not impossible. Since 2011,
    over USD$11,000,000,000 (Eleven Billion Dollars) worth of
    cryptocurrency has been stolen35 from crypto wallets
    that were hacked36.

  • Strict Terms:
    the financial terms of Smart Contracts are typically stringent as a
    scale against the limited requirements. Take De-Fi loans where the
    collateral required is typically set to be equal in value (or more)
    to the loan requested. Such stringent financial terms are limiting
    with respect to persons who can realistically access the DeFi

  • Fakes: There
    have been instances where scammers have used popular Dapps to list
    fake cryptocurrencies labelled as tokens that can be used to access
    DeFi protocols38. Investors have to be careful in
    choosing the digital assets they decide to invest in and retail
    investors may not appreciate the due diligence required.

  • Investor
    : DeFi services,
    products, and technology, are by their very nature, typically
    outside regulatory oversight. Thus, the investor protection
    provisions that regulated financial institutions are subject to may
    not apply to Dapps, DeFi protocols or issuers. Without these
    investor protection requirements, consumers and their investments
    are subject to the whims of the issuers of these financial
    products. As highlighted earlier, there is a conspicuous
    counterparty risk with De-Fi products. For example, if an issuer
    pulls the plug on a Dapp or blockchain technology, that could put
    investors funds or any collateral that have been deposited in

There are definite pros and cons to De-Fi that requires serious
consideration for anyone looking to explore De-Fi products or
services. Cryptocurrency enthusiasts are ever optimistic of
decentralised finance as the future of finance in terms of the
delivery of financial products and services and the different
innovative solutions that may result from block chain

Is Decentralised Finance the Future of Finance?

According to Benedikt Christian Eikmanns (Senior Consultant
at the strategy consultancy Roland Berger and doctoral candidate
(PhD) at the Technical University of Munich
), Prof. Dr.
Isabell Welpe, (full professor (W3) at the Technical University
of Munich, head of the Chair for Strategy and Organization,
co-founder of the TUM blockchain center
), and Prof. Dr.
Philipp Sandner (founder of the Frankfurt School Blockchain
Center (FSBC)

“For the first time in history, a financial system is
developing without intermediaries at a large scale. So far, DeFi
applications cannot compete in terms of security, speed, and ease
of use with traditional finance solutions yet. But DeFi has
produced real, working applications that have already managed to
attract billions of capital. Those resources will be used to
develop more competitive and user-friendly applications in the

This is a succinct view of the widely held position on the
future of DeFi – the future is bright! In Nigeria today, platforms
like Xend Finance are leveraging on DeFi to offer financial
products to credit unions, trade unions and individuals. Credit
unions provide capital and invest on the Xend Finance platform. The
unions are given the $XEND token to hold and their capital is
invested in other DeFi pools. At the end of the savings period, the
returns on their investment is given to a member of the credit
union for that month or period40.

In terms of the future of DeFi in Nigeria, it is important to
recognise that there are currently discordant approaches from
regulators in the financial sector regarding cryptocurrency, which
may impact the ease of operating Dapps and accessing DeFi products.
On the one hand, the CBN has prohibited banks and other financial
institutions from dealing in cryptocurrency and providing payment
services to cryptocurrency exchanges and further directed financial
institutions to close the accounts of customers who operate
cryptocurrency exchanges within their system. On the other hand,
Nigeria’s Securities and Exchange Commission (“SEC”)
in 2020, released its ‘Statement on Digital Assets, their
Classification and Treatment’, which set out how SEC would
regulate crypto assets – signifying SEC’s acceptance of
cryptocurrency. While exchanges have found a work around these
regulatory limits by facilitating peer-to-peer trades, these
fragmented approach by the Nigerian regulators may leave investors
wary of investing funds in a finance product whose infrastructure
is based on blockchain and cryptocurrency.

Though DeFi is still a developing area of finance, one cannot
underestimate its attractiveness to investors, whether
institutional, high-net worth or retail, especially with respect to
the different innovative solutions on offer. We also opine that it
will be complementary to traditional financial services as
innovation challenges the way traditional banks and financial
institutions operate and offer their services.

As more money is being invested into the development of Dapps
and De-Fi protocols, DeFi will become more efficient, easier to use
and offer various iterations of financial products which will
financially assist individuals and even countries. The future of
finance is decentralised and DeFi will only continue to grow.


1. “The 10 Most Important
Cryptocurrencies Other Than Bitcoin” by Luke Conway, reviewed
by Julius Mansa for Investopedia, accessed 2 June 2021.

2. Patrick Bucquet, Marie Lermite and
Ally Jo in partnership with Coqonut, 2019, How many active
crypto traders are there across the globe?
Chappuish Halder
and Co.

3. To understand the types of
cryptocurrency and their various functionalities, you can read our
article on Cryptocurrency and Initial Coin Offerings which can be
accessed here.

4. “What is Decentralized Finance
(DeFi)?” by On Yavin for City A.M, accessed 2 June 2021.

5. “What is Decentralized Finance
(DeFi)?” by On Yavin for City A.M, accessed 2 June 2021.

“What Happens When Cryptocurrencies Earn Interest?” by
Marco Di Maggio, Nicholas Platias, Wenyao Sha, and Nicolas
Andreoulis for Harvard Business Review, accessed 2 June 2021.

6. Usman W. Chohan, MBA, PhD, 2021,
Decentralized finance (DeFi): an emergent alternative financial
architecture, Discussion Paper Series: Notes on the 21st
, Critical Blockchain Research Initiative.

7. “The Complete Beginner’s
Guide to Decentralized Finance (DeFi)” by Binance Academy,
accessed 2 June 2021.

8. “Smart Contracts” by Jake
Frankenfield, reviewed by Erika Rasure for Investopedia, accessed 2
June 2021.

Ethereum, accessed 2 June 2021.

10. Federal Reserve Bank of St. Louis
Review, Second Quarter 2021, 103(2), pp. 153-74.

11. Federal Reserve Bank of St. Louis
Review, Second Quarter 2021, 103(2), pp. 153-74.

12. “What Are Stablecoins?” by
Alyssa Hertig for Coindesk, accessed 3 June 2021.

13. “NGNT by Token Mint” by
Zino for Buycoins Africa, accessed 3 June 2021.

14. “Why Some Stablecoins Are
Dangerous” by Market Mad House on ALTCOIN MAGAZINE, accessed 3
June 2021.

15. “Stablecoins: Understanding
Counterparty Risk” by Team Gemini, accessed 3 June 2021.

16. “Exchange rate imbalance between
the Brazilian real and the dollar will persist in 2021, say
analysts” by Latin America Business Stories, accessed 3 June

17. “Brazil’s Ailing Economy Is
Helping Dollar-Pegged Stablecoins Find Traction” by Leigh Cuen
for Coindesk, accessed 3 June 2021.

18. “Decentralized finance
(DeFi)”by, accessed 2 June 2021.

19. “Decentralized finance
(DeFi)”by, accessed 2 June 2021.

20. “What are Defi Loans?” by
Matt Hussey for Decrypt, accessed 2 June 2021.

21. “DeFi Loans” by DeFi Rate,
accessed 23 June 2021.

“HOW DOES DEFI LENDING WORK?” by Akash Takyar for
LeewayHertz, accessed 23 Jun 2021.

22. ibid.

23. Ibid.

24. “DeFi Loans” by DeFi Rate,
accessed 23 June 2021.

25. “Decentralized finance
(DeFi)”by, accessed 2 June 2021.

26. “Decentralized finance
(DeFi)”by, accessed 2 June 2021.

27.Aave Protocol, Accessed 2 June 2021

28. “Crypto Price Crash: Why
Ethereum Could Soon Overtake Bitcoin” by Billy Bambrough for
Forbes, accessed 2 June 2021.

29. “What Happens When
Cryptocurrencies Earn Interest?” by Marco Di Maggio, Nicholas
Platias, Wenyao Sha, and Nicolas Andreoulis for Harvard Business
Review, accessed 2 June 2021.

30. “Annual Percentage Yield
(APY)” by James Chen, reviewed by Margaret James for
Investopedia, accessed 2 June 2021.

31. “What Happens When
Cryptocurrencies Earn Interest?” by Marco Di Maggio, Nicholas
Platias, Wenyao Sha, and Nicolas Andreoulis for Harvard Business
Review, accessed 2 June 2021.

32. “What’s ‘Yield
Farming’? (And How Do You Grow Crypto?)” by The Washignton
Post, accessed 2 June 2021.

33. “Decentralized Finance Is
Building A New Financial System” by E Napoletano and John
Schmidt for Forbes Advisor, accessed 3 June 2021.

34.”Decentralised Finance” by
Bird & Bird, accessed 3 June 2021.

35. “Hackers have got their hands on
$11 billion in stolen cryptocurrency since 2011” by Stephanie
Palmer-Derrien for SmartCompany, accessed 3 June 2021.

36. “Once hailed as unhackable,
blockchains are now getting hacked” by Mike Orcutt for MIT
Technology Review, accessed 3 June 2021.

37. “Decentralized Finance Is
Building A New Financial System” by E Napoletano and John
Schmidt for Forbes Advisor, accessed 3 June 2021.

38. “What is Decentralized Finance
(DeFi)?” by On Yavin for City A.M, accessed 2 June 2021.

39. “Decentralized Finance Will
Change Your Understanding Of Financial Systems” by Benedikt
Christian Eikmanns, Prof. Dr. Isabell Welpe, and Prof. Dr. Philipp
Sandner, for Forbes, accessed 3 June 2021.

40. Xend Finance, ver 1.1. Xend
Finance Litepaper The first DeFi Credit Union on Binance Smart

The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.

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