Author: 0xmiddle
Review: outprog
Source: Content Guild - Research
Cover background source: unsplash.com
In recent years, there have been complaints in Web3, with no more phenomenal innovations in the industry, nor any new breakout effects; talent is returning to Web2 or switching to AI; VC coins are facing a crisis, and Meme has surprisingly become the main character. We miss the excitement, shock, and anticipation we felt during the years of DeFi Summer and NFT Summer.
However, innovation is actually happening quietly all the time. At least in the DeFi space, I see the undercurrents — the emerging DeFi 4.0.
To clarify what DeFi 4.0 is, let's first undertake a historical segmentation of DeFi.
DeFi 1.0: Decentralization of Basic Financial Products
Time: Around 2018~2020
At this stage, the first-generation DeFi protocols such as MakerDAO, Compound, Uniswap, and Aave emerged, realizing the decentralization of basic financial services such as trading, lending, and asset management. Particularly, the invention of AMM created an unprecedented paradigm, sparking an egalitarian movement of 'anyone can be a market maker' and also generating a wealth myth related to liquidity mining.
DeFi 2.0: Enhancing Capital Efficiency
Time: Approximately 2021~2022
During this period, a batch of new DeFi protocols emerged. Overall, these protocols lack the simplicity and beauty of the first-generation DeFi protocols, and their mechanisms are relatively complex, but their goals generally revolve around improving capital efficiency, especially liquidity efficiency, while also attempting to address the issues of liquidity accessibility and sustainability.
Typical representatives include: attempts like Abracadabra, Alchemix, and Frax Finance that try to circumvent over-collateralization in lending protocols and stablecoin protocols; LaaS (Liquidity as a Service) protocols like Tokemak that aim to help newly launched DeFi projects obtain liquidity; and protocols like OlympusDAO that solve liquidity sustainability issues through self-holding liquidity methods.
It is worth mentioning that Uniswap V3 also emerged during this period, and the interval market-making algorithm significantly improved LP's capital efficiency compared to the previous full price range market-making.
Another significant innovation is the Gauge Voting of the Curve protocol, which is the veToken governance mechanism. This is a token governance scheme that effectively achieves liquidity sustainability. This mechanism was later widely adopted by many protocols in the DeFi industry.
DeFi 3.0: Expansion of Composability
Time: Approximately starting in 2022
Regarding the definition of DeFi 3.0, there is still a lack of consensus in the industry; some believe it is LSDFi and Restake, some think it is cross-chain/full-chain DeFi, and others consider it Farming as a Service. This reflects that during the 3.0 phase, DeFi has seen innovations and progress in multiple aspects. Overall, however, the developmental trend of DeFi in this phase mainly reflects the expansion of composability.
In the 1.0 era, DeFi Lego was already a term that was widely mentioned and discussed, but its combinability comparable to Lego was only fully realized in the 3.0 era.
Image source: Internet
Starting from the Shanghai upgrade, Ethereum officially completed its transition from PoW to PoS, and ETH LSD became a fixed-income product similar to dollar bonds in the DeFi space. Against this backdrop, many protocols began to develop Restake scenarios based on ETH LSD, providing users with compounded yields; representative projects include Eigenlayer, Puffer; and some protocols leveraging the yield characteristics of LSD to provide users with interest swap products and diversified arbitrage strategies, such as Pendle.
With the improvement of infrastructure, the cost of building chains has increased, leading to the emergence of many L2s and new public chains, which has brought diversification but also fragmentation. Some DeFi protocols, empowered by underlying cross-chain protocols, attempt to create composability across different chains, allowing users to access funds, exchange assets, and participate in staking and lending across chains. Representative projects include the all-chain DEX Stargate, the all-chain lending protocol Radiant, and the all-chain LSD protocol Bifrost.
Due to the improved composability of DeFi, various 'one fish multiple eats' strategies have emerged, with some protocols beginning to offer FaaS (Farming as a Service) to users. They provide automated strategies via smart contracts, simplifying user operations while offering various high-yield strategies, providing users with a 'passive income' service. Representative projects include Rari Protocol, Harvest Protocol, and Yearn Finance, which has traveled through from the 1.0 era.
DeFi 4.0: Self-Custody and Personalized Finance
Time: Beginning in 2023
Finally, we are going to discuss DeFi 4.0. Due to the performance limitations of Ethereum, DeFi protocols on Ethereum could not provide independent proxy computing capabilities for each user, thus adopting a single contract management model. Whether it is Uniswap, Compound, MakerDAO, or the vast majority of Ethereum DeFi protocols, they all require users to authorize funds to contracts and conduct unified configuration and management within the contracts.
However, with the emergence of various L2 and high-performance new public chains, this performance limitation has effectively disappeared. Nevertheless, for a long time, the strong inertia of past paradigms continues to exert influence. In fact, for high-performance new public chains, DeFi can be constructed as a higher-order form.
In this new form of DeFi, each user can deploy their own smart contract proxy, interact with protocols in a customized manner, and independently carry out personalized financial activities.
There is currently no unified naming for this new form in the industry. New lending protocols like Morpho, Ajna, and Euler Finance have created a new term called 'modular lending'. Extending this, we can arrive at a new concept — 'modular DeFi'; the Arweave/AO ecosystem has popularized the term AgentFi, meaning 'agency finance', and I personally prefer the term SovFi (Sovereign Finance). This term was first seen in a tweet by outprog, the initiator of EverVision, where Permaswap, developed by EverVision, is the leading DEX in the Arweave/AO ecosystem. The tweet mentioned that sovereign finance emphasizes 'individuals providing financial services' and 'individual financial independence'. Intuitively, it means allowing everyone to establish their own exchange, create their own bank, and set up any financial service.
Image source: https://x.com/outprog_ar/status/1853102029620805912
Regardless, as the industry develops and narratives rise, consensus will inevitably coalesce around a certain name, so let's put aside the naming issue for now and refer to it as DeFi 4.0.
The core characteristics of DeFi 4.0 are threefold:
Firstly, self-control. Users do not need to authorize their assets to a unified contract, but can manage their funds through a proxy contract they control, participating in financial activities.
Secondly, personalization and customization. Users can set the content and parameters of financial activities based on their needs.
Thirdly, peer-to-peer. The trading model is no longer pool-to-pool, but rather peer-to-peer, or point-to-network.
For instance, Permaswap allows LPs to autonomously set market-making curves and intervals, matching trades with traders through a peer-to-peer mechanism. Users of so-called 'modular lending' protocols can create their own lending pools, autonomously set over-collateralization rates and lending rates, and transact with borrowers through a peer-to-peer matching mechanism. It is worth mentioning that to avoid future incompatibility among proxy contracts developed in different ways, Permaswap has proactively created a standard protocol — FusionFi Protocol. All proxy contracts (Agents) established according to this standard can communicate with each other, thereby facilitating mutual matching, effectively allowing Permaswap to potentially surpass a simple DEX, becoming a liquidity aggregator, and even a super aggregator that integrates various financial forms.
Summary
New problems give rise to new solutions, and new solutions may contain new problems. Like the development of most things, DeFi is also constantly evolving through this law of continuous negation. Looking back at the transition from DeFi 1.0 to DeFi 3.0, we can see that the DeFi space has always been filled with vibrant creativity; some innovations have visibly brought changes, while others, though less noticed, may also have far-reaching impacts.
At the beginning of 2024, we vaguely discovered new trends in the DeFi space — autonomy and personalization. We see hints of a new decentralized finance paradigm — DeFi 4.0. It seems to be little promoted and not yet significant, but 0xmiddle believes that it will eventually form a powerful narrative.
The era of sovereign finance is approaching!
Additional questionnaire:
What term do you think better describes DeFi 4.0?
A. Modular DeFi
B. AgentFi (Agency Finance)
C. SovFi (Sovereign Finance)
D. SelFi (Self Finance? Self Financial?)
E. Others (please share your thoughts)
