8. Blockchain and applications Flashcards
(108 cards)
1
Q
Q: What is blockchain (hard)?
A
• Blockchain is a type of DLT in which transactions are recorded with an unchangeable cryptographic signature called a hash.
- A Digital ledger: Open to anyone and records every transaction in “blocks
- Each Block contains Data, Hash and the previous hash. The previous hash is what makes the “chain” og blocks.
- Every time a new transaction occurs on the blockchain, a record of that transaction is added to every participant’s ledger.
2
Q
Q: What is a blockchain (short)?
A
A digital ledger that records transactions in blocks and is distributed across a network of computers.
3
Q
Q: What happens when a new transaction occurs on the blockchain?
A
A record of that transaction is added to every participant’s ledger.
4
Q
Q: What is Distributed Ledger Technology (DLT)?
A
Ledger: a digital database that stores and maintains a record of transactions in a decentralized manner
So the transactions are distributed across several ledgers
5
Q
Q: How are transactions recorded in a blockchain?
A
With an unchangeable cryptographic signature called a hash.
6
Q
Q: How is the blockchain stored in the network?
A
It is duplicated and spread across many computers.
7
Q
Q: What is the purpose (pros) of Distributed Ledger Technology (DLT)?
A
a) Decentralization
b) Transparency
c) Security
d) Efficiency
8
Q
Q: What makes a blockchain secure and unchangeable?
A
- Hashes or cryptography
- Decentralization (distributed across several nodes)
- Consensus mechanisms (PoW or PoS)
9
Q
Q: What is the relationship between a block and the previous block in a blockchain?
A
Each block is linked to the previous block, through hashes, forming a chain.
10
Q
Q: What is the main advantage of a blockchain?
A
1) Transparency (history of all transactions are openly available for anyone)
2) Decentralization (Distributed across many nodes [computers])
3) Security (cryptography/hashes)
4) Efficiency (smart contracts, reduce need for intermediates, reduce costs)
11
Q
Q: What is the role of a cryptographic signature in a blockchain?
A
It secures the records and makes them unchangeable.
12
Q
Q: How does a blockchain ensure data integrity?
A
1) Transparency: By distributing copies of the ledger to multiple participants.
2) Security: of the blockchain system itself
13
Q
Q: What type of information can be stored in a blockchain?
A
Various types of data, not just financial transactions.
14
Q
Q: What is the overall goal of using a blockchain?
A
To create a secure and decentralized system for recording and verifying transactions.
15
Q
Q: How does DeFi differ from TradFi (Traditional Finance)?
A
DeFi differs in the processes used to provide services but performs similar functions to TradFi. The main difference are the
a) disintermediation of services by the use of self-executing code (smart contracts) on blockchains.
16
Q
Q: What are decentralised applications (DApps) in DeFi?
A
Applications that allow users to interact with smart contracts and access DeFi services.
Allows financian services such as lending, borrowing, trading, and asset management, directly through the application.
17
Q
Q: What vulnerabilities does DeFi inherit from TradFi?
A
1) Operational Fragilities
2) Liquidity and Maturity Mismatches
3) Leverage
- Operational Fragilities:
• Weaknesses in the system from human error, technical failures or design flawn.
• Example: A bug in a smart contract. - Liquidity and Maturity Mismatches:
Liquidity: How fast an asset can be converted into cash
Maturity: Life span of an investment or a debt
• A mismatch between these can occur when when short-term liabilities (what you owe soon) exceed short-term assets (what you have or can quickly convert to cash).
• Example: Asset locked in a smart contract for a certain period. Not able to withdraw without penalty. Similarly, banks may lend to long-term customers using short-term deposits, which creates problems If many depositors want their money back soon - Leverage:
• Can take on leverage which can lead to substantial losses
• Example: Smart Contracts lock it. Volatile market. Big risk
18
Q
Q: What happened during the Terra Luna crash in 2022?
A
- Creation of TerraUSD (UST) and Luna: Terraform Labs created two types of tokens: TerraUSD (UST), which is a stablecoin (a cryptocurrency designed to maintain a stable value, in this case, pegged to the US dollar), and Luna, which is used to back the value of UST.
- Arbitrage Mechanism: The idea was that if the price of UST deviated from $1, there would be an opportunity for traders to make a profit. If UST was worth less than $1, a trader could buy UST cheaply and exchange it for $1 worth of Luna. This activity would help bring the price of UST back to $1.
- Burning of Luna to create UST: To create new UST, Luna tokens needed to be “burned” or removed from circulation. For instance, if a Luna token was worth $85, a trader could exchange it for 85 UST.
- Price Increase: The price of Luna rose dramatically, reaching a peak of $116 in April 2022.
- High Interest Rate: Traders could deposit UST on Terra’s lending platform (the Anchor Protocol) and earn a very high annual interest rate of 20%.
- Run on the Lending Platform: However, on May 2022, over $2 billion worth of UST was suddenly withdrawn from the Anchor Protocol. This is similar to a “bank run” in traditional finance, where many people withdraw their deposits at the same time, creating a liquidity crisis.
- Price Crash: In the days following this bank run, the price of Luna crashed dramatically, falling to just a fraction of a penny before being delisted (removed from exchanges).
- Impact: It’s estimated that this crash resulted in losses of $300 billion across the entire cryptocurrency market.
19
Q
Q: What caused the FTX collapse in 2022?
A
FTX:
• A cryptocurrency exchange platform
Alemada Research:
• Hedge-find founded by Bankman-Fried
• Used FTT as collateral for loans
- Both were tied to the risky and volatile FTT.
- Investors found out; starting to withdraw its FTT holdings. Liquidity problem
- FTX searched for bailout: Binance said no after due diligence
- Bankruptcy
20
Q
Q: How would you define DeFi in simple terms?
A
DeFi is a system of financial services that operate on a decentralized network:
1) Transparency - Public ledger
2) Security - Blockchain system
3) Efficiency - Remove intermediates by utilizing things as “smart contracts”
21
Q
Q: What is the role of smart contracts in DeFi?
A
Automize the terms and conditions in a decentralized manner
22
Q
Q: What are some examples of risks or vulnerabilities in DeFi?
A
a) Operational fragilities
such as weakness in smart contracts and protocols
b) Liquidity and maturity mismatches
c) Leverage
d) Interconnectedness
Interconnectedness refers to the extent to which different elements or participants in the DeFi ecosystem are interconnected or dependent on each other. If a vulnerability or failure occurs in one part of the ecosystem, it can have ripple effects and impact other interconnected components
23
Q
Q: What is the purpose of a decentralized ledger in DeFi?
A
1) Transparency
2) Eliminate need for intermediaries
3) Security: tamper-proof record-keeping of transactions.
24
Q
Q: How does DeFi differ from traditional financial systems?
A
DeFi operates on a decentralized network without reliance on central authorities, while traditional financial systems often involve intermediaries and centralized control.
25
Q: What is an algorithmic stablecoin?
A type of cryptocurrency designed to maintain a stable value by utilizing algorithms to regulate its supply and demand. Unlike traditional cryptocurrencies like Bitcoin or Ethereum, which can be highly volatile in value, algorithmic stablecoins aim to provide stability and reduce price fluctuations.
26
Q: What is a Peg?
A “peg” is a specified price for the rate of exchange between two assets. This is in direct contrast to “floating” currencies which have no hard price target and follow looser monetary policy
.
In the context of cryptocurrency, a peg refers to the specific price that a token is aiming to stay at. The majority-case use of a peg is for stablecoins;
27
Q: The Terra Luna crash in 2022
1. Terraform Labs created the TerraUSD (UST) coin to be an algorithmic stablecoin designed to maintain its peg through on-chain arbitrage activity
2. For UST to retain its peg, one UST could be changed for $1 worth of Luna at any time.
3. To create UST, you must burn Luna (i.e., remove Luna from circulation)
4. Luna token increased dramatically in price
5. May 2022, over $2 billion worth of UST was unstaked (taken off the Anchor Protocol) – i.e., there was a run on the lending platform
6. Over the next days, Luna collapsed
28
Q: What is the purpose of Hashing and Encryption?
a) Hashing: Validate Information:
Validate the integrity of the content (uniqueness)
b) Encryption: Protect sensitive information
Maintain data confidentiality and security.
29
Q: What is Hashing?
Hashing is the process of transforming data into a fixed-length string of characters using a hash function.
30
Q: What is the function of hashing in the crypto space?
In the crypto space, hashing is commonly used to create unique identifiers for data, such as transactions or blocks in a blockchain.
31
Q: How are hash functions designed?
• To validate information
• Validate the integrity of the content (uniqueness)
In simple terms, hashing is a process that takes an input, transforms it into a unique, irreversible code, and allows for efficient data verification. It's a fundamental aspect of data security and integrity checks.
1) Uniqueness: Every unique input generates a distinct hash value. Even a minor change in the input will yield a drastically different hash value, ensuring the uniqueness of each data set.
2) One-way: Hash functions are designed to be irreversible. This means that once a hash value is produced, it's computationally impractical to retrieve the original input from it. This characteristic is crucial for maintaining security.
3) Integrity: Hashing is used to verify the integrity of data. By comparing hash values, one can easily determine whether the data has been modified or tampered with. A change in data results in a different hash value, signaling a potential integrity breach
Hashing is a method used in computing for ensuring data integrity and security. It uses a specific function, known as a hash function, which takes an input and converts it into a fixed-size string of characters, known as a hash value or hash code.
32
Q: How does hashing ensure data integrity?
In simple terms, hashing is a process that takes an input, transforms it into a unique, irreversible code, and allows for efficient data verification. It's a fundamental aspect of data security and integrity checks.
1) Uniqueness: Every unique input generates a distinct hash value. Even a minor change in the input will yield a drastically different hash value, ensuring the uniqueness of each data set.
2) One-way: Hash functions are designed to be irreversible. This means that once a hash value is produced, it's computationally impractical to retrieve the original input from it. This characteristic is crucial for maintaining security.
3) Integrity: Hashing is used to verify the integrity of data. By comparing hash values, one can easily determine whether the data has been modified or tampered with. A change in data results in a different hash value, signaling a potential integrity breach
Hashing is a method used in computing for ensuring data integrity and security. It uses a specific function, known as a hash function, which takes an input and converts it into a fixed-size string of characters, known as a hash value or hash code.
33
Q: What is a Digital Signature?
An electronic verification of the sender. Used in blockchain to sign transactions. They provide three important properties: authentication, non-repudiation, and integrity:
a) Authentication: A digital signature confirms the identity of the sender by using the sender's private key to encrypt a hash of the message or document.
b) Non-repudiation: The recipient of a digitally signed message can prove to a third party that the message was indeed sent by the claimed sender.
c) Integrity: if a signed message is changed or tampered with, the digital signature becomes invalid.
34
Q: How to create a valid digital signature?
Several ways, but a cryptographic hash, which is used in blockchains, has the two steps:
1. Hashing
2. Encryption
35
Q: What is Encryption?
Encryption is a process used to convert a message or information into a form that is unreadable to unauthorized parties. It ensures that only authorized individuals with the necessary decryption key can access and understand the original message.
36
Q: Explain the encryption process for signatures
The encryption process involves two cryptographic keys: a private key and a public key. The sender, who wants to create a digital signature, uses their private key to encrypt the signature.
1. The sender generates a pair of cryptographic keys: a private key and a public key.
2. To create a digital signature, the sender uses their private key to encrypt the signature.This encryption process ensures that the signature is unique and can only be decrypted using the corresponding public key.
3. The encrypted signature, also known as the digital signature, is then combined with the message that the sender wants to sign.
4. The signed message is sent to the recipient.
5. Upon receiving the signed message, the recipient uses the sender's public key to decrypt the signature. This step verifies the authenticity of the signature because only the corresponding private key can successfully decrypt the encrypted signature.
6. The recipient then compares the decrypted signature with a newly computed hash of the received message. If the decrypted signature matches the computed hash, it ensures that the message hasn't been tampered with during transit and that it originated from the sender.
37
Q: Similarities between hashing and encryption?
Both transform or change data into a different format
38
Q: Differences between hashing and encryption?
1) Encryption is a two-way function, while hashing is a one-way function that changes a plain text to a unique digest that is irreversible.
2) Hashing is used to validate the integrity of the content (uniqueness). Encryption has the primary purpose of maintaining data confidentiality and security.
39
Q: What is the “double spending problem”?
The risk that someone could fraudulently spend the same digital currency unit multiple times.
40
Q: What is the solution to the “double spending problem”, and why?
Blockchain.
Blockchain is a public ledger, recording ALL Bitcoin transactions with time stamps, and then chain them together securely using cryptography. This public ledger is stored and synchronized on every node - a distributed public ledger.
41
Q: What is a blockchain (simple)?
A distributed public ledger, recording all previous Bitcoin transactions
42
Q: What does blockchain solve?
Solve the double spending problem without a central authority.
43
Q: Who maintain blockchain?
Miners
44
Q: Which one of the miners adds a new block?
All miners compete to solve block hash puzzle. The winner creates the next block.
45
Q: Why do miners have incentive to do mining?
Rewards: Block rewards and transaction fee rewards.
46
Q: Is there inflation of Bitcoin?
No, the issuance has a limit.
47
Q: What is the complete role of miners?
1. Maintaining the Blockchain:
Miners are responsible for ensuring the validity and integrity of transactions on the blockchain
2. Verifying and Packaging Transactions:
Miners take pending transactions from the Bitcoin network and verify their validity. They check if the transactions follow the rules and have the required digital signatures. Once verified, miners package these transactions into blocks.
3. Competing in Mining:
All miners compete with each other to solve a computational puzzle called the block hash puzzle. The puzzle involves finding a specific number, called a nonce, that, when added to the block, generates a hash with specific characteristics.
4. Adding a New Block:
The miner who successfully finds a valid nonce first has the right to add a new block to the blockchain.
48
Q: What are the incentives for miners?
Miners have incentives to perform mining activities due to the rewards they receive. There are two types of rewards
a) Block Rewards (Coinbase): When a miner successfully adds a new block to the blockchain, they receive a reward called the block reward or coinbase. Initially set at 50 BTC, the block reward is halved approximately every four years. Currently, it stands at 6.25 BTC per block. This reward serves as the primary incentive for miners.
b) Transaction Fee Rewards: When users send Bitcoin transactions, they include a transaction fee. This fee is determined by market forces and can be set by the users themselves. Miners prioritize transactions with higher fees because they can include those transactions in the limited space available in each block. By including transactions with higher fees, miners can maximize their profits.
49
Q: What is a nonce?
The nonce is a random number used in the mining process to solve the proof-of-work puzzle. Miners repeatedly change the nonce value until they find a hash that meets the required difficulty level.
Q: What is the average size of a block, and how many separate transactions does it contain?
On average 1MB in size. Generally contains around 2,500 (max 4000) separate transactions.
50
Q: What happens if two blocks are creates simultaneously?
“The longest chain rule.” – Miners continue to mine on top of block A and B. If the next block is mined on top of A, B becomes discarded.
51
Q: How many blocks are generally recommended for security?
100 additional blocks to be built on top of a particular block in the chain
52
Q: What is a Bitcoin Fork?
A Bitcoin fork is a term used to describe a situation where the original Bitcoin blockchain splits into two separate branches, creating two distinct versions of Bitcoin. One significant example is the Bitcoin Cash (BCH) fork that occurred on August 1, 2017
53
Q: What are consensus mechanism in blockchain?
Consensus mechanisms are protocols that ensure all nodes (computers) in a blockchain network are in agreement about which transactions are valid and should be added to the blockchain. These mechanisms help maintain a consistent and trustworthy ledger.
There are two commonly used consensus mechanisms:
1. Proof of Work (PoW)
2. Proof of Stake (PoS)
54
Q: Explain the two commonly used consensus mechanisms
1. Proof of Work (PoW):
In PoW, nodes in the network, known as miners, compete to solve complex mathematical puzzles. This process requires significant computational power and energy. The first miner to solve the puzzle gets to create a new block and receives a reward. This mechanism is used by Bitcoin.
2. Proof of Stake (PoS):
PoS is an alternative to PoW and is considered more environmentally friendly. In PoS, the selection of the next block creator is based on the number of coins (or stake) a node holds in the network. Nodes with a larger stake have a higher probability of being chosen to create the next block. Ethereum is planning to transition to a PoS protocol with Ethereum 2.0.
55
Q: What are some of the advantages of PoS over PoW?
1) Scalability: PoS has the potential to handle a higher number of transactions per second, making the network more scalable compared to PoW-based cryptocurrencies like Ethereum and Bitcoin.
2) Enhanced Security: PoS incentivizes stakeholders to act in the network's best interest as they have a financial stake in maintaining the network's integrity and value.
3) Reduced Energy Consumption: PoS requires significantly less computational power and energy compared to PoW, resulting in a more sustainable and environmentally friendly consensus mechanism.
56
Q: What is The Lightning Network (LN)?
An optional transaction layer on top of the blockchain
57
Q: How does the Lightning Network help speed up transactions on the blockchain?
By enabling off-chain transactions within payment channels, the Lightning Network reduces the time it takes to process transactions on the blockchain.
58
Q: What are the steps involved in using the Lightning Network?
The steps include opening a payment channel, conducting off-chain transactions, and settling the final balance on the blockchain when closing the channel.
59
Q: What is the primary purpose of the Lightning Network?
The Lightning Network aims to enable faster and more cost-effective transactions, particularly for micropayments, while addressing the scalability challenges of blockchain networks.
60
Q: What are the three different forks?
1) Temporary Fork:
Miners discover a block at the same time, resulting in a competition where the longest blockchain is viewed as the true one.
2) Soft Fork:
New rules that are compatible with the old ones. Blockchain remains as one unified chain.
3) Hard Fork:
Permanent split in the blockchain.
61
Q: What are the key elements of the DeFi ecosystem?
A: The key elements of the DeFi ecosystem include permissionless blockchains, smart contracts, DeFi protocols, and decentralized applications (DApps).
62
Q: What is the role of permissionless blockchains in DeFi?
A: Permissionless blockchains provide a transparent and immutable ledger for recording transactions in the DeFi ecosystem.
63
Q: What do smart contracts do in the DeFi ecosystem?
A: Smart contracts are self-executing code that automates the terms and conditions of transactions on the blockchain.
64
Q: What are DApps in DeFi?
A: DApps are decentralized applications that allow users to interact with smart contracts and facilitate financial intermediation in the DeFi ecosystem.
65
Q: What is the main difference between DeFi and TradFi?
A: DeFi aims to replace regulated intermediaries with computer code and decentralized validation systems, while TradFi relies on trusted intermediaries within the regulatory framework.
66
Q: What is Proof of Work (PoW)?
A: Proof of Work is a consensus mechanism used in blockchain systems like Bitcoin, where miners solve computational puzzles to validate transactions and create new blocks.
67
Q: What is Proof of Stake (PoS)?
A: Proof of Stake is a more environmentally friendly consensus mechanism where participants validate transactions based on the number of coins they hold, rather than computational power.
68
Q: What is the role of smart contracts in DeFi?
A: Smart contracts are self-executing code deployed on a blockchain that automatically fulfill the terms and conditions of a transaction in DeFi.
69
Q: Why are smart contracts important in DeFi?
A: Smart contracts allow anyone with the required crypto-assets to participate in DeFi protocols and enable automated execution of transactions.
70
Q: What are blockchain native tokens in DeFi?
A: Blockchain native tokens are the tokens specific to a blockchain network, such as ether on Ethereum, and they derive value from the activities happening in DeFi protocols.
71
Q: What is composability in the context of DeFi?
A: Composability refers to the ability to combine different components of the DeFi ecosystem to create new and sophisticated products, similar to building with Lego blocks.
72
Q: What is self-custody in DeFi?
A: Self-custody means that participants in DeFi protocols maintain control of their crypto-assets and have the ability to transact without relying on third parties.
73
Q: What are oracles and bridges in DeFi?
A: Oracles provide access to off-chain data, while bridges facilitate interoperability between different blockchains, both of which are essential for the functioning of DeFi activities.
74
Q: What are the external dependencies of DeFi?
A: DeFi relies on existing technical infrastructures and intermediaries in the crypto-asset space, such as blockchain networks, trading platforms, stablecoins, and oracles.
75
Q: What are decentralised autonomous organisations (DAOs) in DeFi?
A: DAOs are governance structures in DeFi that aim to be member-owned communities without centralized leadership. However, the concentration of voting power can be high and decision-making processes may not always be transparent.
76
Q: What are the four different elements that are important in explanation of the Defi system?
a) Permissionless blockchains
b) Smart contracts
c) Defi protocols
d) Decentralized applications (Dapps)
77
Q: What are some of the distinguishing features of DeFi?
1) Smart contracts (digital agreements)
2) Blockchain native tokens (Tokens specific to a particular blockchain network)
3) Composability (Ability to build something unique, like LEGO blocks)
4) Self-custody (having full control and ownership over your assets)
5) Oracles and Bridges
78
Q: What is Oracles and Bridges?
Oracles: Oracles are like messengers that bring information from the real world to the blockchain. They help smart contracts get data like prices or weather conditions that are not directly available on the blockchain.
Bridges: like connectors between different blockchains. They allow assets or information to move between different blockchains, so they can work together and share resources.
79
Q: How do decentralized lending platforms work in DeFi?
A: DeFi lending platforms rely on pooled assets provided by lenders, use collateral instead of creditworthiness assessments, and require over-collateralization for loans.
80
Q: What are flash loans in DeFi?
A: Flash loans allow users to borrow, execute transactions, and repay the loan within the same blockchain transaction. They do not require collateral and are settled atomically.
81
Q: What are the different types of crypto-asset trading platforms in DeFi?
A: There are centralized (CEX) and decentralized (DEX) trading platforms in DeFi. DEXs facilitate peer-to-peer or peer-to-pool trades settled through smart contracts.
82
Q: How do automated market makers (AMMs) work in DeFi?
A: AMMs are autonomous protocols that secure liquidity for crypto-asset trading pairs by utilizing liquidity pools locked inside smart contracts. They adjust token prices through arbitrage trading.
83
Q: What is yield farming in DeFi?
A: Yield farming involves lending or borrowing crypto-assets across various DeFi platforms to earn additional crypto-assets as rewards.
84
Q: What are tokenized derivatives in DeFi?
A: Tokenized derivatives are tokens whose value depends on the fluctuations of referenced assets or other observable variables. They may be governed by programmable code and can require oracles for tracking underlying asset information.
85
Q: What is margin trading in DeFi?
A: Margin trading in DeFi allows users to leverage their crypto-assets by borrowing additional funds to build long or short positions. Collateral acts as a guarantee, and automatic liquidation may occur if margin values fall below a certain threshold.
86
Q: What vulnerabilities are associated with operational fragilities in DeFi?
A: Operational fragilities in DeFi include governance arrangements, dependence on blockchain networks, smart contracts, and oracles and bridges.
87
Q: What vulnerabilities are associated with smart contracts in DeFi?
A: Smart contracts in DeFi are complex and prone to coding errors. Once deployed, they are immutable, making it difficult to rectify errors or fraudulent transactions.
88
Q: What risks are associated with oracles in DeFi?
A: Oracles are crucial for executing off-chain operations and retrieving data, but they can introduce dependency on third-party providers. Errors or attacks on oracles can have negative consequences in multiple protocols.
89
Q: How do bridges pose operational risks in DeFi?
A: Bridges connect protocols across different blockchains but can become targets for theft and misappropriation. Compromised bridges can result in the loss of assets and affect the value of wrapped tokens on destination chains.
90
Q: What are liquidity and maturity mismatches, and why are they concerning in DeFi?
A: Liquidity and maturity mismatches mean that there can be timing and availability issues with funds in DeFi. This is concerning because it can lead to situations where many people want to withdraw their funds at the same time, causing problems for the system.
91
Q: How can liquidity risks arise in stablecoins and lending platforms within DeFi?
A: Liquidity risks in stablecoins happen when many people try to cash out their stablecoin holdings all at once. In lending platforms, liquidity risks occur when there is high demand for withdrawals but not enough funds available to meet those requests.
92
Q: What is composability in DeFi, and how does it contribute to interconnectedness?
A: Composability in DeFi refers to the ability of different protocols to work together. This interconnectedness can create situations where problems in one protocol can quickly spread to others, increasing the risk of financial contagion.
93
Q: What risks are associated with concentration and complexity in DeFi?
A: Concentration in DeFi means that a few protocols or entities have a lot of influence in the ecosystem. This can be risky because if one of them fails, it can have widespread effects. Complexity in DeFi makes it harder to understand and predict how different parts of the system will interact, increasing the risk of unexpected issues.
94
Q: How do DeFi platforms depend on third-party providers for their functioning?
A: DeFi platforms rely on external services like oracles for getting off-chain data and the internet infrastructure for their operations. These third-party providers are crucial for the proper functioning of DeFi protocols.
95
Q: What are some of the vulnerabilities of DeFi?
1) Operational fragilities
2) Liquidity and maturity mismatches
3) Leverage
4) Interconnectedness, concentration and complexity
5) Other vulnerabilities (market integrity, cross-border regulatory arbitrage, cryptoisation)
96
Q: What is the operational fragilities of DeFi?
Weaknesses in how DeFi operates, such as unclear governance arrangements, technical limitations in blockchain networks and smart contracts, and reliance on third-party providers like oracles and bridges.Q: What is the Liquidity and maturity mismatches in DeFi?
97
Q: What is the liquidity and maturity mismatches of DeFi?
Differences in the availability and timing of funds in DeFi, which can lead to problems when there is a mismatch between the demand for withdrawals and the availability of funds, potentially causing liquidity issues and risks.
98
Q: What is the leverage vulnerabilities of DeFi?
Using borrowed funds to amplify investments or trades in DeFi, which can lead to higher returns but also increases the risk of losses and can trigger sharp price adjustments and market instability.
99
Q: DeFi Vulnerabilities: Interconnectedness, concentration, and complexity
The relationships and dependencies between different parts of DeFi, with some protocols or entities dominating the ecosystem. Complex interactions and problems in one part can quickly spread and affect others, potentially leading to systemic risks and contagion.
100
Q: What are the vulnerabilities of Cryptoisation?
Substitution of traditional currencies with crypto-assets, which can complicate domestic monetary policy and undermine monetary sovereignty, especially in countries with economic instability and weak banking sectors.
101
Q: What are the vulnerabilities of Cross-border regulatory arbitrage?
DeFi platforms operating across borders, making it challenging to identify legal ownership/control and regulatory authorities, leading to difficulties in oversight and enforcement.
102
Q: What are the vulnerabilities of market integrity in the DeFi space?
Market integrity: Concerns about fairness, transparency, and scams in DeFi markets, which can erode investor confidence and lead to financial losses.
103
Q: How can stress originating from DeFi spill over to traditional finance and the real economy?
A: Stress from DeFi can spill over to traditional finance and the real economy through interlinkages and transmission channels, such as financial institutions' exposures to DeFi, households and firms, DeFi's impact on payments, and the failure of major crypto-asset trading platforms like FTX.
104
Q: What are some of the ways financial institutions are exposed to DeFi?
A: Financial institutions can be exposed to DeFi through direct investments in crypto-related companies, lending to DeFi entities, market-making and clearing services for crypto-assets, and facilitating activities in the DeFi ecosystem. They may also be exposed to DeFi through DeFi lending to banks and the tokenization of real-world assets.
105
Q: What are the three potential scenarios for the evolution of DeFi and its financial stability implications?
* Scenario 1: DeFi remains a niche area with limited growth and interconnectedness.
* Scenario 2: DeFi grows significantly and becomes mainstream, leading to deeper interlinkages with the real economy.
* Scenario 3: DeFi slowly fades, but leaves behind a legacy of useful financial innovations.
106
Q: What are the four key metrics used to monitor the evolution of the DeFi ecosystem?
A: The four key metrics used to monitor the evolution of DeFi are Total Value Locked (TVL), the number of DApps, stablecoin market capitalization, and the number of DApps users based on unique addresses. However, these metrics have complexities in their interpretation and require measures that account for issues such as double counting and the use of stablecoins for non-DeFi purposes.
107
Q: How can vulnerabilities in DeFi be monitored?
A: Vulnerabilities in DeFi can be monitored by assessing operational fragilities, liquidity and maturity mismatches, leverage usage, interconnectedness and concentration risks, and market integrity issues.
108
Q: What is a token?
A digital object/currency on the internet. Represent something of value, such as money. Created by blockchain.
