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Traditional finance, or TradFi, is defined as the mainstream financial system and the conventional institutions such as retail, investment, and commercial banks, insurance companies, brokerages, and other regulated entities that operate within it.
The term is used in the cryptocurrency sector to distinguish between traditional financial systems and decentralized finance (DeFi) platforms, which are based on decentralized blockchain technology and operate independently of regulated centralized entities.
Techopedia Explains
Most people interact with the TradFi system daily. Examples of TradFi services include mortgages, bank accounts, credit cards, loans, insurance, and foreign exchange (FX) services. These are heavily regulated by government authorities and operate until strict compliance requirements to protect customers’ funds.
DeFi has disrupted the financial services industry and aims to replace TradFi with blockchain-based digital assets that can be used in peer-to-peer transactions without the need for centralized third-party intermediaries.
It has opened up new possibilities for financial innovation and can potentially increase financial inclusion for unbanked individuals and communities.
TradFi vs. CeFi
Centralized finance (CeFi) has some similarities with TradFi in that services are provided by centralized providers, which take custody of users’ assets.
However, CeFi runs on blockchain technology and provides many of the types of accounts and services available with DeFi.
Aspect
Traditional Finance (TradFi)
Centralized Finance (CeFi)
Control
Heavily regulated by government authorities
Controlled by centralized entities/companies
Intermediaries
Relies on various intermediaries (banks, brokers, etc.)
Relies on centralized platforms/exchanges
Access
Accessible primarily through physical branches or intermediaries
Accessible online via platforms/websites/apps
Transactions
Generally involves manual and paper-based processes
Transactions are digital and automated
Speed
Processes can be slow due to manual steps and bureaucracy
Transactions are usually faster and more efficient
Censorship
Limited censorship resistance; transactions can be censored or controlled
Subject to censorship and control by the platform
Privacy
Limited privacy; transactions are often traceable and linked to identities
Privacy depends on platform policies and practices
Innovation
Slow to adopt new technologies and innovations
Embraces technological advancements and innovations
Global Accessibility
May have limited global accessibility and inclusion barriers
Offers global accessibility, promoting financial inclusion
Counterparty Risk
Exposure to counterparty risk due to reliance on intermediaries.
Counterparty risk shifts to the centralized platform.
Regulation
Subject to extensive financial regulations and compliance requirements
Subject to varying degrees of regulatory oversight
Decentralization
Operates within centralized systems and institutions
Operates within a centralized platform; not truly decentralized
Examples
Traditional banks, stock markets, insurance companies
Centralized exchanges like Coinbase, Binance, and centralized lending platforms
Can DeFi Replace TradFi?
DeFi is gaining popularity as it facilitates greater innovation and inclusivity in financial services. It offers advantages over TradFi, such as increased transparency, cost efficiency, accessibility, and customization.
However, there are challenges to DeFi achieving mass adoption. It is technically complex, and the lack of regulation and centralization limits the protections that users have for their assets.
The Bottom Line
Blockchain-based DeFi has the potential to transform the global financial system and challenge traditional finance, or TradFi.
While there may be high barriers to DeFi replacing TradFi, it could drive innovation in the sector as conventional financial institutions incorporate some of the concepts into their services.
