What Is DeFi? Decentralized Finance Explained

DeFi, short for decentralized finance, means financial services that run as programs on a public blockchain instead of through a bank, broker or other company. People use DeFi apps to swap tokens, lend, borrow and earn interest, using a crypto wallet they control. The rules are written in code called smart contracts, and anyone with an internet connection can use them.

Most DeFi runs on Ethereum, so it helps to know the basics first. If you are new, first read the guides to what cryptocurrency is and what Ethereum is. This guide is the starting point for the Academy’s DeFi topics. It explains how DeFi works, what you can do with it, how it compares with banks and exchanges, and what can go wrong. Figures are as of September 2026.

Using DeFi on Ethereum means paying network fees in ETH. To check what ETH costs today, see the Ethereum price and payment options.

How does DeFi work?

DeFi works by replacing the company in the middle with code that anyone can inspect. Four building blocks do most of the work:

• Wallets. You connect a self-custody wallet, such as MetaMask, to a DeFi app. The wallet holds the private keys that approve each transaction. There is no password reset: if you lose your keys, nobody can recover your funds. Read what a crypto wallet is to learn more.
• Smart contracts. These are programs stored on the blockchain that run exactly as written when a transaction calls them. A lending app, for example, is a set of contracts that hold deposits and keep track of loans. See What is a smart contract?
• Liquidity pools. Instead of matching a buyer with a seller, many DeFi apps hold pools of tokens that users deposit. Traders swap against the pool, and the people who supplied the tokens, called liquidity providers, earn a share of the trading fees.
• Oracles. Smart contracts cannot see data from outside their blockchain, such as the price of ETH in dollars. Oracles are services that bring this data on-chain. Lending apps rely on them to value the collateral behind each loan. Chainlink is one example.

The code and every transaction are public, so anyone can check how an app works. Ethereum.org notes that DeFi apps “speak the same language”, so a token from one app can be used in another. That makes DeFi flexible, but a failure in one app can also hit the apps that depend on it.

What can you do in DeFi?

You can do many of the things a bank or broker does: trade, lend, borrow and hold tokens that track the dollar. The table shows the main activities and where to learn more about each one.

High advertised returns usually come with higher risk, and rewards paid in an app’s own token can lose value quickly. Ethereum.org also warns that a liquid staking token can trade below the value of the ETH behind it.

Why does most DeFi run on Ethereum?

Ethereum was built to run smart contracts, and it is still where most DeFi money sits. As of September 2026, Ethereum held a little over half (about 56%) of all the value locked in DeFi, according to DefiLlama. Solana, Base, BNB Smart Chain and Tron each held around 6 to 7%.

Base is a layer 2 network that bundles transactions and settles them on Ethereum. Solana, BNB Smart Chain (sometimes just called “Binance”) and Tron are separate blockchains with their own coins and rules. Moving tokens between networks usually needs a bridge, and bridges have been a favorite target for hackers.

How big is DeFi?

About $95 billion was locked in DeFi apps across all blockchains as of 28 September 2026, according to DefiLlama. This figure is called total value locked (TVL): the value of the crypto that users have deposited into DeFi smart contracts.

TVL rises and falls with crypto prices. DefiLlama’s figure peaked at about $177 billion in November 2021, then fell below $40 billion by the end of 2022. Past performance does not predict future results.

Treat TVL as a rough measure of size, not a safety score. Trackers also count differently: DefiLlama says it removes some deposits it sees as artificial, so its totals can differ from other sites.

How is DeFi different from CeFi and banks?

The key difference is who holds your money and who you can turn to when something goes wrong. In DeFi, you hold your crypto yourself and deal directly with code. In centralized finance (CeFi), such as a crypto exchange or lending company, and in a bank, a company holds the money for you and sets the rules.

Each model has weak points. Chainalysis reported that the largest crypto theft of 2025 was the $1.5 billion taken from Bybit, a centralized exchange, in February 2025. In DeFi, more of the risk sits with the code and with you: a harmful transaction you signed usually cannot be undone.

What are the risks of DeFi?

The biggest risks are code failures, scams and losses on loans or price swings. DeFi has no deposit insurance, and most transactions cannot be reversed.

• Bugs and hacks. Smart contracts can contain mistakes that attackers exploit. Chainalysis counted $3.1 billion stolen from DeFi apps in 2022, 82% of all crypto stolen by hackers that year, and about 64% of it came from cross-chain bridges. Chainalysis reported in December 2025 that DeFi hack losses stayed relatively low in 2024 and 2025, but hacks still happen.
• Code that can be changed. A deployed smart contract cannot be edited, but many apps use an upgrade setup that lets a team switch to new code. Ethereum.org notes that users then have to trust whoever controls those upgrades. Delays before changes take effect, and control shared by several signers, lower this risk.
• Rug pulls and scams. In a rug pull, a project’s creators take the deposited funds and disappear. Fake apps, fake tokens and look-alike websites try to trick you into signing a transaction that empties your wallet.
• Price manipulation. An app that trusts a price from a small, easily moved market can be drained by an attacker who pushes that price up. Chainalysis counted 41 of these oracle manipulation attacks in 2022, with $403.2 million lost.
• Liquidation. DeFi loans need collateral. On Aave, for example, a loan can be liquidated once its “health factor” drops below 1. Another user then repays part of the debt and takes some of your collateral plus a bonus.
• Price swings. Collateral, rewards and tokens can drop in value fast, and a stablecoin can lose its link to the dollar. See what volatility means.

To spot common tricks before they cost you, read how phishing attacks work.

What do regulators say about DeFi?

There is no single rulebook for DeFi, and the rules are still changing. How they apply depends on your country and on how decentralized an app really is.

• European Union. The Markets in Crypto-Assets Regulation (MiCA) covers companies that provide crypto services. The European Commission has said that services provided “in a fully decentralised manner without any intermediary” fall outside it, but whether an app is fully decentralized is judged case by case (ESMA, as of September 2026).
• United States. In a 2023 risk assessment, the US Treasury said that DeFi services doing activity covered by the Bank Secrecy Act have anti-money-laundering duties “regardless of whether the services claim that they currently are or plan to be decentralized”.

Where fewer rules apply, users also get fewer protections. Trading or earning through DeFi can have tax consequences too. For the basics, see crypto taxes before you buy.

Do you need ETH to use DeFi?

On Ethereum, yes. Every transaction pays a network fee called gas, and gas fees have to be paid in ETH. Even if you only want to swap or lend a stablecoin, you need a little ETH in the same wallet to pay for it.

Gas fees are priced in gwei, one billionth of an ETH. A simple ETH transfer uses 21,000 units of gas, and DeFi actions such as a swap or a loan run more code, so they use more. Approving a token and then using it are often two separate transactions, each with its own fee.

There are exceptions. Some apps pay the fee for you or let you pay it in another token (ethereum.org calls this account abstraction). Other blockchains use their own coin: on Solana, every fee is paid in SOL. Check which network an app runs on before you move funds to it.

How do you start using DeFi safely?

Start with a wallet you control, a small amount of crypto and one well-known app. These steps help keep any mistake small:

Frequently asked questions

Coinmama Team

All Posts »