Composability is one of the core principles capable of driving rapid innovation in Decentralized Finance (DeFi). It refers to the ability of different protocols and applications to seamlessly interact, integrate, and build upon one another. Take a look at it as a toolkit where each protocol acts as a specialized component that can be combined with others to create more complex but innovative solutions. This composability doesn’t just promote rapid development, it also pushes the boundaries of what’s possible within the Ecosystem, enabling new financial products and services to emerge.
The Power of Modular Designs:
In traditional finance, new financial products and services often require:
- Large-scale infrastructure updates.
- Complex regulatory changes.
- Risk Assessment.
DeFi, on the other hand, thrives on Modularity(breaking a system into smaller, self-contained parts that can work independently but also combine to form a larger whole). It allows developers to combine existing building blocks like lending protocols, stablecoins, decentralized exchanges (DEXs), or yield farming platforms, to enable them create finished Financial products with much less friction. This modular nature speeds up development by allowing teams to leverage existing solutions rather than building everything from the ground up.
For example, a protocol like Aave, for decentralized lending, is a prime example of how composability drives innovation. Initially, Aave focused on providing simple lending and borrowing solutions. However, over time, it integrated features like flash loans, liquidity pools, and even cross-protocol collaborations with Curve Finance and Yearn Finance.
This integration expanded its functionality by enhancing two key areas:
- Curve Finance: By integrating with Curve, Aave optimized stablecoin borrowing rates. Curve specializes in efficient stablecoin trading with low slippage, and by working together, Aave is able to offer better borrowing rates for stablecoins on its platform. This has made borrowing stablecoins cheaper for users.
- Yearn Finance: Yearn helps users earn higher yields by automatically finding the best opportunities for yield farming. By integrating with Yearn, Aave allowed users to earn more returns on their deposits, as Yearn automatically allocates funds to the highest yielding strategies available.
This combination of protocols has unlocked far more utility than any single protocol could offer alone.
Role of This Layered Interactions:
The true value of composability becomes evident when you consider the creation of complex financial instruments built on top of multiple layers of protocols. These layered interactions unlock entirely new functionalities that were not possible before. DeFi’s progress so far, has resulted from one protocol building on another, allowing for a multiplication of use-cases and greater flexibility in product design.
Take Compound and UniSwap as another example. Compound, a decentralized money market, allows users to supply and borrow assets, while UniSwap, a Decentralized Exchange (DEX), facilitates swapping between assets. When combined, they enable more complex operations like liquidity mining(providing funds to a platform and earning rewards in return) and usage of Synthetic Assets. By combining Compound’s lending pools with UniSwap’s liquidity pools, users can provide liquidity and simultaneously earn interest, creating a new class of “YIELD FARMING” opportunities.
An example:
A user could seamlessly borrow assets from Aave on Ethereum, provide liquidity to a Curve pool on Binance Smart Chain (BSC), and then stake those assets on Synthetix to earn additional rewards. The ability to move assets across different blockchains without friction greatly enhances the scalability and liquidity of DeFi protocols, creating a more interconnected ecosystem.
Other examples includes:
DeFi protocols on Ethereum leveraging the scalability of L-2 solutions like Arbitrum and Optimism, which offer cheaper and faster transactions. This helps overcome Ethereum’s congestion issues and increases the throughput of the entire DeFi ecosystem. Additionally, composability between Ethereum and Polkadot or Cosmos can allow users to access liquidity and opportunities on multiple chains, breaking down barriers between ecosystems.
This is a direct result of composability, where the individual strengths of each protocol are amplified through their collaboration.
Cross-Chain Composability: DeFi Without Boundaries
While composability within a single blockchain is powerful, the real game-changer comes when DeFi protocols begin to interact across different blockchains. This cross-chain composability unlocks entirely new possibilities.
Protocols that facilitate cross-chain interactions, such as Thorchain, enable users to transfer assets between different blockchains without relying on centralized exchanges or custodians. This opens up the DeFi space to a much larger pool of assets and liquidity, reducing fragmentation and increasing the overall utility of the ecosystem.
Why These Layered Interactions Matter
Layered interactions in DeFi matter because, they allow for more efficient and powerful financial products. The ability to compose different protocols together, whether they are within the same blockchain or across multiple blockchains, reduces friction and unlocks new opportunities for both developers and users.
These connections and interactions create a more cohesive DeFi landscape. As protocols grow and improve, they build upon each other, leading to an ecosystem where new features are constantly being added, refined, and optimized. This takes form of Building Blocks like illustrated below:
At its core, Composability enables DeFi to continually evolve and push the boundaries of Traditional Finance. Unlike Traditional Financial systems, which are limited by infrastructure, regulatory constraints, and legacy systems, DeFi thrives on open-source protocols that interact with each other in a decentralized manner. As new protocols emerge, they can plug into existing systems and enhance them, driving innovation faster than any centralized system could.
The rise of composability in DeFi also signals a shift in how financial products are created, placing emphasis on interoperability and integration. This leads to more efficient markets, greater liquidity, and more diverse financial instruments that benefit everyone, from developers to the end-users, the consumers.
Conclusion
Conclusively, Composability is not just a technical feature of DeFi, it is a driving force behind its rapid advancement. By allowing protocols to integrate and build upon one another, accelerating the creation of new financial products, enhances liquidity, and facilitating the scaling of dApps.
Whether these interactions are confined to a single blockchain or span across multiple chains, they create a powerful and interconnected ecosystem that continuously pushes the boundaries of what is possible in finance.
As DeFi continues to grow, composability will remain a key factor in its success, enabling developers and users alike to unlock new opportunities and explore uncharted territories, via these building blocks.
