DeFi vs CeFi vs TradFi: how do they differ?
Traditional finance (TradFi) is the system of banks, exchanges and funds under financial law; centralized finance (CeFi) is crypto trading and lending through companies that keep their own records; decentralized finance (DeFi) is the same kind of service run by smart contracts on a public blockchain. The difference lies in who keeps the records and holds the assets.
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TradFi, CeFi and DeFi in brief
| Terms | Traditional finance (TradFi), centralized finance (CeFi), decentralized finance (DeFi). German: traditionelles Finanzwesen, zentralisierte Finanzen, dezentrale Finanzen. |
|---|---|
| Source of the distinction | The BIS compares the three in Table 1 of "DeFi risks and the decentralisation illusion" (BIS, ). |
| EU law for CeFi | Crypto-asset service providers need an authorization under Article 59 of Regulation (EU) 2023/1114 (MiCA). |
| EU law for DeFi | Services provided "in a fully decentralised manner without any intermediary" fall outside MiCA (recital 22). |
| Date of application | MiCA applies from (Article 149(2)). |
| Supervisors | BaFin in Germany, FMA in Austria, FINMA in Switzerland. |
What is the difference between TradFi, CeFi and DeFi?
The difference between TradFi, CeFi and DeFi is who provides the service and where the records are kept. The BIS puts the line between the two crypto forms this way: it "lies in whether the financial service is automated via smart contracts on a blockchain or is provided by centralised intermediaries".
| Feature | TradFi | CeFi | DeFi |
|---|---|---|---|
| Provider | Banks, exchanges, fund managers | Centralized crypto exchanges and platforms | Smart contracts on a public blockchain |
| Records | Private records of the intermediary | Private records of the intermediary (off-chain) | On the blockchain (on-chain) |
| Trading | Central limit order book, dealers | Limit order book managed off-chain | Automated market maker with liquidity pools |
| Leverage | Margin limits of regulated exchanges | Unregulated crypto exchanges allow the highest leverage | Higher maximum margin than on regulated exchanges |
| Client protection | Deposits covered up to EUR 100,000 per depositor | Client crypto-assets segregated from the provider's own (MiCA, Article 75(7)) | No intermediary; users hold their own keys |
The deposit cover of EUR 100,000 comes from Article 6(1) of Directive 2014/49/EU. The leverage row follows BIS data from 2021, before MiCA applied. The BIS also finds that DeFi "provides users with much greater anonymity than transactions in CeFi or traditional finance".
What is TradFi?
TradFi is short for traditional finance, meaning the banks, insurers, exchanges, fund managers and payment firms that work under a license and keep client records in their own systems. In the BIS table, this TradFi definition is the reference for the other two. Loans rest on a credit assessment, and the deposits of a bank client are protected up to EUR 100,000.
In the BIS comparison, TradFi is also the only one of the three with shock absorbers. DeFi "lacks internal shock absorbers, such as banks, that can provide liquidity at times of stress".
What is CeFi, and how does it compare with DeFi?
CeFi is crypto finance through a company that holds the client's assets and records, such as a centralized exchange. Decentralized finance vs centralized finance comes down to that company. In CeFi the client trusts the provider; in DeFi the client trusts the code of a smart contract.
The line also runs through stablecoins. The BIS notes that "the majority of stablecoins are CeFi" because a designated intermediary manages issuance, redemption and reserve assets. DeFi stablecoins such as DAI are managed on-chain and rest on a pool of crypto-assets worth more than the coins in circulation. To the extent that DeFi relies on CeFi stablecoins, the BIS writes, "it remains dependent on CeFi and traditional finance".
What are the pros and cons of DeFi vs CeFi?
The pros of DeFi are automation and open records; the cons are the risks that come without a responsible intermediary. DeFi digitizes and automates contracts, which could reduce intermediation layers, "according to its proponents" (BIS). Every transaction is visible on the chain.
On the other side, the European Securities and Markets Authority (ESMA) sees "serious risks to investor protection" in DeFi, among them "the lack of a clearly identified responsible party" (ESMA, ). CeFi has that party. Under MiCA the provider needs an authorization and must keep client crypto-assets apart from its own, so its creditors cannot reach them. The price is trust in one company.
DeFi vs CeFi lending: what is different?
DeFi lending runs through a protocol with automatic liquidation; CeFi lending runs through a platform that holds the client's assets. In DeFi, loans are overcollateralized and the protocol sells the collateral when the collateral ratio falls below a threshold (BIS).
MiCA does not yet set specific rules for crypto lending. Article 142 asked the European Commission for "an assessment of the necessity and feasibility of regulating lending and borrowing of crypto-assets" by .
TradFi, CeFi and DeFi in Germany, Austria and Switzerland
In Germany and Austria the three forms fall under different rules. TradFi firms hold licenses under banking and securities law, supervised by BaFin in Germany and the FMA in Austria. CeFi providers need an authorization as crypto-asset service providers under MiCA, which applies directly. Fully decentralized services without an intermediary fall outside MiCA under recital 22; whether a service has an intermediary is a question for the single case.
Switzerland is outside the EU, so MiCA does not apply there. FINMA supervises banks and securities firms under Swiss law and judges tokens by their "economic function and purpose" (FINMA, ). This page gives no legal advice.
Sources
- Bank for International Settlements: DeFi risks and the decentralisation illusion, BIS Quarterly Review,
- European Securities and Markets Authority: Decentralised Finance in the EU: Developments and risks,
- FINMA: FINMA publishes ICO guidelines,
- European Union: Regulation (EU) 2023/1114 on markets in crypto-assets,
- European Union: Directive 2014/49/EU on deposit guarantee schemes,