Anatoly Yakovenko on DeFi's Disruptive Impact in Crypto and Traditional Finance

Introduction to DeFi’s Significance in Crypto

Anatoly Yakovenko, a co-founder of Solana (SOL), has recently shed light on what he considers the most significant innovation in the cryptocurrency industry: decentralized finance (DeFi). In a conversation with macro analyst Raoul Pal, Yakovenko emphasized DeFi’s paramount importance, describing it as the pinnacle of crypto’s contributions to the world.

Yakovenko said:

DeFi is the most important app for crypto. It is the biggest innovation I think that crypto brought to the world. It’s the one that’s the hardest for adoption because this is a software-eating part of finance that humans really, really do not want to give up control of.

The Challenge of Adopting DeFi

Yakovenko acknowledged the hurdles in DeFi adoption, noting that it represents a shift in the financial sector where software replaces human intermediaries. He pointed out the reluctance in the finance world to relinquish control and the profits earned from being a middleman. Despite resistance, Yakovenko believes that the transition to software-driven, decentralized applications (DApps) in finance is inevitable, predicting a complete transformation within the next 20 to 50 years.

DeFi’s Threat to Traditional Finance Giants

Discussing the potential impact of DeFi on established financial institutions like Goldman Sachs and BlackRock, Yakovenko suggested that true disruption through DeFi would likely compress the profits of these giants. He views this as a natural consequence of innovative disruptions in the industry.

Solana’s Role in DeFi’s Growth

Yakovenko reflected on Solana’s journey in the DeFi space. Initially designed to be ideal for DeFi applications, prioritizing speed and cost-effectiveness in financial transactions, Solana faced challenges, particularly following the collapse of the FTX exchange. However, Yakovenko highlighted the resilience and growth of several Solana-based DeFi projects, such as Margin, Solend, Jito Labs, Pyth, and Jupiter Aggregator. These teams continued to develop their solutions through bear markets and various challenges, reaching a level of maturity that now positions them for significant growth.

On 2 July 2023, Yakovenko explored the concept of Ethereum serving as a Layer 2 (L2) solution for Solana. Layer 2 solutions, which act as bridge protocols providing one-way security, could, in Yakovenko’s view, be effectively utilized by Ethereum to benefit Solana.

Through a series of tweets, Yakovenko elaborated on this idea. He suggested that in such a framework, those holding Solana assets on Ethereum would have the assurance of finality, meaning they could return to Solana even amid potential issues like Ethereum’s double-spending or creating invalid state transitions.

Yakovenko proposed a structured three-step process to operationalize this concept:

  1. Input all Ethereum transactions into the Solana network.
  2. Lodge a Simplified Payment Verification (SPV) root reflecting the state after these transactions.
  3. Set up a bridge timeout feature to allow for the demonstration of any faults.

He also pointed out possible pitfalls in this system. These include discrepancies in SPVs for the root, errors in computing the root (which could be verified using Neon Labs’ Ethereum Virtual Machine), and risks of censorship. To mitigate censorship risks, a dedicated relayer would be required to guarantee that transactions initiated on Solana are successfully processed on Ethereum.

Yakovenko added a cautionary note, stating that while holding Solana assets on Ethereum would be secure, leveraging them as loan collateral or for position holdings would not be advisable. This is due to the possibility of a fault in Ethereum leading to a divergence between the Ethereum state on Solana and the prevailing Ethereum social consensus fork. In such circumstances, Solana users could recover their assets, but their Ethereum representations might lose all value.

Regarding trading mechanisms, Yakovenko noted that central limit order books (CLOBs) could function well under this arrangement. However, Automated Market Makers (AMMs) and non-flash loan borrowing lending protocols would not be suitable.

In concluding his series of tweets, Yakovenko made a notable observation: if Ethereum were to experience a censorship fault, the Solana state root on Ethereum would lose its value. Consequently, transaction postings might escalate Ethereum’s gas fees indefinitely, signaling Ethereum’s dysfunctionality.

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