OKX Blockchain 60 Episodes | DeFi Episode 5: How Does Insurance Work in DeFi?
Hello everyone, I'm Xiao K, and today we're going to talk about: "How Does Insurance Work in DeFi"?
As we all know, in the traditional financial world, besides lending, funds, and exchanges, there is another area closely related to all of us—insurance. DeFi, as the decentralized counterpart of the financial sector, naturally includes insurance services. So today, Xiao K will explain how the insurance sector works in DeFi.
In traditional finance, we purchase insurance to guard against certain risks, such as auto insurance, personal safety insurance, and so on. DeFi insurance, like traditional insurance, also serves the purpose of risk prevention, but it targets digital asset risks commonly seen in the decentralized world, such as stolen private keys, hacker attacks, and manipulation due to smart contract vulnerabilities.
DeFi insurance refers to insurance protocols based on immutable, automatically enforceable smart contracts.
In simple terms, in traditional insurance, you first need to find a third-party insurance company, pay the corresponding fees, and then sign an agreement with it. The insurance company provides the guarantee, and if an event covered by the agreement occurs, the company processes the claim. Essentially, the entire process revolves around a third-party insurance company.
DeFi insurance removes the centralized insurance company entirely. Instead, a set of smart contracts written in code independently handles the insurance execution function. So, DeFi insurance is more like an execution tool written in code.
But this raises a new question! The essence of insurance lies in the transfer of risk—from those unwilling to bear it, to those willing and capable of bearing it. In traditional insurance, the third-party institution naturally serves as the risk bearer. With DeFi insurance being decentralized, who can bear this risk?
Let us explain how DeFi insurance specifically operates:
The business logic of DeFi insurance differs greatly from traditional insurance. Currently, most mainstream DeFi insurance adopts a mutual assistance model. It replaces the insurance company with a decentralized user organization that assumes the guarantee responsibility.
Like a regular insurance company, DeFi insurance covers many projects, and each project has a corresponding claim fund pool that anyone can join.
Anyone who contributes funds to the corresponding fund pool becomes a guarantor for that project. If the project later faces risks such as hacker attacks or project bugs, the risk and claims are shared collectively by everyone in the fund pool.
While guarantors bear the risk, they also receive correspondingly higher returns. As long as users purchase DeFi insurance for a certain number of days, everyone in the fund pool receives a share of the insurance premium, earning returns.
The entire process has smart contract programs handle execution tasks such as review, claims processing, and fund locking and release. So, rather than calling it DeFi insurance, it is more accurate to describe it as a peer-to-peer insurance organization.
Overall, DeFi insurance is indeed a major financial innovation. It opens up a new line of thinking—perhaps, with the passage of time, insurance companies may truly be disrupted one day, with everyone taking on this role and sharing both the risks and returns of insurance. Let us wait and see~
Special thanks to Xu Yinglong for his help and guidance on this episode.
Sina Weibo: @许英龙_sun1y
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Disclaimer
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