Put simply, liquidity pools are collections of funds that are pooled together for the benefit of the DeFi ecosystem. Funds are locked in a smart contract and used to facilitate trading, lending, and other functions. Without liquidity pools, decentralized exchanges such as Uniswap and PancakeSwap would not be able to operate.
Liquidity providers (LPs) add an equal value of two different tokens in a liquidity pool to create a market. In exchange for providing funds, they are rewarded with trading fees from the trades that happen in their liquidity pool, proportional to their share of the total liquidity provided.
Providing liquidity comes with its own set of risks. The main risk for liquidity providers is impermanent loss. In short, it's the loss of dollar value that can occur when providing liquidity compared to holding an asset.
DeFi depends on liquidity providers and liquidity pools. These smart contracts are the foundation of the ecosystem and are likely to be a mainstay of the space for the immediate future.