DeFi Series Report | Decentralized Encrypted Asset Lending Platform

DeFi: Decentralized finance, as a branch of Dapp, seems to be one of the best use cases for blockchain technology. This article translated the first part of the DeFi report series released by the Institute of Credit Research, which focuses on the cornerstone application type of DeFi: decentralized encryption asset lending platform. An in-depth analysis of representative DeFi projects, market participants and motivations, and the advantages and risks of these platforms compared to a centralized financial system.

This article was translated from the report issued by the Institute of Credit Research on June 6th, and some of the contents were slightly deleted.

Original report:


Core Abstracts Decentralized finance, also known as open finance, or DeFi, has evolved into one of the core drivers of Ethereum's web applications. The core principle of DeFi is to provide a new, unlicensed financial services ecosystem that can be used by anyone in the world without any central authority. In this ecosystem, users are the custodians of their own assets, have complete control and ownership of their assets, and they are free to enter all decentralized markets on the market. Lending agreements and platforms provide market participants with different motivations for use, such as: For borrowers: you can short an asset or borrow a right (such as governance). For a lender: you can use your own assets to earn interest on the above. Both: There are cross-platform arbitrage opportunities. Compared to traditional financial products, decentralized, non-custodian agreements offer several promising advantages, such as transparency and price effectiveness , because prices are subject to market demand. Facilitating convenience and speed when lending occurs Anti- regulation and immutability However , given the experimental nature of these financial prototypes, they do show some specific shortcomings compared to centralized competing products, such as: technical risk ( transactions) The risk of the opponent is replaced by the risk of the smart contract.) Low liquidity (ie, it is difficult to borrow on a large scale without affecting the current interest rate level) Overall, the cryptocurrency-driven lending sector is still in its early stages, but A compelling value proposition that individuals and institutions can use the past credit model to provide a broader The funding channel does not require a trusted intermediary or a third party. While it is difficult to determine which platforms or protocols will attract the most users in the long run, the tools together provide more and more decentralized solutions to capitalize and form a more comprehensive DeFI toolbox.

This report is the first article in our DeFi series , covering a number of different platforms and protocols that are designed to disrupt the existing financial industry and infrastructure. Overall, this report will discuss the cornerstone application of DeFi: Decentralized Encrypted Asset Lending Platform.

Although open finance is inherently platform-independent, most DeFi-like applications are currently being developed and used in Ethereum. The stable currency Dai is one of the cornerstones of DeFi, and Dai is a decentralized stable currency collateralized by encrypted assets, produced in the Maker ecosystem.

As of May 31, 2019, Ethereum dominated the existing applications, the number of transactions, and the amount of money locked in platforms such as Maker and Compound. Therefore, the DeFi class Dapp based on Ethereum will be the focus of this report.

For a long time, loans have been built on trust between the two parties. So, compared to the centralized platform, how does the decentralized platform for decentralized encrypted assets match loans between anonymous strangers without trust?

1. Decentralized lending overview

1.1 Overview of public chains, platforms, and supporting assets

1.1.1 What is DeFi? What are the relevant public links?

DeFi can be defined as:

“An ecosystem of unlicensed blockchains, peer-to-peer protocols, and applications built on decentralized networks to promote lending practices or trade with financial instruments.”

Most DeFi protocols are now built on Ethereum. As of June 5, the total value of the pledge assets of the DeFi application based on Ethereum has exceeded $500 million (more than 1.5 million ETH).
Figure 1 – Number of DeFi applications by public chain (as of June 5)

The Bitcoin Lightning Network solution can be viewed as a DeFi application running on the Bitcoin blockchain. As of June 5, 2019, the lock-in value of the Lightning Network was approximately $8 million.

Figure 2 – Total amount of locked positions in the DeFi application (in millions of US dollars) (as of June 5)

Regarding EOS, EOSRex enables users to borrow and lend EOSIO resources (such as CPU, RAM, NET). Although it has only been released for more than a month, the application has long been a leader in terms of total mortgage value, with more than 90 million EOS locked up. Other platforms on EOS also include an unlicensed money market agreement, the BUCK Protocol, which has just been launched.
In addition, other public chains are also building decentralized financial applications. For example, Stellar aims to develop a new global financial system, but has not yet seen a financial dApp developed by a third-party developer.
Another example is Ontology, which recently partnered with the stable currency publisher Paxos to release as many as 100 million PAX tokens on its public chain. In its press release, Ontology mentioned that “the DeFi application scenario besides the exchange will be explored and it is expected that PAX tokens will be released on Ontology in May” .
Because Ethereum has an absolute advantage in the number of DeFi applications, this report will focus on DeFi applications based on Ethereum. So which assets are supported by these platforms and protocols?
1.1.2 What assets are supported based on Ethereum's DeFi platform?
The assets supported by the DeFi platform on Ethereum are diverse. Can be divided into two categories: native blockchain assets and non-native blockchain assets.
“Native blockchain assets are defined as assets whose value is not collateralized or endorsed by any non-native blockchain asset (such as stock or fiat money). Examples are Basic Attention Token (BAT) or OmiseGo (OMG). "
These assets are usually allowed to be cast/destroyed on the blockchain (ie, assets are created on the chain). One of the core pillars (and an example of native blockchain assets) in the DeFi ecosystem is MakerDao (MKR) and its Dai (DAI) stable currency .
As a stable currency generated by the pledge of crypto assets, Dai's value can be linked to the US dollar through a complex mortgage mechanism and a stable rate to encourage market participants to use arbitrage to offset the existence of price errors. Details will be discussed further in the next section.
Other native assets can also be used for these applications, such as ERC-20 tokens on the Ethereum blockchain, such as REP, BAT or ZRP.
These native blockchain assets can be used as:

  • Loan collateral
  • Loanable assets
  • Borrowable assets
  • Governance assets (eg MKR)
Interestingly, non-liquid (native) blockchain assets cannot be used as collateral, whether they are homogenous assets (ERC20) or non-homogeneous assets (ERC721 such as CryptoKitties).
“Non-native blockchain assets include all types of assets that operate on the public chain, but whose value is pledged or endorsed by non-blockchain assets (such as commodities, stocks or fiat currencies).”
Some of the most popular non-native blockchain assets are stable currencies issued by legal currency collateral on bank accounts, such as USDC or TUSD.
In the DeFi ecosystem, USDC is included in many lending agreements. It is worth noting that following the investment of Coinbase in February 2019, Dharma added USDC to its supported assets.
So, what are the unmanaged protocols and platforms running on Ethereum?
1.2 Agreements and platforms
In this section, only unmanaged platforms and protocols are included. Therefore, platforms such as BlockFi and Nexo are excluded.
Table 1 – Ethereum Unmanaged Agreements and Platforms Supporting Lending

Figure 3 – The value of the collateral for the DeFi Lending Platform on the largest Ethereum as of June 4, 2019 ($ million)

The Big Three, MakerDAO, Dharma and Compound, account for nearly 80% of the total ETH locked by the DeFi platform, which we will cover in the next section.
1.3 How does the loan process work on an unmanaged platform?
In this section, we will discuss the three largest platforms mentioned in the previous section: Maker, Compound, and Dharma. The three use different models, which gives us an interesting insight into how the general loan process works on unmanaged platforms.
Overall, these platforms rely on the borrower's overcollateralization as a key mechanism for initiating loans and to determine whether the loan must be closed during the loan period.
Maker is a unique "issuer" in which individuals can borrow Dai directly by depositing ETH into their mortgage debt (CDP) – a dollar-linked stable currency with a target value of each generation The currency is 1 US dollar.
The Maker Token (MKR) allows holders of money to participate in operating income through a “governance fee” (ie, a lending rate). This structure is different from the peer-to-peer model because it brings together reserves (collaterals) to proactively issue tokens instead of transferring existing tokens.
Unlike the stable currency issued by the legal currency mortgage, the stable currency of the encrypted asset mortgage relies on different mechanisms to maintain its peg to the legal tender. It is worth mentioning that regardless of the linkage mechanism, the intrinsic value of any stable currency depends entirely on the centralized decision-making process of the central bank (such as the Federal Reserve), which is responsible for formulating monetary policy and ultimately affecting the legal currency against other currencies and assets. Relative value.
In the MakerDAO example, Dai is an encrypted asset-backed currency that is used with the Maker ecosystem built on Ethereum. The Maker ecosystem currently allows ETH holders to place ETHs in smart contracts in exchange for the ability to cast DAI stable coins in exchange for a stable loan with a higher volatility mortgage asset ETH. It is worth noting that the Maker platform will soon allow borrowers to place multiple asset collateral to mitigate the volatility of a single asset and thus become more diversified at the collateral level. As the overall market price rebounds, this may further push Dai's circulation supply to a new high. Currently, Dai is already the world's largest stable currency issued by crypto assets.
In Maker, the loan is over-collateralized, and the mortgage requirement at the beginning of the loan is higher than 150% .

Point-to-point lending pools can be divided into two types:

  1. Direct pairing (eg Dharma, Ethlend, etc.)
  2. Liquidity pool (eg Compound, dydx)
Let's take a look at the two biggest peer-to-peer platforms: Compound and Dharma.

In most of these platforms, the platform directly matches lenders and debits, and there is a spread between interest rates, and the platform or protocol developer maintains operations through spreads as revenue.

Compound is an agreement that creates a money market for the various tokens running on Ethereum.

Each market is linked to a cToken (such as cBAT), which acts as an intermediary for lending assets on the agreement. With cToken, the lender can get interest accrued over time. Specifically, the amount of interest is accumulated in the block dimension. During the loan period, a new block comes out every 15 seconds, and cTokens will continue to increase.

In Compound, there is also an undo feature that allows users to convert cTokens to their original assets (for example, from cBAT to BAT).

The interest rates for each asset are based on real-time market supply and demand relationships. When the borrower's demand is excessive, the interest rate will increase, and the excess amount of the borrowing will result in a drop in interest rates. In addition, the lending rate is always lower than the borrowing rate to generate liquidity on the platform.

Dharma is a platform that allows users to borrow and lend assets at a fixed rate of 90 days. Supported assets include ETH, USDC and Dai.
In short, the platform can handle and match transactions manually without having to act as a custodian at any point in time. Users can request to lend assets and then simply wait for their requests to be matched.
The interest rate on Dharma is currently determined manually by the team in the black box process. Interestingly, Dharma's lending rates are set equal, which is in stark contrast to other platforms such as Compound.
If the borrower decides to repay the loan before the due date, he must pay the full interest for the 90-day period. Therefore, the only motivation for the borrower to repay the loan in advance is to get back the mortgaged assets.
1.4 some additional indicators
Table 2 – Yield and interest rates for traditional dollar-denominated financial instruments (May 31, 2019)

These traditional financial instruments (see Table 2) basically provide a reference to the “risk-free interest rate” in the US economy. Currently, the interest rate is between 2% and 3%.
The borrowing rate offered by the digital asset lending platform is higher than the benchmark interest rates compared to the mortgage interest rate of the mortgage-supplied currency (ie, the USDC in Table 3), although they have some core advantages, such as the liquidity of the funds and the transparency of the underlying smart contracts, Greater platform usability and flexibility, user convenience.
Table 3 – Lending rates for managed and unmanaged platforms and digital asset agreements as of June 4, 2019

Dai's interest rate is higher than the USDC's interest rate because the USDC has no potential price risk against the US dollar and can always be converted into one US dollar. However, it is actually interesting to regard it as a Dai loan interest rate benchmark. Since the current interest rate on stable currency is much lower than the 17.50% stable rate voted out, Maker voters may decide to further reduce their governance fees in the future to narrow the gap with other platform interest rates and maintain the competitiveness of the platform.
Regarding the Ethereum lending rate, when Ethereum transitioned from PoW to PoS, they were consistent with future PoS pledge returns. The PoS pledge return is similar to the network's inflation rate, so the lending rate is in line with the expected Ethereum PoS income range of 2-3%.
Because Maker is the largest component of DeFi on Ethereum, it has nearly 80% of the dominant position in the entire lending ecosystem, which shows the evolution of the value of total collateral assets of all unmanaged platforms.
Figure 4 – Trends in Locking the Total Mortgage Asset Value (Millions of Dollars) in Maker

As one of the core components of the DeFi ecosystem running on Ethereum, Dai currently locks about 1.5% of Ethereum's total supply to Maker. Here are some key indicators:
Figure 5 – Evolution of Maker Governance Rate (CDP Rate) since January 2018

On May 31, 2019, Maker holders decided to cut the CDP interest rate by 2% to 17.5% for the first time. The CDP rate has risen from 0.50% in the first five months of 2019 to a historical high of 19.50%.
Figure 6 – Distribution of Dai's circulation since January 2018 (in millions of US dollars)

As of today, Dai's circulating supply is about 82 million, a slight decline in the first half of 2019, which is related to the continuous increase in stable costs during the period.
By market value, Dai is currently the fifth-largest dollar stable currency, second only to the US dollar USDT, USDC, TUSD, PAX, and has recently exceeded GUSD.
Figure 7 – Circulation Market Value of Large Stabilized Coins (excluding USDT) as of June 5, 2019 (US$ million)

Since Dai's current mortgage ratio (480%+) is well above its minimum threshold, the market value of circulation may still increase as long as MKR Governance decides to cancel the maximum issuance limit currently set to $100 million Dai . This, as well as future support for multiple asset collateral, may further drive Dai's liquidity supply to new highs.

2. Market participants

In this section, we will discuss the perspectives of DeFi market participants, including which types of individuals/institutions may wish to participate in these agreements, and their potential motivations to do so, such as arbitrage.
2.1 Lender case
From a lender's perspective, the core benefit is the ability to put existing capital into use and generate revenue rather than holding assets for long periods of time (“basically HODL strategy”). In this case, the two key rewards users might see are:
  • "Reward" for long-term investment. Long-term position holders (ie, value investors) can receive rewards through these interest rates (usually denominated in the same currency), giving them new sources of income (in addition to capital appreciation or “HODL strategies”). For example, investors who invest in Ethereum for a long time can benefit from these lending platforms and receive additional yields.
  • The dollar's yield on stable currencies. Unlike most regular bank accounts in banks, stable currencies do not generate any yield. Storing dollar-denominated stable coins on digital wallets is similar to keeping dollar notes in leather wallets: no one can bring in revenue. Considering the risk of inflation, this translates into a depreciation of the effective value of the stable currency. For stable currency issuers, in order to compete for market share, some of the revenue from the bank deposits is motivated to be distributed to users who support the circulation supply through these decentralized platforms.
2.2 Borrower case
From the perspective of the borrower, there are several reasons for borrowing assets using a decentralization agreement.
  • Ability to short assets. The borrower can short the asset by borrowing the asset and immediately sell it on any exchange to obtain another cryptocurrency (usually a stable currency). This has a similar function to the central exchange's margin trading. Similarly, it provides the ability to trade margin on platforms that do not support this feature. For example, a trader can short assets on Coinbase (because it does not allow margin trading). As the list of borrowable assets expands over time, this application scenario will become more and more valuable.
  • Borrow the use value of the token (for example, borrowing governance rights) . The borrower can decide to (temporarily) borrow assets to gain more power or governance power in the blockchain. For example, someone can borrow REP (Augur) to participate in the resolution mechanism on the chain.
2.3 Arbitrage opportunities
Assuming there is no transaction cost, if the following inequality is true, there is an arbitrage opportunity:
Loan interest rate (%) <borrowing interest rate (%)
However, since all loans are over-collateralized in today's existing agreements, the spread between the borrowing and lending rates will never be zero. A more comprehensive equation can be used to include additional fees, such as transaction costs or Gas fees:
Borrowing Rate (%) – Minimum Mortgage Rate (%) * Loan Interest Rate (%) – Total Cost (%) > 0
The total cost (%) > 0 is the sum of any additional fees, such as the Gas fee or any transaction fee for the loan/borrowing platform.
In theory, the product of the minimum mortgage rate (%) and the loan interest rate (%) is actually the 100% effective interest rate at which all capital can be borrowed. In practice, however, users on the platform tend to over-collateralize at a much higher rate than the minimum mortgage rate, providing a buffer for undervalued mortgages.
Table 4 – Average Mortgage Ratio across Sites (June 4, 2019)

Currently, there are two major arbitrage opportunities for the loan/loan platform:
  • Arbitrage between the decentralized platform and the centralized platform. As of this writing, Dharma offers a 90-day loan at USDC's 8% annual interest rate. There are arbitrage opportunities for consumers who are able to obtain credit in US dollars (based on regulatory arbitrage of existing visits to KYC accounts, etc.). Arbitrage can borrow dollars at an interest rate below 8%, transfer those dollars to Coinbase to purchase USDC, and then lend USDC to Dharma. However, such arbitrage is affected by specific risks. For example, if the demand for a specific interest rate defined by the platform is insufficient, the loan may never match the one on Dharma. In addition, these opportunities also have potential risks (traders, platform-specific risks), which are discussed in detail in the next section. Ultimately, arbitrage may exist on platforms with limited access (or more rigorous KYC) and these opportunities may last longer.
  • Arbitrage between decentralized platforms: This is expected to be even more rare as decentralized platforms currently have large spreads between lending rates. One of the main reasons is that the participation rate of this industry is low, after all, it is still in the early stage. Not only that, but because of the nature of these open decentralized platforms, the number of participants who eliminate arbitrage opportunities is greater. On top of that, these arbitrage opportunities are usually fleeting, as many platforms integrate lending information on other platforms (such as Zerion). In addition, for pure arbitrage, the two loans must have similar parameters. In particular, the term (term length) and maturity date of the loan must be the same or similar in order to best perform such arbitrage, otherwise the potential risks may include network environmental factors, (invoiced) native inflation rate, price changes Risk and early repayment/liquidity (regardless of whether the interest rate and duration are fixed or variable). If different platforms have different policies on how the borrower closes the position before the loan expires, there may be a risk of early repayment.

3. Risks and advantages of decentralized agreements

In this section, we will compare the risks and advantages of these decentralized protocols with the traditional financial industry and the centralized crypto asset hosting platform.
3.1 Advantages and benefits of these platforms and protocols
3.1.1 Benefits of the Encrypted Assets Industry
Here are some of the benefits of using these new decentralized unmanaged platforms for the crypto asset industry:

  • Increased price efficiency: Since loan and loan agreements allow anyone to short on assets, higher price discovery and efficiency can be achieved in the marketplace.
  • Immutability and anti-censorship: A single transaction cannot be reversed and no third party can stop the borrowing process. This creates an effective market without review and does not discriminate against users.
3.1.2 Advantages of the decentralized system for the centralized banking platform
Specifically, these platforms and protocols offer several advantages over a centralized banking platform.
  • Broader capital access: Participants living in capital-controlled countries can obtain stable coins based on other legal currencies, such as the US dollar or any stable currency denominated in French currency (eg, pounds, euros).
  • Transparency and efficiency: On a pure P2P lending platform, interest rates are determined only by market participants, and loans are secured through over-collateralization . Moreover, information about the loan can be publicly and easily obtained without cost.
  • Flexibility and loan isolation: Use a wallet to borrow multiple cryptocurrencies at the same time. Different risks can also be completely independent. For example, you can borrow USDC with ETH through one wallet, and another wallet borrows BAT with ETH. If a loan defaults (ie, the value of the collateral is below its clearing threshold), it will only affect the collateral because the risk is isolated. However, for platforms that allow multilateral mortgages, risk can be reduced by bringing together different assets into a single set of collateral.
  • Reduce process cost/turnaround time: Unlike traditional financial industries, decentralized finance removes all intermediate credit reviews, and any user can borrow funds very quickly at market prices.
3.1.3 Decentralized systems have advantages for hosting lending platforms (eg centralized exchanges)
Managed lending platforms are centralized platforms in the encryption industry, such as hosted lending platforms (such as BlockFi) or centralized exchanges (such as Bitfinex,, which allow users to make margin calls on them.
  • Ability to transfer borrowed funds across platforms and trading venues : Unlike centralized loan trading venues, individuals can borrow funds and transfer them freely to other locations, with only collateral locked into smart contracts.
  • Fully escrow funds: People who want to trade margins can effectively short assets on decentralized exchanges without abandoning tokens
  • Ability to conduct margin trading in restricted jurisdictions . On a fully decentralized loan agreement, the entire process takes place on the chain and does not require KYC. Therefore, any market participant – regardless of national policy – ​​can access assets (whether long or short) and then enter margin trading.
3.2. Disadvantages and inherent risks
3.2.1 Universal shortcomings
The following are some of the general shortcomings of centralized lending solutions and hosting platforms for existing protocols/platforms running on the Ethereum blockchain:
  • Lack of insurance mechanism: Unlike the traditional financial industry, there is no insurance mechanism for chain loans. Therefore, there is a risk of default, although some platforms may provide insurance for users in the event of a default by the counterparty, which is still a general defect of these decentralized platforms.
  • Difficulties in redeeming legal tender: Since loans are denominated in cryptocurrency, it is often difficult to convert these loans into legal tender. It seems that it is difficult to use these borrowed funds in the real economy, but this is actually a broader issue, which involves how to use blockchain assets more widely in the real economy. In addition, the support of mortgage-stable coins (especially USDC) may further motivate users to lend funds and redeem French currency using native blockchain assets such as Ethereum.
  • Over-collateralization does not help "unopened" users (ie users who do not have encrypted assets): Since there is currently no credit score available, the loan must be over-collateralized. For users who do not have encrypted assets, there is no opportunity to borrow. So these loans and lending platforms do not serve economic growth because one of the prerequisites for loans is overcollateralization (sometimes as high as 150%). Another system based on credit scoring is also under development, but it is not clear how to design such a blockchain lending system without a clear KYC policy, but it is possible to further “discriminate” some market participants.
  • Over-collateralization has little effect on leveraged trading: although funds can be borrowed and transferred to other platforms, but because of the need for over-collateralization, speculative traders are less interested in borrowing on decentralized platforms and agreements. Centralized exchanges make margin trading easier to operate, relying on automated margin systems, sophisticated clearing algorithms and insurance funds to allow traders to create highly leveraged positions.
These shortcomings are indeed critical, but we must realize that most of the shortcomings are due to the early stages of the open financial industry, and many applications and protocols are still a test field. We expect that as the industry matures, solutions to some key issues will surface. For example, by creating insurance agreements, researching new industry regulations and smart contract mechanisms to avoid designs that must be over-collateralized.
3.2.2 Blockchain specific risks
Since we mainly discuss applications based on Ethereum in this report, some of the problems of Ethereum itself may cause some problems for DeFi lending solutions:
  • Network congestion: Ethereum may be blocked by applications like crypto cats; FCoin's chain voting policy also caused Sybil Attack. In the event of network congestion, transactions may remain in a wait state, eventually leading to market inefficiencies and information delays.
  • Transaction costs, such as Gas fee: Since the transaction is based on Gas fee competition, transactions with low Gas Fees may await confirmation at a lower priority. Conversely, some products sometimes do not have a clear or fixed Gas fee, which can result in higher costs for users.
The above problems in Ethereum may occur in other blockchains. The reason why network performance problems are particularly prominent in Ethereum is because of the popularity and frequency of Ethereum. In contrast, other blockchains are currently not expanding, often because they are not high enough or are more central to design, resulting in higher transaction speeds and better performance.
3.2.3 Platform-specific risks
Although this report focuses on unmanaged platforms, the degree of decentralization of lending agreements varies. Platform-specific risks can be divided into two broad categories: semi-centralized platform risks and fully decentralized platform risks.
Semi-centralized platform risk
  • Lack of complete transparency. For example, Dharma is the third-largest DeFi app, but there is still a lack of transparency in certain areas. It is unclear how the fixed interest rate for each asset is defined because it is not affected by the market environment (supply and quotation dynamics). In addition, the loan matching process is opaque. There is no real-time information on how many loans are pending, and there is no way to audit whether the matching of loans is based on fair rules such as “FIFO (first come, first served)”.
  • Interest rate governance : The centralized platform can change interest rates at any time, bringing uncertainty to lenders and borrowers.
  • Counterparty risk : If the platform is semi-centralized (the funds are sent directly to the smart contract through the transfer of the intermediary), the platform itself can control the assets and potentially use the funds maliciously.
Fully decentralized platform risk
  • Failure of the price mechanism : Some oracles, that is, data providers that value mortgage assets, have operational risks, such as data manipulation or the inability to retrieve the correct market data due to price sources. This can lead to problems with incorrect valuation of mortgage assets.
  • Volatility risk: If prices fluctuate too quickly, some users may be forced to liquidate their mortgage assets.
  • Smart Contract Defects: Because transactions cannot be reversed on the blockchain, hacking attacks caused by any problem in smart contracts can cause significant losses to users of decentralized protocols. With the development and ongoing rapid iteration of Ethereum, the platform needs to continuously maintain the development and version migration of smart contracts to prevent financial losses.
  • Time Defect: When the platform's block time is stable, the interest rate is calculated at the block level. Otherwise, if the blockchain is stagnant or decelerated (or reversed), the interest rate may vary, and the logic of the smart contract to calculate interest is tied to the interest rate of each block.
3.2.4 Regulatory and tax risks
If any individual uses or relies on a hosted or centralized platform, even if cross-platform arbitrage is implemented, regulatory risk and tax costs should be considered. The following outlines some of the regulatory and tax risks associated with using these platforms.
  • Securities classification: There is more and more uncertainty about whether a stable currency can be classified as a security. Although CFCT can treat it as a “swap (swap transaction)”, the SEC (US Securities and Exchange Commission) may treat these as “demand notes”.
  • Hosting: The uncertainty with an unmanaged platform is: Who is the actual custodian of the loaned asset? Many professional investors are required to rely on third-party custodians, and the use of these platforms may create potential regulatory loopholes as some regulatory requirements may not be met.
  • Licence/License: Decentralized platforms operate in most jurisdictions without a license, regardless of where the end user is located. In the medium term, many of the platforms recently supported by USDC may have potential “license risk” that will ultimately affect the cost of the operator, resulting in higher interest rates or higher transaction costs.
  • Tax uncertainty: For these platforms, the location of the office and the judicial policies to be followed in the local are all grey areas.

4 Conclusion

Ethereum is currently the largest programmable blockchain with the market value. So, without a doubt, it is the standard default platform for many decentralized applications , including lending agreements such as Compound, Dharma, etc. Soon, other programmable blockchains (such as EOS) may be landing more and more of many other decentralized lending agreements.

As it is still in its early stages, there are still some risks in the lending industry, and these risks are expected to ease as the industry matures (especially as inflows increase and transaction volumes increase) . In more mature industries, more products should provide more choices for participants, enabling users to have more complete access to financial services.

In addition, these decentralized financial platforms may be the basis or data point for centralization agencies to make entry decisions, and hope to gain more financial services by strengthening competition with traditional financial institutions (the gatekeepers of today's financial sector). .

Although JPMorgan's forked version of Ethereum, Quorum, is being developed with plans such as JPM Coin, from the perspective of decentralized applications, Ethereum remains the model for all blockchains.

As shown by these lending platforms, DeFi seems to be one of the best use cases for blockchain technology, potentially reaching billions of users around the world and enabling users to access basic financial services more efficiently.

Original reference material

1.Circle Research (Ria Bhutoria). A closer look – Dharma-larm (2019).


2.Delphi Digital. Decentralized Finance (DeFi) – Thematic Insights (2019).


3.Kyle J Kistner. How Decentralized is DeFi? A Framework for classification Lending Protocols (2019).


4.Macro Narratives in Blockchain (Andrew Wong). The next FinTech: Global “Open Finance” Infrastructure (2019).


5.Maker Team. The Dai Stablecoin System (2017). 6.Multicoin Capital. Investment Thesis (2019).


7.The Block (Ryan Todd). Block by Block: Crypto Lending (2019).


8.The Block (Contributor Network). The benefits of trustless lending (2019).


9.Wave Financial (Roy Learner). Crypto lending: too good to be true? (2019)


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