DEFI LENDING & BORROWING
Plain English
DeFi protocols like Aave and Compound let anyone lend crypto for yield or borrow against their crypto holdings — without a bank. Loans are over-collateralized: deposit $1,500 of ETH to borrow $1,000 of USDC.
Going deeper
Lending pools aggregate user deposits; borrowers pay variable interest based on utilization. Lenders earn that interest minus a protocol fee. Borrowers must maintain collateral above a liquidation threshold (typically 75-85% LTV); if collateral value falls, liquidators repay the loan and seize collateral at a 5-10% bonus. Use cases include shorting (borrow stablecoins against ETH, sell for USDC, buy back later), tax-efficient liquidity (borrow against crypto without selling), and leverage loops. Smart-contract risk is real — protocols have lost hundreds of millions to exploits.
Examples
Tax-efficient liquidity
You hold 10 ETH bought at $1,000 (now $3,000). Selling triggers $20k in capital gains. Instead, deposit ETH on Aave and borrow $10k USDC at 5%. You access liquidity without a taxable event.
Liquidation cascade
ETH drops 30% in a day. Borrowers' positions cross the liquidation threshold; liquidator bots execute, dumping ETH on-chain and accelerating the decline. May 2021 saw $1B+ liquidated in 24 hours.