The Core Tenets of On-Chain Lending
The act of lending is as old as human history. In the Mesopotamia era, farmers would grow and lend out grain seeds to other farmers in exchange for future payment. Taking a page out of Sapiens: A Brief History of HumanKind — the intelligence to understand the intangible concept of lending and borrowing is what differentiates human beings from simpler life forms on Earth. Today, lending is an entire industry built around countless number of institutions, corporations and individuals all striving to provide a solution to a growing need.
On-chain, the lending market is nowhere as mature as their off-chain counterparts. The blockchain has given us unprecedented access to financial instruments including the ability to deposit, define an interest rate and generate market supply/demand almost instantaneously and all without a unified central governing body. On-chain financing is reaching maturity much quicker than any of us would have predicted to the point that it is becoming a viable alternative investment market with unlimited growth potential.
As such, we need to understand what are the core tenets that make on-chain lending such a viable industry.
Transparency
The ability to establish lending rates is one of the main factors of effective markets. In the traditional world, lending rates are set by a central financial institution and is often expressed as a percentage of the principal. These rates are given according to what the institution sees fit and without consul with external bodies.
On-chain, the credit worthiness of a borrower can be stored on the blockchain based on additional factors such as objective of financing, past transactions and more importantly, the borrower’s reputation. The added benefit of storing information available on chain is to add further transparency and to forgo the black box decision making that traditional finance is known for. This capability forms the foundational infrastructure of lending on the chain.
Assets need a market in order to effectively distinguish whether they are good or bad — assets and market should not be separated. This consensus is determined by the number of invested users throughout the ecosystem, thus, the network of users need to be deep and wide enough for the assets value to be determined. In a sense, the market will set the asset’s value instead of an arbitrary number that is set by a central figure. This is true democratized lending and it is only achievable on-chain.
Liquidity
DAI has become ubiquitous in the last year through its usage in Curve finance, liquidity mining, algorithmic stablecoins and through various DEX such as Uniswap. At its core, the usage of DAI is a loan agreement established by two parties. These types of agreements allow DAI to become as close to a de-facto currency to enable loan agreements to take place in a frictionless way.
Cross-Chain
In theory, a wide selection of assets can increase the number of transactional relationships between borrowers and lenders, allowing further market demand to determine what terms are reasonable depending on the assets. This allows the market and the DeFi community to help determine which assets are qualified and which are not. Because of the involvement of the community, this provides a continuous network affect that helps propagate the adoption of more lending activity on-chain.
Throughout foreign and domestic countries, lending agreements have reached a stage of development that allows them to be widely adopted. This is a market with bilateral network affects and allows for the development of smaller, niche markets in different segments. Compound and Aave are arguably the biggest transmission source for the entire cryptocurrency lending market. However, in the ecosystem outside of ETH, public chains such as Polkadot’s Acala, Ontology Wing, and Bytom MOV fill in the holes for other users. Therefore, with the large number of choices, the needs of the market is well taken care of.
Cross chain considerations are key to lending agreements
Lending markets that have their own ecosystem rely on strong cross-chain infrastructure to interact with assets that sit outside their immediate purview, usually with the help of strong lending agreements in place. These public chains must establish pairings between different assets, usable within their own ecosystem. When pairings are strong and attractive to users, this naturally helps with lowering the barrier to working across cross chain and allows for a network effect to take place.
How did Lending become DeFi’s killer app?
Assets, liquidity and derivatives are three of the main characteristics for loan agreements on-chain. Each of these characteristics must exist for enough trust, support and interest for that market to thrive. Systems that support lending agreements need to have the ability to discern whether the flow of assets are occurring within the confines of the system or outside of it. Ethereum has sprouted an entire ecosystem of Layer 2 projects that build on top of it. But the value of Ethereum is the fact that it enables such innovation to sit on top of it rather than them actually being the technology to facilitate cross chain interactions. Therefore, projects that heavily involve the use of loan agreements need to facilitate the interaction across multiple chains as its foundational element.
In addition, any supply+demand relationship that sits within DeFi will be naturally scrutinized by financial order, thereby enabling only the good assets to rise to the top.
At COFFEE Shop DAO, our thought process follows along the same logic that we have spoken to above. Lending is fundamentally core to how we function as a society. Hence, we are looking to bring safe, trustless and frictionless loan access to the blockchain through our own assets. We are providing assets across all ranges of risk, return and quality to anybody in the community through the use of loan agreements and crypto pairings that appeal to DeFi users. Compared to other systems, our assets will help bring forth additional liquidity in the DeFi space while helping our users generate attractive returns on their investments.
COFFEE tokenizes high quality real world assets that are safe, secure and fully insured, our team is focused on easing the high technical cost of entry for institutions, corporations and users alike who are looking to bridge the off-chain world with the on-chain. Ultimately our goal is to allow off-chain asset originators to easily bring their loan requests to the community and enable crypto lenders to fund these requests by offering attractive guaranteed yields. There’s more to come as we are working our way to launch. We invite you to check out our lite paper on Medium or DM us on Twitter!
