Lending and borrowing

Lesson 4 of 6

By the end of this lesson you’ll be able to explain how a lending pool sets its rate, work out when a loan gets liquidated, and say why a flash loan can’t borrow more than a pool holds.

A collage. A deep blue grand piano falls through a pale sky from the basket of an old gas balloon, where three men lean over the rim with their arms still out. Fields lie far below.

One pool, two sides

A lending protocol is a pool with two kinds of user. Lenders deposit a token and earn interest. Borrowers take that token out of the pool and pay interest, after locking up collateral worth more than the loan.

Lenders

Deposit a token and earn interest

Borrowers

Lock up collateral, take the token out and pay interest

Aave and Compound are two of the longest-running examples, and both work this way.

Nobody matches you with a borrower. Your deposit joins everyone else’s, and the pool’s rules decide who may draw on it. ethereum.org describes decentralized lending as working “without either party having to identify themselves,” which is true, and it’s also why the pool demands collateral: the contract can’t chase anyone for repayment, so it holds something it can sell.

Depositing and repaying take approvals, as swapping does, and every step takes a signature. Approve only the amount you’re moving, read every signature, and never connect your vault account. Lesson 6 sets out which account does which job.

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Lending and borrowing

One pool, two sides

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