Lending & Borrowing, End to End

01 · Concept — what problem does it solve?

DeFi lending lets a stranger borrow your capital, and lets you borrow without ever meeting a loan officer — because the collateral, not the borrower, is the credit. There is no identity, no credit score, and no recourse. Solvency is enforced by over-collateralization plus an automated liquidation backstop: you must always post more value than you borrow, and if your buffer erodes, the protocol sells your collateral before the loan can go underwater.

The whole design exists to answer one question every block: is every loan still fully backed? If yes, the pool is solvent and lenders can be made whole. If a position drifts toward "no," liquidators are paid to drag it back.

02 · Mechanics

• Supply → receipt token: deposit an asset into a shared pool, receive an interest-bearing receipt (cToken, aToken). Your balance grows as borrowers pay interest.
• Collateral & LTV: each asset has a max loan-to-value — e.g. ETH at ~80% means $80 borrowable per $100 supplied. Riskier assets get lower LTV.
• Liquidation threshold: sits above LTV (e.g. ETH ~83% on Aave v3). Cross it and the position is liquidatable — the gap between LTV and threshold is your safety margin.
• Health factor: the single solvency number. Above 1 you are safe; below 1 you can be liquidated. See Liquidations.
• Variable rates: interest is set by pool utilization, not negotiated. Borrow demand up → rate up.
• eMode (correlated assets): Aave v3 groups assets that move together (e.g. stablecoins, ETH/LSTs) for much higher LTV — leverage that is only safe because the pair barely diverges.

03 · Formulas

// loan-to-value and the safety margin
max_borrow = Σ (collateralᵢ · price · LTVᵢ)
margin     = liquidation_threshold − LTV   // your buffer

// health factor — liquidatable below 1
HF = Σ (collateralᵢ · priceᵢ · liqThresholdᵢ) / Σ debtⱼ

// example: 10 ETH @ $3,000, threshold 0.83, debt $18,000
HF = (10 · 3000 · 0.83) / 18000 = 1.38

04 · Edge cases & risks

• The price feed is the whole game — health factor is only as honest as the oracle. A bad feed liquidates healthy users or lets bad debt accrue. See Oracles.
• Utilization spikes lock withdrawals — if borrows approach 100% of supply, lenders cannot exit until borrowers repay or rates climb enough to attract supply.
• Correlation breaks in eMode — high-LTV correlated positions are safe until the correlation snaps (an LST depeg, a stablecoin wobble), at which point the thin margin is gone.
• Bad debt is socialized — if a crash outruns the liquidators, the shortfall lands on the pool: lenders, a safety module, or the protocol treasury absorb it.