{"id":556200,"date":"2023-02-24T23:15:00","date_gmt":"2023-02-24T20:15:00","guid":{"rendered":"https:\/\/en.buradabiliyorum.com\/defi-fragility-causes-and-cures-explored-in-highly-technical-bank-of-canada-study\/"},"modified":"2023-02-24T23:15:00","modified_gmt":"2023-02-24T20:15:00","slug":"defi-fragility-causes-and-cures-explored-in-highly-technical-bank-of-canada-study","status":"publish","type":"post","link":"https:\/\/buradabiliyorum.com\/en\/defi-fragility-causes-and-cures-explored-in-highly-technical-bank-of-canada-study\/","title":{"rendered":"# DeFi \u2018fragility\u2019 causes and cures explored in highly technical Bank of Canada study"},"content":{"rendered":"<div id=\"ez-toc-container\" class=\"ez-toc-v2_0_85 counter-hierarchy ez-toc-counter ez-toc-custom ez-toc-container-direction\">\n<p class=\"ez-toc-title\" style=\"cursor:inherit\">Table of Contents<\/p>\n<label for=\"ez-toc-cssicon-toggle-item-6a3bf09170a78\" class=\"ez-toc-cssicon-toggle-label\"><span class=\"\"><span class=\"eztoc-hide\" style=\"display:none;\">Toggle<\/span><span class=\"ez-toc-icon-toggle-span\"><svg style=\"fill: #dd3333;color:#dd3333\" xmlns=\"http:\/\/www.w3.org\/2000\/svg\" class=\"list-377408\" width=\"20px\" height=\"20px\" viewBox=\"0 0 24 24\" fill=\"none\"><path d=\"M6 6H4v2h2V6zm14 0H8v2h12V6zM4 11h2v2H4v-2zm16 0H8v2h12v-2zM4 16h2v2H4v-2zm16 0H8v2h12v-2z\" fill=\"currentColor\"><\/path><\/svg><svg style=\"fill: #dd3333;color:#dd3333\" class=\"arrow-unsorted-368013\" xmlns=\"http:\/\/www.w3.org\/2000\/svg\" width=\"10px\" height=\"10px\" viewBox=\"0 0 24 24\" version=\"1.2\" baseProfile=\"tiny\"><path d=\"M18.2 9.3l-6.2-6.3-6.2 6.3c-.2.2-.3.4-.3.7s.1.5.3.7c.2.2.4.3.7.3h11c.3 0 .5-.1.7-.3.2-.2.3-.5.3-.7s-.1-.5-.3-.7zM5.8 14.7l6.2 6.3 6.2-6.3c.2-.2.3-.5.3-.7s-.1-.5-.3-.7c-.2-.2-.4-.3-.7-.3h-11c-.3 0-.5.1-.7.3-.2.2-.3.5-.3.7s.1.5.3.7z\"\/><\/svg><\/span><\/span><\/label><input type=\"checkbox\"  id=\"ez-toc-cssicon-toggle-item-6a3bf09170a78\" checked aria-label=\"Toggle\" \/><nav><ul class='ez-toc-list ez-toc-list-level-1 ' ><li class='ez-toc-page-1 ez-toc-heading-level-1'><a class=\"ez-toc-link ez-toc-heading-1\" href=\"https:\/\/buradabiliyorum.com\/en\/defi-fragility-causes-and-cures-explored-in-highly-technical-bank-of-canada-study\/#%E2%80%9D_DeFi_%E2%80%98fragility_causes_and_cures_explored_in_highly_technical_Bank_of_Canada_study_%E2%80%9C\" >&#8221; DeFi \u2018fragility\u2019 causes and cures explored in highly technical Bank of Canada study &#8220;<\/a><\/li><\/ul><\/nav><\/div>\n<h1><span class=\"ez-toc-section\" id=\"%E2%80%9D_DeFi_%E2%80%98fragility_causes_and_cures_explored_in_highly_technical_Bank_of_Canada_study_%E2%80%9C\"><\/span>&#8221; DeFi \u2018fragility\u2019 causes and cures explored in highly technical Bank of Canada study &#8220;<span class=\"ez-toc-section-end\"><\/span><\/h1>\n<p><img decoding=\"async\" src=\"https:\/\/images.cointelegraph.com\/images\/840_aHR0cHM6Ly9zMy5jb2ludGVsZWdyYXBoLmNvbS91cGxvYWRzLzIwMjMtMDIvYTU1ZjM1ZDktYjIzMS00ZDFmLWE3YTgtYjRjMDU0ZjRhNDNiLmpwZw==.jpg\" \/><\/p>\n<div class=\"post-content\" data-v-48054ca8>The Bank of Canada has released a working paper that examines lending protocols in decentralized finance (DeFi) with regard to sources of instability and their relation to crypto asset prices. Its findings point to potential ways to optimize DeFi lending platforms, or possibly the practical limits of decentralization.<\/p>\n<p>The authors of the paper, <a rel=\"nofollow noopener\" target=\"_blank\" href=\"https:\/\/www.bankofcanada.ca\/wp-content\/uploads\/2023\/02\/swp2023-14.pdf\">titled<\/a> \u201cOn the Fragility of DeFi Lending\u201d and released Feb. 22, acknowledged the inclusiveness DeFi offers and the advantages of smart contract protocols over the use of human discretion. They went on to identify the systemic weaknesses of DeFi. Information asymmetry, a key issue for regulators, was highlighted here, with the twist that, in DeFi, the asymmetry favors the borrower:<\/p>\n<blockquote><p>\u201cThe collateral composition of a lending pool is not readily observable, implying that borrowers are better informed about collateral quality than lenders are.\u201d <\/p><\/blockquote>\n<p>That is because borrowers are at least aware of the quality of the assets they used a loan collateral. Moreover, \u201cOnly tokenized assets can be pledged as collateral, and such assets tend to exhibit very high price volatilities.\u201d Price and liquidity produce a feedback loop, the paper argued: the price of an asset affects borrowing volume and that, in turn, affects asset price.<\/p>\n<p>In addition, smart contracts\u2019 lack of human input can have undesired effects. Traditional loan contracts can be modified by loan officers in response to current information. Smart contracts are inflexible because terms are preprogrammed and \u201ccan only be contingent on a small set of quantifiable, real- time data\u201d and even minor changes to the contract can require a lengthy discussion process.<\/p>\n<blockquote><p>\u201cAs a result, DeFi lending typically involves linear, non-recourse debt contracts that feature over-collateralization as the only risk control.\u201d<\/p><\/blockquote>\n<p>Efficiency, complexity, and flexibility are thus reduced in comparison to traditional finance and \u201cself-fulfilling sentiment-driven cycles\u201d of pricing arise. The authors used advanced mathematics to examine a number of propositions for achieving market equilibrium in those circumstances. <\/p>\n<p><strong><em>Related: Bank of Canada emphasizes need for stablecoin regulation as legislation is tabled<\/em><\/strong><\/p>\n<p>A flexible optimal debt limit was found to provide equilibrium. However, \u201csimple linear haircut rules\u201d typically designed into smart contracts cannot implement a flexible limit. It would be hard to create protocols with that feature and they would be highly dependent on the choice of oracles. Alternatively to that challenge, \u201cDeFi lending could abandon complete decentralization and re-introduce human intervention to provide real-time risk management.\u201d <\/p>\n<p>Thus, the authors conclude, the DeFi trilemma of decentralization, simplicity and stability remains unconquered.<\/p>\n<blockquote class=\"twitter-tweet\">\n<p lang=\"en\" dir=\"ltr\">Interesting new study from the Bank of Canada on &#8220;the Fragility of DeFi Lending&#8221; <a rel=\"nofollow noopener\" target=\"_blank\" href=\"https:\/\/t.co\/BqnjIxnelB\">https:\/\/t.co\/BqnjIxnelB<\/a><\/p>\n<p>\u2014 Ryan Clements (@ryanjclements) <a rel=\"nofollow noopener\" target=\"_blank\" href=\"https:\/\/twitter.com\/ryanjclements\/status\/1628531191291981824?ref_src=twsrc%5Etfw\">February 22, 2023<\/a><\/p><\/blockquote>\n<p><script async src=\"https:\/\/platform.twitter.com\/widgets.js\" charset=\"utf-8\"><\/script><template data-name=\"subscription_form\" data-type=\"law_decoded\"><\/template><\/div>\n<blockquote><p><strong><span style=\"color: #ff6600;\">If you liked the article, do not forget to share it with your friends. Follow us on\u00a0<span style=\"color: #ff0000;\"><a style=\"color: #ff0000;\" href=\"https:\/\/news.google.com\/publications\/CAAqBwgKMLG0nwswvr63Aw\" target=\"_blank\" rel=\"nofollow noopener noreferrer\">Google News<\/a><\/span>\u00a0too, click on the star and choose us from your favorites.<\/span><\/strong><\/p><\/blockquote>\n<blockquote>\n<p style=\"text-align: center;\">For forums sites go to <span style=\"color: #ff9900;\"><a style=\"color: #ff9900;\" href=\"https:\/\/forum.buradabiliyorum.com\/\" target=\"_blank\" rel=\"noopener\">Forum.BuradaBiliyorum.Com<\/a><\/span><\/strong>\n<\/p><\/blockquote>\n<blockquote>\n<p style=\"text-align: center;\"><strong>If you want to read more <a href=\"https:\/\/buradabiliyorum.com\/en\/category\/news\/\" data-internallinksmanager029f6b8e52c=\"2\" title=\"News\" target=\"_blank\" rel=\"noopener\">News<\/a> articles, you can visit our <span style=\"color: #ff9900;\"><a style=\"color: #ff9900;\" href=\"https:\/\/en.buradabiliyorum.com\/general\/\" target=\"_blank\" rel=\"noopener\">General category.<\/a><\/span><\/strong><\/p>\n<\/blockquote>\n<p><span style=\"color: black;\"><a style=\"color: #ff9900;\" href=\"https:\/\/cointelegraph.com\/news\/defi-fragility-causes-and-cures-explored-in-highly-technical-bank-of-canada-study\" target=\"_blank\" rel=\"noopener\">Source<\/a><\/span><\/p>\n","protected":false},"excerpt":{"rendered":"<p>&#8221; DeFi \u2018fragility\u2019 causes and cures explored in highly technical Bank of Canada study &#8220; The Bank of Canada has released a working paper that examines lending protocols in decentralized finance (DeFi) with regard to sources of instability and their relation to crypto asset prices. Its findings point to potential ways to optimize DeFi lending&#8230;<\/p>\n","protected":false},"author":1,"featured_media":556201,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"fifu_image_url":"https:\/\/s3.cointelegraph.com\/uploads\/2023-02\/a55f35d9-b231-4d1f-a7a8-b4c054f4a43b.jpg","fifu_image_alt":"","footnotes":""},"categories":[1],"tags":[74868,77595,107545],"class_list":["post-556200","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-general","tag-defi","tag-lending","tag-liquidity"],"_links":{"self":[{"href":"https:\/\/buradabiliyorum.com\/en\/wp-json\/wp\/v2\/posts\/556200","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/buradabiliyorum.com\/en\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/buradabiliyorum.com\/en\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/buradabiliyorum.com\/en\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/buradabiliyorum.com\/en\/wp-json\/wp\/v2\/comments?post=556200"}],"version-history":[{"count":0,"href":"https:\/\/buradabiliyorum.com\/en\/wp-json\/wp\/v2\/posts\/556200\/revisions"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/buradabiliyorum.com\/en\/wp-json\/wp\/v2\/media\/556201"}],"wp:attachment":[{"href":"https:\/\/buradabiliyorum.com\/en\/wp-json\/wp\/v2\/media?parent=556200"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/buradabiliyorum.com\/en\/wp-json\/wp\/v2\/categories?post=556200"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/buradabiliyorum.com\/en\/wp-json\/wp\/v2\/tags?post=556200"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}