What is DeFi lending and how does it work?

Depositors supply assets to a protocol's shared pool and earn interest from borrowers. Borrowers lock collateral worth more than they borrow, because the protocol has no credit scores. A health factor tracks each position's margin. Undercollateralized positions can be liquidated. Per Aave's own docs, this is a system of smart contracts, not a bank.

What's the point of stablecoins?

In this context, they are the market's cash leg. Most DeFi borrowing and lending runs in dollar-stable tokens. A dollar balance does not swing with the market, on either side of the trade. The stablecoin pages cover the reserve models behind those tokens.

ELI5: what is a stablecoin and how does it work?

It is a crypto token built to stay worth one dollar. The issuer holds reserves, usually dollars or short-term government paper. The reserves roughly match the tokens outstanding, and attestations are published. On the lending pages of this site, think of it as the cash of the market.

How do people make money from stablecoins (ELI5)?

Three documented ways. Lending them to a protocol and earning borrower-paid interest. Supplying them as trading liquidity and earning fees. Or simply holding dollar value while transacting. Each has distinct risks. Each rate moves with demand. No rate belongs on an explainer page as a promise.

Are stablecoin yield products a trap, and what red flags?

Judge by the source of the yield. On a lending protocol, interest comes from borrowers. The rate falls when borrowing demand falls. A fixed high rate with no disclosed borrower or fee source has no mechanism behind the number. This page explains the mechanisms and flags nothing as a pick. The regulation pages cover what protections apply.

Crypto Finance: Lending and Borrowing Mechanics

What this page is

This page explains how lending works in decentralized finance. Its sources are protocol docs and one named data provider. It was rebuilt in 2026, and it absorbed a retired page on bitcoin lending. That page’s question, can you borrow against bitcoin, is answered here as a section. The page walks the mechanism, the margin rules, the scale, and the failure mode. It recommends no protocol. It quotes no rate as a promise.

The two-sided market

Lending protocols are two-sided markets. Suppliers deposit assets into shared liquidity and earn interest. Borrowers lock collateral and draw loans from the same pool ^[1]. Aave’s own introduction calls the system a decentralised set of smart contracts, a leading liquidity protocol ^[1]. The words matter. No loan officer sits in this market. The contract holds the terms.

Why loans are overcollateralized

The design choice that surprises every newcomer. Traditional finance leans on credit scores. DeFi uses over-collateralization, in Aave’s own words. Borrowers supply assets of greater value than the amount they wish to borrow ^[1].

The rationale is the protocol’s. It protects suppliers and maintains system solvency. A borrower who walks away leaves behind collateral worth more than the debt ^[1]. No identity check exists to fall back on. The margin does the work identity does in a bank.

The health factor and liquidation

Every borrowing position carries a health factor. Aave’s borrow documentation puts the responsibility plainly. Users must maintain sufficient collateralization to avoid liquidation ^[3].

Liquidation is the enforcement step. A position that falls below its margin invites a liquidator. The liquidator repays a portion of the debt and receives collateral with a liquidation bonus ^[1]. The mechanism keeps the pool solvent. For the borrower it is a forced sale at the worst moment. The protocol’s own docs frame collateral maintenance as the user’s task ^[3].

Where the interest comes from

Suppliers earn what borrowers pay. The rate on both sides follows a utilization curve with a kink. It rises steeply when the pool is heavily borrowed ^[1]. That single fact is the honest core of every stablecoin yield product built on lending. The yield exists because someone is paying to borrow. When borrowing demand falls, the rate falls with it.

The protocol’s version history

Aave’s changelog carries the field’s pace. Version three is stable and widely used. Aave V4 launched on Ethereum mainnet on 30 March 2026, with three hubs and eleven spokes. Further rollouts followed through mid-2026 ^[2]. A version number is a fact with a date, not a quality claim. Older versions keep running. Deposits sit in whichever version the depositor chose.

Borrowing against bitcoin

Can you borrow against your bitcoin? Mechanically, yes, through the same overcollateralized pattern, and the size of the lane is measured. Bitcoin’s own chain carried about 4.19 billion dollars of value in DeFi contracts on 11 September 2026, sixth among all chains by that provider’s count ^[7]. The figure’s composition, wrapped bitcoin versus other assets, is not verified here. It is stated without interpretation.

The structure stays the same as every other DeFi loan. Lock collateral, borrow less than its value, keep the health factor above water ^[1]. What changes is the risk on the side you hold. A loan against bitcoin collateral is also a bet on bitcoin’s price staying above your margin. A fall can trigger the liquidation described above.

The scale of lending

The lending category is the largest corner of DeFi. By DefiLlama’s count on 11 September 2026, the category held 645 protocols. Aave V3 was the largest single lending protocol, at about 17.71 billion dollars across 21 chains. Morpho Blue held about 9.69 billion. Compound V3 held about 1.46 billion ^[6]. Total value locked across all of DeFi was about 88.70 billion dollars that day. The DeFi page quotes the same figure from the same source ^[5].

The names are scale examples from that day’s pull, not a ranking, and the figures are one provider’s snapshots. They move daily. The methodology, deposits counted, staking and borrowed funds excluded, sits on the DeFi page.

The loan with no collateral

One DeFi instrument breaks the collateral rule by design. Flash loans borrow with no upfront collateral, per ethereum.org’s worked example. They must repay within a single transaction ^[4]. If the repayment does not happen, the whole transaction reverts and the loan never existed. The arbitrage use case is the documented one. A flash loan is not a tool for a savings wallet, and that boundary is worth stating.

Where this page sits

The DeFi page covers the exchange half of the field and the TVL methodology. The stablecoin introduction covers the asset most of this lending runs in. The bitcoin introduction covers the collateral asset of the borrowing-against-bitcoin section. The cryptocurrency hub frames the cluster. Every figure above carries its source and date.