Efficiency and Security in DeFi Lending

41 Pages Posted: 29 Dec 2022 Last revised: 26 Apr 2024

See all articles by Sylvain Carre

Sylvain Carre

Université Paris Dauphine; LEDa

Franck Gabriel

University of Claude Bernard Lyon 1 - Institute of Finance and Insurance Science (ISFA)

Date Written: April 26, 2024

Abstract

[The paper was formerly circulated under the name "Security and Credit in Proof-of-Stake DeFi Protocols".]

We construct a tractable general equilibrium model of DeFi lending to shed light on the role of pricing rules. We determine how the rule controls key equilibrium variables such as the utilization rate. Our model delivers a measure of welfare which incorporates the DeFi borrowing rate and the security of the underlying (Proof-of-Stake) blockchain, which we use to find welfare-maximizing pricing rules. Using a genuine function of the utilization rate becomes meaningful when there is parameter uncertainty. We establish conditions under which the first-best can be implemented by such a function, which we exhibit explicitly. When these conditions are not met, allowing the rule to also depend on the staking level restores efficiency. Our analysis leads to several other practical recommendations and conceptual clarifications.

Keywords: blockchain, Proof-of-Stake, decentralized finance, protocol design, welfare

JEL Classification: D4, G00, O3

Suggested Citation

Carre, Sylvain and Gabriel, Franck, Efficiency and Security in DeFi Lending (April 26, 2024). Université Paris-Dauphine Research Paper No. 4307207, Available at SSRN: https://ssrn.com/abstract=4307207 or http://dx.doi.org/10.2139/ssrn.4307207

Sylvain Carre (Contact Author)

Université Paris Dauphine ( email )

Place du Maréchal de Tassigny
Paris, Cedex 16 75775
France

LEDa ( email )

Place du Maréchal de Tassigny
Paris, Cedex 16 75775
France

Franck Gabriel

University of Claude Bernard Lyon 1 - Institute of Finance and Insurance Science (ISFA) ( email )

50, Avenue Tony Garnier
Lyon Cedex 07, 69366
France

HOME PAGE: http://sites.google.com/view/franck-gabriel-en/home

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