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Banks have controlled lending and borrowing for centuries. They decide who gets loans, set the interest rates, and hold all the power. If your credit score isn’t perfect or you don’t have the right paperwork, you’re out of luck.
DeFi Money Markets flip this system completely upside down.
No credit checks. No paperwork. No waiting weeks for approval.
Just deposit your crypto as collateral, and borrow instantly. The smart contract handles everything else.
What Are DeFi Money Markets?
DeFi money markets are lending platforms built on smart contracts.
They allow users to:
- Lend crypto and earn interest – Deposit your tokens and get paid for lending them out
- Borrow crypto and pay interest – Put up collateral and borrow different tokens
The most popular platforms include Aave, Compound, and others.
But here’s the catch:
You can’t borrow unless you first deposit something valuable.
This is called collateral.
Traditional Borrowing vs DeFi
In traditional loans, you get money based on:
- Your salary
- Credit score
- Personal background
In DeFi, none of that matters.
The only thing that matters is how much you deposit as collateral.
How Collateral-Based Borrowing Works
The Collateral System
In DeFi, collateral is your security deposit. It’s like leaving your car keys with a friend when you borrow their bike. If you don’t return the bike, they keep your keys.
Here’s a simple example:
- You deposit 1,000 USDC as collateral
- You can then borrow 800 DAI (or ETH worth $800)
- You can’t borrow more than you deposited
- Your collateral stays locked until you repay the loan
DeFi Money Markets Glossary
Collateral
The crypto you deposit as security to borrow other tokens. If you deposit 1 ETH to a protocol, your collateral is 1 ETH.
Loan-to-Value (LTV) Ratio
LTV determines how much you can borrow compared to your collateral value. It’s expressed as a percentage.
Example with 75% LTV:
- You deposit 1 ETH worth $1,000 as collateral
- You can borrow up to 0.75 ETH worth of other tokens (or $750 worth)
- The protocol keeps 25% as a safety buffer
Different tokens have different LTV ratios based on their stability and risk.
The Liquidation Threshold
Liquidation happens when your borrowed amount becomes too risky compared to your collateral. It’s the protocol’s way of protecting itself and other users.
Common triggers:
- Your collateral drops in value (ETH price falls)
- Your borrowed asset rises in value (borrowed token pumps)
- You borrow too close to your limit
How Liquidation Works
When you cross the liquidation threshold:
- Liquidators step in – These are users who “buy” your debt
- You pay a penalty – Usually 5-10% of your collateral value
- Your collateral gets sold – To cover the borrowed amount
- You keep the rest – Any remaining collateral after paying debt and penalty
The warning system: Most protocols show you a “health factor” that warns you before liquidation happens.
Annual Percentage Yield (APY)
The yearly return on your investment, including compound interest. If you earn 10% APY, your money grows by 10% over one year with compounding.
Annual Percentage Rate (APR)
The yearly cost of borrowing without compound interest. If you pay 8% APR, you pay 8% interest over one year on the original loan amount.
Receipt Token
A special token you receive when depositing into a protocol. It’s like a receipt that proves you deposited funds. These tokens are minted when you deposit and burned when you withdraw.
Reserve/Underlying Asset
The actual token you deposited into the protocol. For example, if you deposit ETH into AAVE, WETH is the underlying token, and you receive aWETH receipt tokens.
Key Benefits of DeFi Money Markets
For Lenders:
- Earn passive income on idle crypto
- No minimum deposit requirements
- Withdraw anytime (subject to liquidity)
- Transparent interest rates
For Borrowers:
- No credit checks or paperwork
- Instant loan approval
- Keep your crypto exposure while borrowing
- Access to leverage trading strategies
Popular DeFi Money Market Protocols
AAVE: The largest lending protocol with innovative features like flash loans and rate switching.
Compound: Pioneer in DeFi lending with simple, reliable mechanics.
MakerDAO: Focused on DAI stablecoin creation through collateralized debt positions.
Conclusion
DeFi money markets represent a fundamental shift in how we think about lending and borrowing. They remove gatekeepers, reduce costs, and provide global access to financial services.
The power is now in your hands. No banker can reject your loan application. No credit agency can block your access. Just you, your crypto, and the smart contract.
But with great power comes great responsibility. Understanding collateral, liquidation, and risk management is essential before diving in.
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