Why DeFi lending? Evidence from Aave V2

BIS Working Papers  |  No 1183  | 
02 May 2024



Decentralised finance (DeFi) lending protocols have experienced rapid growth, going from zero to more than $50 billion in total value locked in less than two years. However, little is known about the motives for lending or borrowing through these protocols. Given the need for over-collateralisation in DeFi lending (contrary to what happens in traditional banking), it is somewhat surprising that any borrowing activity takes place on these platforms at all. Using granular transaction-level data from the Aave V2 protocol, we shed light on agents' motivations to engage in DeFi borrowing and lending activity, contrasting them with those in traditional finance to highlight the unique nature of DeFi.


We contribute to a fast-growing literature that compares traditional financial intermediation based on borrower reputation and financial strength with the DeFi lending market where participants are anonymous. Specifically, we propose a theoretical model that derives testable hypotheses that motivate deposit and borrowing transactions on DeFi protocols, and then we test these hypotheses empirically.


We find that liquidity provision in DeFi lending pools is mainly driven by the search for yield. This effect is particularly strong for retail users and has been reinforced by the "low-for-long" interest rate environment in advanced economies. We trace the motivations for borrowing through DeFi protocols primarily to speculation and, to some extent, to increasing voting power by temporarily raising a user's stake in governance tokens. Finally, we find key differences in behaviour between different types of investors. The deposit decision of retail investors is driven by the interest rates on alternative forms of investment available in the real economy. Conversely, the deposit decision of large investors is guided primarily by the interest rates offered in the DeFi protocol. On the borrowing side, the decisions of both retail and large investors are driven by speculative motives, seeking potentially high returns through leverage, market movements and price speculation. However, while retail investors show "fear-of-missing-out" behaviours, large investors do not. Furthermore, large investors engage relatively more than retail investors in DeFi borrowing for governance motives, such as influencing protocol decisions and accruing more significant governance rights.


Decentralised finance (DeFi) lending protocols have experienced significant growth recently, yet the motivations driving investors remain largely unexplored. We use granular, transaction-level data from Aave, a leading player in the DeFi lending market, to study these motivations. Our theoretical and empirical findings reveal that the search for yield predominantly drives liquidity provision in DeFi lending pools, whereas borrowing activity is mainly influenced by speculative and, to some extent, governance motives. Both retail- and large investors seek potential high returns through market movements and price speculation, however the latter engage in DeFi borrowing relatively more than the former also to influence protocol decisions and accrue more significant governance rights.

JEL classification: G18, G23, O39

Keywords: cryptocurrency, DeFi, decentralized finance, lending