In the crypto market, this model is found both on centralized platforms and in DeFi protocols. However, these systems can be structured quite differently technically. Crypto loans are primarily interesting due to their mechanics. They utilize collateral, an interest rate, an LTV ratio, and automatic control of collateral value. All these parameters exist simultaneously and change with the market price of the assets.
When Cryptocurrency Becomes Collateral
One of the scenarios is when a borrower plages a specific digital asset as collateral and receives another asset. For example, Bitcoin can be used as collateral for a stablecoin loan. In this model, borrow cryptocurrency means creating a secured position. The pledged coins remain locked until the terms of the agreement or protocol are met. An important metric here is LTV, or loan-to-value. It reflects the ratio of the loan amount to the collateral's current value. If the collateral is valued at $10,000 and the loan is $5,000, the LTV is 50%.
Why is the collateral value constantly recalculated?
Cryptocurrencies are traded around the clock, so the price of collateral can change significantly even in a short period of time. Because of this, a cryptocurrency loan requires constant recalculation of the LTV. As the collateral value decreases, the ratio increases. If it reaches a critical level set by the system, part of the collateral or the entire position may be subject to liquidation. Liquidation is the automatic sale of collateral to cover liabilities. Specific thresholds and rules depend on the platform, asset type, and loan terms.
What happens on the other side of the transaction?
For one party to borrow crypto, the system requires a source of liquidity. On some platforms, the service infrastructure itself provides funds. In DeFi, this role is often fulfilled by liquidity pools. Users can use crypto lending by depositing digital assets into such a pool. A smart contract accounts for available liquidity, outstanding balances, and accruals according to the rules of a specific protocol. A smart contract is a blockchain program that automatically executes pre-defined conditions. This allows some transactions to occur without a traditional banking intermediary.
Crypto Loans Are Different
Not every cryptocurrency loan needs Bitcoin or Ethereum. Stablecoins and other supported assets can be used for crypto lending. The infrastructure differs, too: a centralized service manages the process inside its own system. A DeFi protocol uses blockchain and smart contracts. Accrual conditions, collateral, and liquidation mechanisms are also determined by a specific model.
The terms "crypto lending" or "borrow crypto" describe an entire category of transactions. Behind this simple definition are collateral, LTV, liquidity, and repayment policies. These mechanisms are what determine how modern crypto loans work technically.
This content is provided for informational purposes only and shall not be construed as financial, investment, trading, or any other form of professional advice. Nothing herein constitutes a recommendation or solicitation to engage in any transaction or investment activity.