Overcollateralization Makes DeFi Lending Work Without Banks
The traditional banking system relies on credit scores and human evaluation to determine lending decisions. However, DeFi (Decentralized Finance) protocols have developed a different approach to lending.
Onchain lending, as it's called, replaces credit scores with overcollateralization, the borrower puts up more value than they borrow, secured by a smart contract.
This system relies on automated mechanisms to enforce rules and protect lenders from losses. When the collateral value drops below a certain threshold, an automated liquidation mechanism sells part of it to repay the loan.
The leading DeFi lending protocols are Aave, Compound, and Zest Protocol on Bitcoin (BTC). The total value locked across DeFi lending has surpassed $40 billion as of mid-2026.