Liquity v2: Enhancing the borrowing experience

The macroeconomic landscape is ever changing, and the DeFi space is not immune to it.

Liquity was designed to be unchangeable, governed only by code. Since launch in April 2021, it has been working exactly as intended - providing 0% borrowing and keeping users’ funds safe.

The high interest rate environment seen in recent years made borrowing less capital-efficient. While everywhere else borrowers had to pay between 10 and 50% for their loan, Liquity stayed at 0% -  but its users "paid" with higher collateral requirements due to increasing redemption volume. 

This is a hard problem to solve. Even more because the team did not want to sacrifice our core values or capital efficiency.

The solution is as simple as it is efficient; user-set interest rates. But that’s not all.

Liquity v2 brings an innovative approach to immutable, governance minimized protocols, better adapted for more versatile market conditions.

This is achieved by innovating on multiple levels:

• User-set interest rates - a better monetary policy
• New collateral types - ETH and LST’s
• Less frequent redemptions
• Protocol-incentivized liquidity
• Short-term loans
• Multiple Troves per address (and transferable)
• No more Recovery Mode and higher realizable LTV 
• 1-click leverage

And keeping what Liquity is known for:

• No TradFi exposure
• Immutability
• Rigorous security
• Predictable fees

Let’s break down the borrowing enhancements in more detail.

User-set interest rates

This main innovation introduces a new primitive to DeFi and will improve the protocol on several levels.

Right now in DeFi, we have:

• Fixed/No interest rates - e.g. Liquity
• Governance based interest rates - e.g. MakerDAO
• Algorithmic interest rates - crvUSD

User-set interest rates introduce a new primitive to DeFi.

As a borrower, you will be able to choose any rate you like, and control how much you pay. Similar to entering the collateral and borrowing amounts, you will also enter the interest rate you are willing to pay, and change it any time.

The interest rate can be adjusted manually or delegated to a manager, which will be adjusting it within a predetermined range (more on this below).

The main goal of this approach is to split liquidation risk and redemption risk. In Liquity v1 both are tied together; in v2 liquidations will still be based on your loan-to-value ratio, but redemptions will not! They will be determined by the interest rate you are paying, starting from the borrowers paying the least.

This means that you will be able to have a very capital efficient loan or leveraged position, and close to zero risk of redemption (if you apply a defensive strategy). But that is just one option, as a user you will be able to easily find a strategy which suits your needs.

By using such an adaptive market-driven monetary policy, we expect that redemptions will be less frequent and BOLD’s peg more reactive and predictable (see blog post). Both of these enhancements will clearly improve the experience for borrowers, as well as BOLD holders. For a hands-off borrowing experience, Liquity v2 will also introduce the ability to delegate your interest rate to a 3rd party. 

Borrowers can delegate their interest rates to:

• A manager - a 3rd party which actively and continuously adjusts the rate for a group of users, with a clear goal / rate percentile. 
• A smart contract - an Ethereum contract address autonomously managing the borrow rate for its users following a preset logic.
• To any EOA - this can be a hot wallet you’ll use during vacation or a friend doing this for you.

In all cases, the only permission this delegate has is to adjust the rate in a predetermined range. Nothing else.

New collateral types - ETH and LSTs

Apart from ETH, users will also be able to use certain LSTs as collateral. This way they get liquidity or leverage while also benefiting from auto compounding staking yields. This expands the addressable market and makes the protocol more future-proof, while also addressing the no. 1 requested feature from our community.

Every collateral will have its own separate borrow market, with its own interest rates and risk parameters.

Less frequent redemptions

Redemptions usually happen when BOLD trades below $1.00.

The main force to decrease redemption frequency in v2 is the ability to increase BOLD holding demand. 

When redemptions occur, borrowers will tend to raise their interest rates to protect their positions. This will result in an increased yield for Stability Pool depositors, making it more attractive to buy and hold BOLD.

The protocol can thus also react to external influences such as an increase of Dai’s DSR rate through higher interest payments, reducing the sell pressure on BOLD.

Protocol-incentivized liquidity

Another innovation introduced by v2 is protocol-incentivized liquidity (PIL).

To ensure sufficient liquidity on the secondary market, Liquity v2 comes with built-in liquidity incentives. It will divert a portion of its interest revenue to eligible LPs, determining the split between the pools through regular gauge voting

This will be the only ‘governable’ part of the protocol, rather limited in its scope but creating a useful dynamic between voters and recipients

Short-term loans

In Liquity v1 you pay the borrow fee up front. While this benefits longer term loans, it makes  short-term borrowing less attractive.

With v2 there will be no up-front fee, but ongoing interest rate payments.The system will thus cater to loans of all durations, including short-term loans.

No more Recovery Mode and higher realizable LTV

Recovery Mode is a special protocol state in Liquity v1 where loans with a CR below 150% (instead of 110% as under normal operation) can be liquidated. It is triggered when the total collateralization ratio of the system drops below 150%.

This mode was activated only once though, for 2 minutes, on May 19th 2021.

The removal of Recovery Mode in v2 ensures that borrowers can benefit from a  permanently high LTV regardless of the system state, and up to 11x leverage.

This way, users do not have to worry about this edge case anymore, knowing that they can never be liquidated as long as they keep their position below the maximum LTV.

1-click leverage

You will be able to easily leverage up on your position with just one click. Leveraging your (staked)ETH position is popular among Liquity users and across DeFi as a whole.

In Liquity v2 you will be able to do it by just selecting your desired leverage and executing one transaction. This function will flash borrow (staked)ETH and swap for BOLD for more leverage.

Multiple and transferable Troves

In Liquity v1, each user (address) can have only one Trove open. In v2 you will be able to have multiple loans open, even for the same collateral type.

This enables you to apply different strategies for different portions of your portfolio. You might have 70% of your ETH in a strategy with 60% LTV and 5% interest, while the other 30% will be at 80% LTV and 7% interest. 

This approach can be expanded across all types of collateral and adjusted at any time.

Troves are easily transferable between addresses - they are NFTs adhering to the ERC721 standard.

All differences at one glance↓

Keeping what Liquity is known for

While there are plenty of changes coming with v2, it will keep many things v1 is admired for.

No TradFi exposure

Everything will live and be fully verifiable on-chain. No centralized assets will be used, nor will there be any touching points with centralized exchanges or similar institutions.

‍Immutability

All core contracts will be immutable, reducing attack vectors via hacks or governance. As with Liquity v1, no outside parties or even the team itself can ever change the protocol.  This is a unique value proposition and a very important part to ensure the resilience and long-term safety of the system. 

Governance will be limited to just one component of the system, the protocol-incentivized liquidity (PIL).

Rigorous security‍

Liquity v1 is a thoroughly researched, tested and audited product. As such, it is among the top protocols on DefiSafety.

v2 will follow the same standard of multiple audits from top companies, extensive economic modeling and thorough internal testing.

Predictable fees

Liquity v1 & v2 are the only borrowing solutions where no one can change your fee. Your cost to borrow stays predictable, enabling greater control over your funds, while reducing dependency on external influences.

Liquity v2 brings a new, much more flexible and efficient borrowing experience. It will adapt to changing market conditions and cater to any individual needs.

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Questions?
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