One of the most popular services in decentralized finance (DeFi) are the lending markets. Even with their immense popularity, decentralized lending markets are still in their infancy. Most decentralized lending markets only allow for very basic collateralized loans, which makes it difficult for them to compete against their centralized counterparts.
A few lending markets in DeFi have innovated and integrated Flash Loans into their lending markets. UniLend, an up and coming cryptocurrency money market has plans to offer Flash Loans. Flash Loans are still pretty much the most underutilized gem in decentralized finance. This article will cover what Flash Loans are and their adoption so far.
Flash Loans are loans that do not require any collateral obligations from borrowers, so essentially they are non collateralized loans. To individuals who are new to decentralized finance a non collateralized loan might not seem that interesting. Afterall, in traditional finance (TradFi) there are a lot of different uncollateralized loans and lines of credit.
The difference between TradFi and DeFi is that DeFi is completely digital and does not require any identification or even authentication. DeFi also tends to be completely borderless thus almost all of the rules and regulations that apply to TradFi are not present in DeFi. The severe lack of rules in DeFi make the task of collecting on a non-collateralized loan very difficult, therefore a new type of non-collateralized loan, Flash Loan, had to be created exclusively for DeFi.
How Flash Loans Work
The trick behind Flash Loans is that they only last for one transaction block, which means the loan a person takes out will have to be repaid in the same transaction. The loans in a Flash Loan are taken from a pool, and this money needs to be returned to the pool in the same transaction.
The way it works is that a single transaction on Ethereum can have multiple steps. Additional steps can be added into an ERC20 transaction through the use of Smart Contracts. Each of the steps might seem like a transaction but in reality they are simply routing tokens around from smart contracts. As such the tokens borrowed in a Flash Loan are never really deposited in the borrower’s wallet. The borrowed tokens are simply routed around, and interact with different smart contracts. The smart contracts will only really execute the trade if the individual can repay the loan after the transaction has been completed.
Under the scenario that an individual will not be able to repay the loan to the liquidity pools after the transaction has been completed, the smart contracts will simply cancel the transaction. Once, the transaction has been canceled all funds will simply be returned to the original liquidity pools.
UniLend Adopting Flash Loans
UniLend has already made plans to allow the borrowing and lending of any ERC20, so to have Flash Loans on top of that could be a really interesting use case. Nevertheless, Flash Loans bring an immense amount of utility to any lending platform and integrating them will always make for a practical use case.
An interesting note about Flash Loans is that they haven’t really gained much adoption from a lot of decentralized lending platforms. However, they have actually gained a lot of attention from users in decentralized finance. The biggest and one of the very few players in Flash Loans right now is Aave and they have reported $2 billion USD in transaction volume from Flash Loans in just one year.
The market for Flash Loans also does not seem to be anywhere near saturation at this point. The trend of popularity for Flash Loans was slow at first but now they are at an exponential rate of growth.