A DeFi platform allows unsecured loans through a new function

Aave’s loan protocol recently launched a new feature called Credit Delegation. This feature allows users to provide peer-to-peer loans without formal collateral requirements.

Stani Kulechov, Aave’s CEO, explained on Twitter how the system will work. The credit delegation function is based on peers signing agreements with each other that allow borrowers to use the lender’s credit line freely.

The two parties must enter into a formal legal agreement that would define terms such as payment schedule, interest and other necessary conditions. Through an integration with OpenLaw, a project to create legal contracts registered in a chain of blocks, these terms can be formalized in a chain.

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The use of peer-to-peer intermediaries makes it possible to circumvent the limitations inherent in DeFi, where the protocol cannot recover a loan from the borrower outside the block chain. All lending platforms require more collateral than loans, which greatly limits the possible use of blockchain loans.

The intermediary bears the risk of insolvency for the borrower, since the protocol can access its collateral. It is then up to the intermediary to recover the loan through other means.

Given the higher risk, the intermediary receives a higher interest rate from the borrower.

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DeFi in the real world
The unsecured loan model could help bring DeFi into the traditional space by making loans more flexible. In a conversation with Cointelegraph, Kulechov said the initial purpose of the system is „to simplify the correspondence of the credit delegates with the borrowers who are both institutions and companies. The limitation seems to come from OpenLaw, which currently can only be used by businesses.

He promised that if the idea was tested, it would be extended to a larger audience. In this case, Aave would become the „backbone of liquidity lending for any funding that gets liquidity“.

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However, he noted that currently DeFi as a whole are still too small and „the industry would need to scale up quite a bit“ to bring them into the traditional world. He also argued that „it is important for borrowers to be able to convert stable currencies into FIAT at lower rates“.

Aave’s efforts can be seen as one of the first initiatives to bring Bitcoin Trader to non-cryptomonetary use cases, following Maker’s initial proposals for music royalty rights as a form of guarantee.

Aave has traditionally emphasized the compilation capability of DeFis, with flash loans and the use of other protocol tokens as collateral.