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In the amazing growth of the various DeFi protocols in the first half of 2020, many new tokens made it into the top 100 by market capitalization.
Aave is a decentralized non-custodial money market protocol where users can participate as depositors or borrowers. Depositor provide liquidity to the market to earn a passive income, while borrowers are able to borrow in an overcollateralized or undercollateralized fashion.
The Aave project began under the name of ETHLend in 2017, when the crypto market was still quite calm and in January 2020, the project was bought by Aave.
Aave takes care of creating a marketplace where you can borrow and lend cryptocurriencies. The protocol is open source, which means that anyone can view and propose changes to the source code. It is also non-custodial, tokens remain in the possession of the user.
Are you curious to know the meaning of Aave?
Aave is a Finnish word that translated means “ghost” in English. Why the ghost? Because it represents Aave’s mission: create a transparent and open infrastructure for decentralized finance (DeFi).
The advantage of a non-custodial approach is that the risk of fraud and bankruptcy of the intermediary is eliminated. The disadvantage is that the rates offered to those who offer their currencies are much lower than a custodial platform.
The unique feature of Aave is the possibility for the borrower to choose between a fixed and variable interest. Usually, non-custodial platforms like Compound only offer a floating rate, while custodial ones like BlockFi only offer a fixed one. The choice between variable and fixed rates is similar to that in a mortgage.
The floating rate tends to be lower than the fixed rate but can go up or down over time. A strong propensity for variable interest mortgages played a role in the collapse of the real estate markets in 2007: statistically, the interest paid is lower, but there may be prolonged periods in which interest reaches very high levels.
Now I want to take a concrete example with DAI.
Right now, it is possible to lend DAI at 2,71% annualized interest. On the other side, it is possible to borrow DAI with a variable interest (5,12% at the moment), or at a fixed rate of 7,03%.
I will talk about more technical details and peculiarities of the token.
I want to focus on five issues:
Aave Token Migration
Aave Protocol Governance
1: From LEND to AAVE
The migration to AAVE marks the first step in transitioning governance power from the Aave core team to AAVE token holders.
Often referred to as ETHLend, the Lend token is the native token of Aave following the winding-up of operations by ETHLend in January this 2020. Although it has kept the name, the new Aave version of Lend is a step beyond the previous one.
Briefly, the ERC-20 LEND tokens are used for fee reductions in addition to providing governing rights at a base-code level for future protocol updates. The tokens are burned from fees accrued from the Aave protocol, suggesting that tokens could worth more over time. The protocol went live in January 2020, supporting 16 different assets including 5 stablecoins. In June 2020, Aave reported having reached as much as $100 million in market cap.
LEND will migrate to AAVE at a rate of 100 LEND per 1 AAVE, with the supply changing from 1.3B LEND to 16M AAVE. Of the 16M AAVE being issued, 13M AAVE tokens will be redeemed by LEND holders and 3M AAVE tokens will be held in an Aave Ecosystem Reserve for protocol incentives.
To start the migration, LEND will be used to vote on the Genesis Governance poll to deploy the smart contracts responsible for converting LEND to AAVE.
2: Aave Staking. Have you already heard about staking?
You can think of staking as an alternative to mining that requires less resources. It involves holding funds in a cryptocurrency wallet to support the security and operations of a blockchain network. Simply put, staking is the act of blocking cryptocurrencies to receive rewards.
I have already written an article where I explained the TRX staking, if you missed it click here.
You will also find a free video tutorial that will help you starting the stake of TRX in a few steps!
Aave will be secured by a safety module, a staking mechanism for AAVE tokens to act as insurance against shortfall events. Stakers earn AAVE as safety incentives along with a percentage of protocol fees.
Staked AAVE will be freely tradable after a cooldown period. All rewards accrue in real-time and are distributed as AAVE is withdrawn or transferred from the Safety Module.
The rights of the protocol are controlled by the LEND token. Initially, the Aave Protocol will be launched with a decentralized on-chain governance based on the DAOStack framework which will evolve to a fully autonomous protocol. On-chain implies all votes are binding: actions that follow a vote are hard-coded and must be executed.
To understand the scope of the governance it’s important to make a distinction:
The Aave Protocol is bound to evolve and will allow the creation of multiple lending pools with segregated liquidity, parameters, permissions and type of assets.
The Aave Lending Pool is the first pool of the Aave protocol until the Pool Factory Update is released and anyone can create their own pool.
Within the Aave Protocol, the governance will take place on two levels:
The Protocol’s Governance voting is weighted by LEND for decisions related to protocol parameters and upgrades of the smart contract. It can be compared to MakerDAO’s governance where stakeholders vote on current and future parameters of the protocol. If you want to know more about MakeDAO click here.
The Pool’s Governance where your vote is weighted based on your share of pool liquidity expressed in aTokens. The votes cover pool specific parameters such as assets used as collateral or going to be borrowed. Each Pool will have its own governance, under the umbrella of the Protocol’s Governance.
4: Aave Incentives
The Aave Protocol will be able to distribute Ecosystem Incentives for supplying and borrowing assets from the protocol.
The Ecosystem Incentives represents the part of the periodic issuance of AAVE used to incentivize liquidity providers, software developers and integrators to build value within the Aave ecosystem.
The community may also decide to allocate rewards to applications built on top of the Aave ecosystem. The decision to integrate new incentives will be performed through decentralized governance.
5: Aave V2
A very recent news concern about Aave V2.
A while ago, the Genesis Team released this plan outlining some features coming out with Aave V2, making finance a more seamless experience. Today, Aave V2 is live on the Kovan testnet.
Since the beginning of 2020 when the Aave Protocol first launched, the Genesis Team has collected feedback from the community which has been invaluable in making improvements to the protocol. Now the governance power is in your hands, and the Genesis Team will take on the role of builders who gather popular proposals on the governance forum, and enact the updates voted on by the governance.
Aave V2 is the realization of community feedback that brings some architecture redesign to upgrade the protocol, along with some exciting new features to push the limits of the DeFi user experience.