Compound.
c. 2019–2023
Lending, liquidation, and governance.
Compound grew from millions to tens of billions in assets under management. Designing and implementing the protocol meant developing both its financial mechanics and a disciplined way to change them.
Pooled lending.
Deposits supply a pool from which participants can borrow against eligible collateral. Interest rates respond to utilization, and the accounting connects activity in the pool to each participant’s balance.
Liquidation and incentives.
Borrowing capacity depends on the value of collateral and the limits assigned to each asset. A position can become eligible for liquidation as collateral loses value, borrowed assets appreciate, or interest accrues.
In Compound v2, a liquidator repays debt in exchange for collateral at a discount. A close factor limits how much of an outstanding borrow can be repaid in one liquidation.
The liquidation incentive compensates independent participants for repaying debt. Its size, the close factor, price feeds, and the cost of execution affect whether and how quickly they do. Liquidation connects the protocol’s accounting to the behavior of borrowers and liquidators as market conditions change.
Decentralized governance.
Decentralized governance gives participants a way to propose and decide on changes to a decentralized finance (DeFi) protocol. The governance architecture and token distribution mechanism made that process part of the protocol’s design.
Each change needed technical scrutiny. The engineering process connected specifications and implementation with unit and integration tests, simulation, formal verification, and audits. A proposal and migration system connected automated quality checks with on-chain submission and community review.
Protocol evolution.
Experience with the earlier system informed a subsequent version designed for greater portability, gas efficiency, and capital efficiency.
Compound III separates liquidation from the sale of collateral. The protocol uses its reserves to absorb a position’s debt and takes ownership of its collateral. Collateral can then be sold at a discount when reserves are below their target. This changes the relationship between liquidators, reserves, and the timing of collateral sales.