Core Protocol Functions
Users supplying liquidity to the Minterest protocol access the Minterest protocol interface. They supply liquidity using signed transactions on the Ethereum blockchain.
The protocol directs the supplied assets to the correct pool and issues a receipt token, a fungible internal accounting mechanism. Its functionality never leaves the system, operating as a bookkeeping tool enabling the tracking and recording of a liquidity provider’s asset lifecycle within the Minterest protocol ecosystem.
Each token asset type supported by the protocol is in a separate pool, and each pool has its own distinct interest rate model, fully independent of all other pools. A pool of underlying assets, its receipt tokens and interest rate model form a unit called a market.
When a user chooses to withdraw their supplied liquidity from a pool, the receipt token is used to calculate any additional interest based on the value of assets supplied by the user. The protocol forwards the original assets, plus the additional interest balance accrued in the same assets, to their wallet address.
Users can transfer receipt tokens from one wallet to another. Doing so results in the transfer of ownership over all token assets associated with the receipt token.
The borrower must first supply the required amount of collateral to release the desired amount of assets from the pool of the borrowed underlying asset. When a borrower repays, the protocol returns the tokens to the appropriate asset pool and updates the borrower’s supply/borrow Utilisation Ratio.
Interest rate calculation is an accrual, based on asset values in relation to their markets. The calculation is applied to all borrowers of a market uniformly and changes dynamically as the relationship between the amount supplied and amount borrowed in the market changes.
Interest rate calculations for a market are updated every time any transaction is undertaken. This includes, but is not limited to, the supply, borrow, repayment, or liquidation of borrowed assets.
The protocol compares the USD value of all borrower collateral positions to the Utilisation Ratio, with the USD value of all loans including accrued interest on supplying and borrowing. If the Utilisation Ratio is 1.0 or more, the borrower’s portfolio is insolvent and subject to liquidation.
Liquidations in lending protocols occur when a borrower position becomes insolvent. This typically occurs when:
- the price of a borrowed asset increases, reducing the comparative value of collateral supporting the borrow position
- the price of collateral assets fall resulting in the same
- interest charges accumulate to consume too much collateral
Liquidation processes manage the solvency of individual borrow positions and protect the solvency of the protocol’s various token markets. In all other lending protocols, liquidation events are executed by external liquidators who buy out under-collateralised borrow positions at discounts to market rates. Discount rates can range from 5% to 15%, and represent the liquidators’ fee.
A simplified example:
- Bob wishes to borrow USDC from a lending protocol using ETH as collateral. If the Utilisation Limit for the ETH pool is 80%, Bob can borrow up to 80 USDC against $100 worth of ETH collateral.
- Bob adds $100 collateral in ETH and takes out a loan of 60 USDC, so his utilisation ratio is 80/60 = 1.33.
- ETH’s price then declines by 30%, so the value of Bob’s collateral becomes 70 USD ($100 * (1-0.3)). This changes Bob’s Utilisation Ratio, which now is lower than 1.0 i.e. (70*0.8)/60 = 56/60 = 0.933.
- For the USDC-ETH pair the liquidation discount is set by the protocol at 5%. Lenny, as liquidator, buys up Bob’s ETH collateral at a fixed discount of 5% to market price, so he will pay 66.5 USDC to get 70 USD worth of ETH collateral, resulting in a 3.5 USDC surplus for Lenny.
DeFi protocols individually define liquidation fees for external liquidators. They also set the minimum thresholds of borrower collateral liquidators may extract, with significant ranges of 30% to 50% being common.
With Minterest the protocol undertakes the role of liquidator, removing the role of third parties. This directly benefits borrowers, since the algorithm does not require economic incentives to act, so the protocol can economically liquidate smaller percentages of borrower collateral. The result is more equitable liquidations, as the protocol liquidates only the amount required to return the borrower’s collateral position to solvency, plus a fractional buffer to minimise revolving liquidation events.
- An automated bot array scans protocol solvency, replacing the external liquidator function in identifying under-collateralised borrower positions. Each bot database mirrors the chain, with portfolio provisioning ensuring security and redundancy.
- Once an under-collateralised position is identified, the collateral required to be sold and the most efficient on-market liquidation strategy are both algorithmically determined.
- Sell pair calculations are finalised, the liquidation event is triggered, and data updated on the protocol.
- A designated smart contract further validates if the user is under-collateralised, the existing borrow amount, and new collateral position required to keep the Utilisation Ratio above the 1.0 requirement. The smart contract then executes the liquidation.
- The smart contract exchanges the liquidated collateral assets on-market to compensate the borrow token pool and finally validates the newly-solvent borrow position.
- If the smart contract determines any precondition or calculation to be invalid, the liquidation event is cancelled.
- Upon confirmation, the borrow position is again solvent and the liquidation event is complete.