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The determinants of funding liquidity risk in decentralized lending

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  • Nguyen, Minh Hong
  • Thanh, Binh Nguyen
  • Pham, Huy
  • Pham, Thi Thu Tra

Abstract

Decentralized lending in the DeFi ecosystem mirrors traditional financial intermediation but poses significant risks, particularly funding liquidity risk, due to the volatility and composbility of digital assets, high leverage, and the absence of regulatory protections. This study applies traditional financial intermediation theories to DeFi lending and empirically test which internal factors such as interest rates and user market power, as well as external factors like the USD Index, influence funding liquidity risk in DeFi lending. Analyzing high-frequency blockchain data using the ARDL model and a novel dynamic ARDL simulation from major pools such as Wrapped Bitcoin (WBTC) and Wrapped Ethereum (WETH), the research finds that current algorithmic interest rate models fail to function as effective self-stabilization mechanisms. Additionally, lower deposit concentration in these pools may exacerbate, rather than mitigate, funding liquidity risk.

Suggested Citation

  • Nguyen, Minh Hong & Thanh, Binh Nguyen & Pham, Huy & Pham, Thi Thu Tra, 2025. "The determinants of funding liquidity risk in decentralized lending," Global Finance Journal, Elsevier, vol. 64(C).
    • Handle: RePEc:eee:glofin:v:64:y:2025:i:c:s1044028324001273
    DOI: 10.1016/j.gfj.2024.101055
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    More about this item

    Keywords

    Decentralized finance; Decentralized lending; Cryptocurrency; Funding liquidity risk; ARDL;
    All these keywords.

    JEL classification:

    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
    • G29 - Financial Economics - - Financial Institutions and Services - - - Other

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