Detailed explanation of THORChain cross-chain lending: RUNE will be constantly destroyed and minted, high fees and low capital efficiency may affect adoption

Author: Jiang Haibo, PANews

On August 21, THORChain’s cross-chain lending business was officially launched. At the end of July, THORSwap launched the “Streaming Swap” function. Streaming swap is a price optimization strategy, similar to time-weighted average price (TWAP) transactions, allowing large transactions to be divided into Multiple smaller transactions without additional Layer 1 fees.

These two updates have boosted the price of THORChain’s native token RUNE by more than 80% this month. THORChain’s lending business is logically different from lending projects such as Aave. It has the characteristics of no liquidation, no interest, and no maturity date. PANews organizes the main points as follows.

• During the establishment and closing of loans, RUNE will be continuously destroyed and minted, resulting in deflation and inflation. If inflation causes the issuance of RUNE to reach the upper limit of 500 million, the circuit breaker will suspend the lending function.
• Debt is expressed in the U.S. dollar unit of account TOR, fixed at the U.S. dollar value at the time of borrowing.
• The THORChain protocol and all RUNE holders are the counterparties behind each loan, and can obtain the real income generated by the handling fee, and may also face the risk of dilution caused by inflation.
• At present, only 1/3 of the burned RUNE can be used for loans. The loan amount is 5 million RUNE, which is about 8 million US dollars. The amount may increase as the number of destroyed RUNE increases.
• As of August 22, the combined value of BTC and ETH collateral is about 884,000 USD, and the use of lending business is not much, which may be related to the lower capital utilization rate and higher fee wear compared with other lending agreements.


Implementation of THORChain Lending function

THORChain Lending supports cross-chain lending with BTC and ETH (more Layer 1 native assets will be supported later) as collateral, which can be realized through the Lending function of THORSwap and the Borrowing function of Lends.so. Debt is represented by TOR, a non-transferable accounting unit within THORChain. TOR is designed to be anchored to the value of 1 US dollar. The specific price is taken from the median value of all stablecoins on THORChain, including USDC, USDT, BUSD, LUSD, DAI, etc.

The mortgage rate (collateral value/debt, CR) is 200% to 500%, and the mortgage rate will increase with the number of loans. This means that assets of the same value are mortgaged, and the value of the assets that can be borrowed is the highest at the beginning, and then as the mortgage rate increases, the value of the assets that can be borrowed gradually decreases.

Both the establishment and closing process of the debt include multiple transactions and the minting and burning steps of RUNE. The process of setting up a loan with BTC as collateral is shown below.

• The user deposits BTC collateral, the collateral is exchanged for RUNE in the BTC Pool, RUNE is destroyed in the virtual BTC pool, and THOR.BTC is minted. *THOR.BTC is used as collateral in the lending module.
• Generate TOR according to the mortgage rate.
• The amount of TOR represents the debt denominated in USD. Until repayment, the debt is fixed and does not change with subsequent steps.
• TOR is destroyed in the virtual TOR pool and RUNE is minted.
• RUNE is exchanged for assets required by users in other pools. If USDT is needed, it is exchanged for USDT in the USDT pool.


Depending on the mortgage rate, there will be up to 4 exchange or destruction and casting processes in this process, all of which will generate fees for THORChain, and there will be transaction slippage. Therefore, although this lending service claims to have no interest, it also has fee income. As shown in the figure below, try to mortgage 1 ETH worth 1660 USD to borrow USDC on the official website, and the deposit fee is displayed as 64.87 USDC. LTV=1/CR, the current CR can also be calculated according to the value of LTV in the figure below.


The BTC collateral will be exchanged for RUNE first, then burned, and finally the assets required for RUNE exchange will be minted. In this process, the difference between the collateral value and the debt, excluding the handling fee, corresponds to the net destruction value of RUNE.

In the same way, the redemption process will also mint new RUNE and generate inflation. Therefore, THORChain does not want users to redeem collateral, and requires at least one month before the loan can be repaid. Loans can be repaid with any THORChain-supported assets, corresponding to the amount of TOR at the time of borrowing.

The lending function will bring multiple benefits to the THORChain network, such as increasing the transaction volume; increasing the utilization rate of funds in the liquidity pool, creating more real income from handling fees; reducing the circulation of RUNE, etc.

However, the THORChain protocol and all RUNE holders, who are the counterparties behind each loan, may also have additional risks because the RUNE minted during the redemption process exceeds the RUNE destroyed during the mortgage loan, which will be discussed below .

risk

The biggest risk in THORChain lending is that the amount of RUNE minted by closing the loan exceeds the amount of RUNE destroyed when the loan was established. This happens when the price of RUNE falls relative to the price of the collateral. It is therefore necessary to limit with various parameters to prevent the death spiral in LUNA/UST.

First, RUNE’s issuance is capped at $500 million, and when this value is reached, a built-in circuit breaker will suspend lending, and reserves will step in to cover the remaining collateral payouts.

When setting the loan limit, THORChain also refers to the RUNE limit, and the current loan limit is set at 5 million RUNE. This is considering that the upper limit of the circulation of 500 million RUNE is determined. Previously, 15 million RUNE were destroyed because they were not upgraded from BEP-2 and ERC-20 RUNE. Considering the possible decline of RUNE relative to the collateral, if RUNE falls to 1/3 of the value of all collateral, it will result in the issuance of RUNE up to twice the value of the collateral. Therefore, only 1/3 of RUNE will be destroyed, that is, 5 million RUNE can be used for loans, equivalent to about 8 million US dollars.

As more RUNE is burned, additional loans can also be created, and the ratio of the price of RUNE to collateral can also change the amount of loans.

data

According to the official NineRealms dashboard, as of the evening of August 22, a total of 286,000 RUNE were destroyed during the lending process, and the amount of destruction is increasing.


There are a total of 24.4 BTC and 156 ETH in the collateral, worth $636,000 and $258,000, respectively. The burned RUNE was worth $474,000, and the burnt part was about 53% of the collateral value.

Overall, THORChain Lending is not used much. The reasons include THORChain Lending’s higher mortgage rate compared to other lending agreements, higher fees and slippage wear, and the setting of the upper limit of lending. In addition, THORChain has been hacked several times in 2021, which may also limit the adoption of THORChain Lending.