The founder of Aave, Stani Kulechov, studied law and did not have a background in the technology industry. Initially, the project was named ETHLend and was founded in 2017. In 2018, the project went live with a focus on standard P2P lending, but it was not efficient for scattered individual lending and investment needs. At the end of 2018, Aave transitioned from P2P to P2C (Peer-To-Contract) for fund aggregation and changed its name to Aave.
Aave's lending function is similar to Compound, but it supports a wider range of borrowable assets. In addition to variable interest rates, Aave also offers fixed-rate loans to borrowers, allowing them to avoid worrying about interest rate fluctuations during the loan period, although the fixed rates are higher than the current variable rates.
The biggest innovation of Aave is a special product called Flash Loans. It is a loan product that utilizes blockchain features: you can borrow a sum of money as long as you can repay the principal and interest in the same "blockchain transaction". If the transaction fails to repay the principal and loan, the entire transaction fails and the funds are not lent out.
Here, a transaction refers to a "blockchain transaction". A typical transaction is sending Ethereum to another address, which is confirmed by miners (or validators) in the blockchain network after being packaged into a block. In a blockchain with smart contracts like Ethereum, a transaction can be more complex. For example, in a typical arbitrage scenario, there is a significant price difference between DEX A and DEX B for Ethereum within a short period of time, such as DEX A's price being 1500 USDC and DEX B's price being 2000 USDC. When such a short-term arbitrage opportunity arises and you don't have USDC in your wallet, you can use a flash loan to take advantage of it:
- Borrow 1500 USDC from Aave through a flash loan.
- Buy 1 ETH from DEX A.
- Sell 1 ETH to DEX B and receive 2000 USDC.
- Repay the loan from Aave. If the interest rate is 0.1%, repay 1501.5 USDC, resulting in a profit of 498.5 USDC.
All of these operations can be completed in the same "blockchain transaction". Of course, the calculation of profit needs to deduct the transaction fees.
Flash Loans provide developers with new possibilities to capture instant money-making opportunities on the chain. In addition to the arbitrage opportunities mentioned above, it can also be used for front-running attacks, attacks through protocol mechanisms and protocol vulnerabilities.
The V2 version of Aave has added new features:
- Collateral swap through flash loans, allowing borrowers to quickly switch collateral tokens.
- Batch flash loans, allowing borrowers to borrow multiple tokens at once.
- Debt tokenization, a feature that provides uncollateralized loans. When borrowers borrow tokens, they are minted to the borrower's wallet and automatically destroyed when repaid. This token serves as a marker for the debt and cannot be transferred from the wallet, only destroyed through repayment. This feature opens up a new way for Aave to provide uncollateralized credit lines to other entities, including institutions, cryptocurrency exchanges, or other DeFi protocols.
As a lending protocol, Aave's biggest innovation is a more blockchain-centric product, Flash Loans. In comparison, Aave has indeed demonstrated greater innovation capabilities than Compound.