Aave has announced that the liquidation of the CRV pool and its protocol has taken place successfully. However, the protocol mentioned that the position size has left excessive debts behind.
Aave protocol liquidations
Over six days, an undisclosed trader, presumed to be Mango Market’s exploiter Avraham Eisenberg, amassed a roughly 92 million token loan of CRV, Curve Finance’s native token. Instead of repaying the loan, the trader permitted a total of $63.6 million in USDC collateral to be liquidated. Every asset on Aave has a liquidation threshold — a percentage above which a loan will be recognized as undercollateralized.
“We want to address the cycle of liquidation in the CRV pool on the Aave Protocol today. The liquidations were successful (and worked as designed), but unfortunately, the size of the position left some excess debt within the protocol.”
In this latest case, the liquidation threshold for USDC was 88%, which implied that once the worth of the borrowed CRV exceeded 88% of the USDC leverage supplied to Aave, liquidators walked in to sell the USDC, buy back the CRV, and close the debt position. Nevertheless, there was a concern as there needed to be more CRV liquidity to make this happen quickly. Instead, the situation was closed in 50 minutes via 385-person mini-liquidation transactions.
Borrowed CRV leads to debts
As a result, Aave was left with bad debt, totalling 2.64 million CRV, or roughly $1.6 million at current value. One crypto Twitter enthusiast shared their opinion on the matter saying:
“First of all, the bad; of course leaving bad debt is never pleasant. It is a small amount and still a fraction of the TVL(Total Value Locked) of the protocol. The governance has many means to cover it without any liquidity problems. But, it’s a (relatively cheap) lesson.”
According to recent data reports, Aave’s native token (AAVE) fell to about $50 as the protocol started to accumulate bad debt but has since fully recovered and is currently trading at almost $56.
Since a lower liquidation threshold is associated with less bad debt being gathered, it’s probable that the protocol will alter its liquidation threshold, as suggested by community member money supply. The number of illiquid coins that can be borrowed on the platform may also be subject to restrictions set by the community.
Aave rehypothecates collateral posted by its clients, as opposed to some other lending markets like Fraxlend or Silo, which means it uses tokens published on its platform and lends them to other people. Although this improves capital efficiency by allowing more tokens to be borrowed, the protocol now faces the risk of being unable to liquidate collateral in the event of a price drop.