A Bank of Canada staff paper analyzing on-chain data concluded that Aave V3 recorded no unrecovered bad debt in 2024. The authors attribute this outcome to the protocol’s heavy overcollateralization requirements and its automated liquidation mechanism, which together prevented losses from falling back on lenders in the Ethereum lending market.
Using transaction-level records from Jan. 27, 2023, through May 6, 2025, the study finds that positions were typically closed by liquidations before collateral values declined below outstanding borrowings, effectively containing lender losses across the sample period.
The paper stresses a tradeoff: Aave V3’s architecture protects lenders but shifts risk onto borrowers and lowers capital efficiency compared with conventional, underwritten lending. The protocol relies on algorithmic risk controls rather than borrower screening, forcing borrowers to post substantially more collateral than they borrow and triggering automatic liquidations when predefined risk thresholds are breached.
Recursive leverage—repeatedly borrowing against collateral, redeploying the borrowed assets as fresh collateral, and borrowing again—was a major engine of activity. The authors estimate recursive leverage accounted for over 20% of total borrowed volume and about 8.2% of borrowing transactions in their sample. This practice magnifies exposure and makes borrowers particularly vulnerable if markets reverse.
Liquidations on Aave V3 also tended to cluster. Four wrapped assets—Wrapped Ether (WETH), Wrapped Staked Ether (wstETH), Wrapped Bitcoin (WBTC) and wrapped eETH (weETH)—comprised roughly 90% of the dollar value liquidated. The paper estimates liquidation fees commonly fell between 5% and 10% of the liquidated value; when combined with missed gains from post-liquidation price recoveries, losses in some events could reach roughly 10%–30% for affected positions. In short, while the protocol’s design prevented unrecovered bad debt in the sampled window, it exposed borrowers to sudden and sometimes large realized losses when collateral prices plunged.
Cointelegraph sought comment from Aave but did not receive a response before publication. Cointelegraph notes its commitment to independent reporting and encourages readers to verify information; its Editorial Policy is available at https://cointelegraph.com/editorial-policy.