Bank lending logic vs on-chain lending mechanics

Why banks can lend without collateral, why on-chain lending must be over-collateralized, and what each system is actually optimizing for.

{{{##anchor=preface}}} Preface When people first look seriously at DeFi lending, they often feel puzzled: “Banks lend without requiring much collateral—at most you sign a contract and they check your credit. Why does borrowing on-chain require you to deposit even more money first?” That intuition is good. It means you’ve sensed something important: Traditional “lending” and on-chain “lending” are not the same thing at all. In the bank system, lending is connected to a national-level credit architecture. On-chain, lending is just a set of rules running in a no-backstop environment. {{{##anchor=part-1}}} 1. When a bank lends, it’s not “lending depositors’ money”—it creates money In the banking system, a loan usually looks like this: You apply for a loan The bank approves it The bank credits your account with the loan amount The key detail: that balance is newly created. Banks don’t need to first “find someone else’s deposit” to lend out. They create a deposit when they make a loan. This is the core mechanism of credit creation in modern banking. {{{##anchor=part-1.2}}} 2. What keeps a system where banks can create money from collapsing? If banks can create money, why doesn’t everyone