Overcollateralization

It is expressed as a collateralization ratio above 100 percent or, inversely, as a maximum loan-to-value below 100 percent. The buffer exists because the collateral is a volatile crypto-asset: if its price drops, the ratio erodes, and if it crosses the liquidation ratio or liquidation threshold, liquidation triggers. As example parameters, a Sky CDP, formerly MakerDAO, runs in a roughly 145 to 175 percent range depending on the asset, while Liquity sets a 110 percent minimum; both are governable values.

It is the pillar of solvency in DeFi lending and in crypto-backed stablecoins. It is the dominant model precisely because it replaces credit analysis, unworkable under pseudonymity, with surplus collateral and automatic liquidation. The cost is low capital efficiency: you must lock up more value than you receive.

Real examples include Sky with DAI and USDS, Aave and Compound in lending, and Liquity with LUSD. Overcollateralization is the principle governing CDPs and money markets, its operational limit is liquidation, and it stands opposite to the flash loan, the only DeFi loan without collateral. It is also distinct from fiat-backed, par-redeemable stablecoins such as USDC or USDT, which are not overcollateralized but backed one to one and, in the European Union, fall under MiCA as electronic money tokens.