Interest Rates and Recursive Borrowers

Recursive borrowers are lending protocol users who borrow and supply the same token simultaneously. Depending on prevailing interest rates and the rewards available, recursive borrowing can be quite profitable as a yield farming strategy.

While sometimes seen as an unproductive and undesirable user base, recursive users do provide a valuable benefit to lending protocols in some cases. When the supply of a token is nearly 100% borrowed, recursive users can help bring the market back toward equilibrium. Because recursive strategies must supply slightly more than they borrow, they dilute strong borrowing demand from non-recursive users. By encouraging profitable recursive borrowing under extreme conditions, protocols can use this to reduce the risk of running out of highly borrowed tokens.

For example, in the chart above, it would be hard for the utilization of any of these tokens to reach much above 90%. At higher levels, recursive borrowers attracted to the yield would step in to dilute demand. In our initial set of interest rate recs for Aave, we adjusted the interest rate parameters for TUSD to enhance this behavior.