Is Flash Loan Worth the Stress?
You, probably, have come across one or two attack types in smart contracts, but if you haven’t, don’t worry. You can find various attacks on smart contracts here.You can also read my previous comment on Sandwich Attack— a kind of smart contract attack.
Like other smart contract attacks, Flash Loan Attacks result when some DeFi users take advantage of an innocuous feature.The bad actors take advantage of vulnerabilities to the detriment of users, the ecosystem, and the innocuous feature.
In a flash loan attack, a DeFi user borrows a large amount of funds without collateral. The fund is to be returned in a short time and with little interest paid to the borrowing liquidity pool. In this post, I will compare flash loans to traditional loans, highlighting some importance of flash loans. This way, we can understand if flash loans are actually worth the stress they put DeFi users through.
Why flash loan in the first place?
Most DeFi products are an improvement of Traditional Finance (TradFi). Flash loans are a part of these products.
Before now, in traditional finance, borrowing required a list of steps that must be checked before funds are released by financial institutions.
In TradFi, you have to qualify before you can even borrow. This is unlike flash loans where all you need is a computer, an Internet connection,and the necessary decentralized applications (DApps) on your computer.
TradFi encourages the use of collateral which limits the ease of securing loans and amount that can be obtained.
Comparison of Traditional loans and flash
This will be better understood if presented in a table format. Hence, I have attached a table to compare these two methods.
Image: A comparison between flash loans and traditional loans
Is the goal of flash loans as against Traditional loans achieved in the end?
Flash loans support the larger goal of DeFi which is to give users access to funds by cutting off third party services. DeFi also aims to secure users’ funds while doing this.
Although the security of DeFi is questionable, it has done a great job providing accessibility and decentralization. In essence, the goals of Flash Loans are partially achieved as flash loans have security issues.
Creation of a new challenge
The goal of a loan is to borrow funds, run some transactions/businesses, make some profits, pay back the capital, and pocket the profit. Traditional loans achieve this with little to no challenge, but the case of flash loans is different.
In making profits using flash loans, the opportunity can be limitless, hence users tend to exploit this weakness. In their research paper, @lnrdpss lists such weakness as:
- "Pump and arbitrage (artificially inflating the price of an asset, and then taking advantage of the resulting price difference).
- Oracle price manipulation (lowering the price of an asset and then buying it at a discount).
- Wash trading
- Governance takeover (an attacker uses a flash loan to buy out the governance of a target protocol)."
These problems do not exist in TradFi. It is one challenge that flash loans bring which makes its goals partially achieved.
In conclusion, every new technology comes with its weaknesses. The goal of research and development is to help make the new technology better. This paper by @lnrdpss corroborates this statement by proffering solutions to tackling flash loan enabled attacks.In the end, flash loan is worth the stress for the many benefits that it embodies.