Paper 2026/1727

Enhancing Capital Efficiency in DeFi Lending and Liquidity Provision

Abstract

Decentralized Finance (DeFi) continues to experience rapid growth, yet a significant portion of capital remains inefficiently utilized in overprovisioned lending reserves or inactive liquidity positions. This paper presents two extension-based improvement proposals aimed at increasing capital efficiency in DeFi protocols. The first addresses idle capital in pool-based lending by adding an allocation layer that can deploy otherwise unused liquidity into external yield-generating strategies. The second targets inactive concentrated-liquidity positions through a position-management layer that automates range migration. Both proposals are examined in terms of motivation, mechanism design, expected effects, implementation approach, and practical limitations. Evaluation results are proposal-specific: the lending analysis indicates meaningful supplier-yield uplift under selected external-yield assumptions, while the range-migration analysis focuses on active-time sensitivity and execution cost. Prototype benchmarks suggest that both mechanisms can be implemented as modular extensions, but also expose additional gas overhead and proposal-specific risks, including external-strategy dependence, recall and loss-allocation concerns, and range-policy misconfiguration.