❔Utilization Ratio

Definition, Formula and Application

1. Utilization Ratio

The utilization ratio is a key metric in lending protocols that reflects the proportion of borrowed funds to the total amount available in a liquidity pool. It is calculated using the following formula:

utilization_ratio = (total_amount - available_amount) / total_amount

Here,

• total_amount: The total amount of funds in the liquidity pool.

• available_amount: The amount of funds remaining in the pool and available for borrowing.

A higher utilization ratio indicates that more funds are being borrowed, whereas a lower ratio suggests that fewer funds are being borrowed from the pool

2. Interest Rate Calculation

The interest rate is determined by the utilization ratio, which represents the supply and demand dynamics of the liquidity pool. It is calculated using this formula:

Interest_rate_per_day = (max_interest_rate - min_interest_rate) * utilization_ratio + min_interest_rate

Here,

• max_interest_rate: The maximum interest rate set by the protocol (e.g., 0.5%).

• min_interest_rate: The minimum interest rate set by the protocol (e.g., 0.25%).

3. Example

Consider a liquidity pool with the following characteristics:

• total_amount: 1000 SOL

• available_amount: 900 SOL

• max_interest_rate: 0.5%

• min_interest_rate: 0.25%

First, calculate the utilization ratio:

utilization_ratio = (1000 - 900) / 1000 = 0.1 (10% utilization)

Next, calculate the interest rate per day:

Interest_rate_per_day = (0.5% - 0.25%) * 0.1 + 0.25% = 0.025% + 0.25% = 0.275%

In this example, the interest rate per day is 0.275%.

4. Conclusion

Understanding the utilization ratio and interest rate calculation is crucial for both borrowers and lenders in a lending protocol. By calculating the utilization ratio and interest rate per day, users can better gauge the supply and demand dynamics of the liquidity pool, make informed decisions about borrowing and lending, and optimize their investments in the protocol.