Aave DAO Mulls Migration Away From Polygon. Is a Morpho Rivalry to Blame?

Aave DAO is considering a breakup with Polygon.

Aave Chan Initiative (ACI), a service provider for the largest lending protocol in the DeFi space, published a governance proposal on Monday to exit from the Polygon network.

The proposal calls for six recommendations to incentivize migration away from Polygon, such as freezing the reserves of several assets on Aave V3 and setting the loan-to-value to 0% for all assets on Aave’s V2 and V3 instances of Polygon. As a result, Polygon users would not be able to borrow any capital on Aave against deposited collateral.

The proposal also announced that Aave plans to search for a new alternative L2 network for its governance infrastructure. Voting for Aave DAO occurs on Polygon before the decisions are executed on other networks via cross-chain messaging, Marc Zeller, the founder of Aave Chan Initiative, told Unchained over Telegram.

“Considering bridge risk is historically the largest culprit for user funds losses and [we are] aware of our previous bad experiences with the Harmony and Multichain bridge hacks. The ACI has started a discussion about the future of Aave in the Polygon ecosystem to protect Aave users from the consequences of this proposal,” Zeller wrote in the governance forum of Polygon’s pre-proposal.

DAOs, aka decentralized autonomous organizations, are held together by a set of rules embedded in smart contracts where token holders govern the protocol.

Polygon’s Pre-Proposal to Generate Yield From Bridged Assets

Monday’s governance proposal by Aave Chan Initiative comes after research firm Allez Labs, the nonprofit entity for lending protocol Morpho, and yield aggregation platform Yearn submitted on Dec. 12 a governance proposition to generate about $70 million at current rates from the roughly $1.3 billion worth of stablecoins currently sitting in Polygon’s bridge.

If the Polygon governance proposal passed, the bridge reserves for stablecoins USDC and USDT would be placed into yield strategies stemming from Morpho, a protocol with $3.2 billion in total value locked (TVL) that competes with Aave.

Superstate protocol relations lead Francis Gowen and Morpho business development staffer @0xloth both stated their excitement about the work ahead, but others expressed hesitation about trying to generate yield from assets placed into Polygon’s bridge.

“Don’t wanna be the one that ruins the party here but as a user I will not feel really comfortable on adding layers of risks on assets that by nature are perceived as the less risky,” wrote @ThePeacemaker82 three days ago.

“I totally get that the opportunity seems tempting but it will be even more tempting for bad actors too,” @ThePeacemaker82 said, adding that the more parties involved, the more risk grows.

Bad Blood Between Aave and Morpho?

In June 2024, Polygon Labs posted a call for feature requests from community members regarding its future upgrade Pilani, and in a comment on the post, Aave Chan Initiative proposed generating yield off a portion of bridge assets.

In response to Monday’s suggestion that ACI move off Polygon, Paul Frambot, the founder of Morpho, called out what he implied was hypocrisy by Aave, tweeting:

Aave pitches multiple bridges to deposit assets on Aave.
A proposal goes live to use Morpho and not Aave.
Aave says bridges should not do it anymore.

Zeller pointed out Aave’s proposal of a yield feature for bridged tokens “is for a post-umbrella deployment, providing users with a clear safety net in case of a bad debt.” Umbrella is the upcoming upgrade of Aave’s safety module that aims to change the tokenomics of Aave’s native tokens.

He also took aim at Morpho, saying that in its system, bad debt “is a concept simply absent of the morpho codebase without no schemes or will to protect their users.”

“The Polygon community has only put forth a pre-PIP (preliminary proposal) at this stage, and the topic is still in the very early phases of discussion,” a Polygon Labs spokesperson told Unchained over Telegram.

“Getting feedback from all stakeholders is essential, and we encourage continued conversation to ensure these proposals are fully discussed and evaluated.”

Impacting Aave’s Risk Profile on Polygon

Zeller said Polygon’s pre-proposal “will significantly impact the risk profiles of bridged assets within the Polygon network.” Bridge vulnerabilities, which were exploited in hacks of Multichain and Harmony, have adversely affected the Aave ecosystem. At the time of the Harmony exploit, the total market size of Aave V3 on Harmony was about $3.1 million, of which $1.2 million was approximated to be bad debt, according to a 2022 governance post.

Aave’s governance proposal to exit from Polygon aims to mitigate potential losses from further attacks on bridging smart contracts, which as a category have historically been the biggest losses in the DeFi space.

The next steps for Aave’s potential offboarding entail additional feedback, preliminary approval, and onchain voting for official execution.

Of Polygon’s total value locked of more than $1.2 billion, roughly 38% or $461 million currently resides in Aave. On the other hand, Polygon makes a much smaller portion of Aave’s entire TVL. Of Aave’s $22.7 billion, about 2% of the capital lies in Polygon’s network.

Aave’s governance proposal states its motivation is to protect its users, and yet Entropy Advisors said on X early Monday, “Aave takes a cut throat approach and does not take kindly to protocol’s [sic] that favor its competition.”