On-Chain Risk Taxonomy

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Open this lesson in your favourite AI. It'll walk you through the why, explain the demo, and quiz you on the try-it list.

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Why this matters

DeFi risks come in many flavors — smart contract bugs, oracle manipulation, liquidation cascades, governance attacks, MEV, depegs. Treating them as a single 'DeFi risk' is how protocols get exploited. Knowing the taxonomy is what makes you a DeFi engineer who can spot issues at design review, not after the exploit.

Demo

Classify DeFi risks.

Try it yourself

Look up one major DeFi exploit (e.g. Cream Finance, Beanstalk, Mango). Classify it into one or more of the 10 categories.
For Aave V3, identify which of the 10 risks they're most exposed to and which mitigations they have in place.
Pick a hypothetical DeFi protocol you'd build and map each of the 10 risks to a specific design decision.

Prompt your AI

Use these three in order. Each builds on the one before.

1. Basics & terminology

In one paragraph, explain the on-chain risk taxonomy and why it matters for designers.

2. Why it works (the mechanism)

Walk me through how oracle risk leads to economic risk in a typical exploit.

3. Advanced — application & what's next

Given a new lending market, design the risk-mitigation stack covering all 10 categories — what specific tooling, configs, and circuit breakers.

References

1. SMART CONTRACT RISK (the code itself): Reentrancy, integer overflow, access control bugs Mitigations: audits, formal verification, bug bounties, time locks Example: The DAO hack (2016, $60M) 2. ORACLE RISK (price feeds): Manipulated prices via flash loan + thin-liquidity pool Stale data feeds Mitigations: TWAPs, Chainlink, multi-source, circuit breakers Example: Mango Markets ($114M, 2022) — oracle manipulation 3. LIQUIDITY RISK: Cannot exit a position at fair value due to thin order book "Death spiral" — liquidations cascade as collateral price falls Mitigations: liquidity reserves, gradual liquidation, position limits Example: stETH depeg June 2022 4. GOVERNANCE RISK: Token holders vote in malicious proposals "Hostile takeover" via flash-loaned voting power Mitigations: timelocks, quorum requirements, veto authority Example: Beanstalk ($182M, 2022) — flash-loaned governance attack 5. MEV / FRONT-RUN RISK: Searchers reorder transactions for profit at user's expense Sandwich attacks on AMM swaps Mitigations: private mempools, MEV-protected RPCs, batch auctions Example: any sandwich attack on Uniswap 6. ECONOMIC / GAME-THEORETIC RISK: Protocol works in normal conditions, fails under adversarial pressure "Bank run" dynamics Mitigations: stress testing, reserves, gradual unlock schedules Example: Iron Finance ($2B, 2021) — algorithmic stable death spiral 7. BRIDGE RISK (cross-chain): Centralized bridge operators have admin keys Validators can be compromised or collude Mitigations: prefer rollup-native bridges over third-party Example: Ronin Bridge ($625M, 2022), Wormhole ($325M, 2022) 8. REGULATORY / OFFCHAIN RISK: Sanctions on protocol (Tornado Cash) Stablecoin issuer freezes addresses (USDC freezing post-Tornado) Compliance enforcement on RFQ networks Mitigations: jurisdictional diversification, multi-stablecoin support 9. INFRASTRUCTURE RISK: RPC outage Frontend hack (e.g. Curve, Bridgemutual) Front-end injecting malicious approve() Mitigations: multiple RPCs, IPFS-hosted frontends, hardware wallets 10. KEY MANAGEMENT RISK (operator): Multisig signer compromise Single point of failure on admin keys Mitigations: 3-of-5+ multisig, hardware security, timelocks Example: Ronin ($625M) — 5 of 9 validator keys compromised When designing a DeFi protocol, the audit checklist must cover ALL 10. Most exploits combine 2-3 categories (e.g., oracle + economic + smart contract).