On-chain collateral is transparent and secured by smart contracts. 

Advantages of On-chain collateral

Price fluctuations will occur with on-chain collateral because collateral is held in a native protocol asset.

Disadvantage of On-chain collateral

A model where assets are locked on the blockchain within a smart contract

New York University

* Off-chain collateral
* On-chain collateral
* No Collateral

Backing models for promise-based tokens

Schär, Fabian, Decentralized Finance: On Blockchain- and Smart Contract-based Financial Markets (March 8, 2020). Available at SSRN: https://ssrn.com/abstract=3571335 or http://dx.doi.org/10.2139/ssrn.3571335 



Decentralized Finance: On Blockchain and Smart Contract-based Financial Markets

In this model, the underlying assets of a token are stored with an escrow service such as a commercial bank. This model mitigates exchange risk but has counterparty risk and external dependencies. Regular audits are needed to ensure the existence of the underlying collateral.

Off-chain collateral (backing model)

On-chain collateral (backing model)

This model has the highest counter-party risk as the promise is entirely trust based.

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