Dynamic Liquidation Penalty

A dynamic liquidation penalty is a variable fee imposed on borrowers when their positions are liquidated, designed to compensate the liquidators and cover protocol expenses. Unlike static fees, dynamic penalties adjust based on current market conditions, such as network congestion or the volatility of the collateral asset.

By making liquidations more expensive during high-volatility events, the protocol encourages users to manage their positions more actively to avoid forced closure. This mechanism helps align the incentives of liquidators with the long-term stability of the protocol.

It is an essential tool in behavioral game theory to discourage reckless over-leveraging.