The emergence of Blockchain technology has allowed for a lot of innovation in the finance world.
The Decentralised Finance (DEFI) protocols have led to the rise of a new kind of lending and borrowing mechanism, that is not similar to traditional loans taken from brick-and-mortar companies. This is because the traditional banking loan requires a number of documents that need to be provided, including a formal ID and proof of income to take out a loan which is then repaid after years. In case of a flash loan, none of this is necessary due to the lack of collateral.
An uncollateralized instantaneous loan aka Flash loan is only possible due to Smart Contracts. A smart contract is a program on the blockchain which ensures that a certain function can only succeed once all conditions are met (all or nothing principle).
For flash loans, the condition is that the borrower will need to repay the full amount of the loan plus interest to the lender before the transaction is completed. This is possible because flash loans are one blocktime loans. As such, no collateral is needed, because if the borrowed money including interest is not given back before the transaction is completed, the entire loan (transaction) is immediately reversed.
