The reason the collateral needs to be deposited with a smart contract is because the collateral assets are unseizable. But that defeats the purpose...
Imagine you want to make purchase, but you don't have the funds. You have two options. Option A, you save money first, until you have enough funds. Option B, you borrow money, and save later (while you repay the loan). In economics, option A is called "saving" while option B is called "financing".
Collateral isn't strictly necessary, but it's useful because it reduces credit risk and therefore lowers the cost of borrowing funds (i.e. the interest rate that the borrower is charged). However, notice that if the collateral is equal or exceeds in value the amount borrowed and it is deposited with the lender until the loan is paid off, this is no longer option B, this is option A. This is not financing.
Financing requires that the collateral (if any) is not deposited with the lender until the loan is paid off, or that, if it is, it doesn't cover the whole of the borrowed amount. For financing to work, you need legal procedures that enable the lender to seize the borrower's assets in the event of default. You can't do that with smart contracts, because smart contracts can't seize assets that are in somebody else's wallet. You can do other things for sure, but not financing.
Suppose I make an NFT which support liens. I.e. upon mutual agreement, a transaction can modify the NFT to add a lien, while (simultaneously) transferring some USDC from the lender to the NFT owner. The NFT can't be transferred while it has a lien, but the owner can remove the lien by repaying the lender. The lender can also transfer the NFT to herself if the loan isn't repaid after a certain period.
If I wanted to finance an NFT, first I would negotiate with a lender and get a pre-approved loan. The NFT marketplace wouldn't even need to know about the lending mechanism. In a single transaction, I could take a flash loan, purchase the NFT from the marketplace, take the pre-approved loan, and use that to repay the flash loan. I now own an NFT with a lien, which I can enjoy in the usual ways, e.g. I could integrate it with my Twitter profile.
You make an NFT, and then you get a loan that you use to purchase the NFT, and if you don't repay the loan the owner gets to keep the NFT? It seems that you're financing the purchase of something you already owned. And of course the supposed financing is being done by this "pre-approved loan" which you tell us absolutely nothing about. What is that? A loan agreement? What does the agreement say and how is it enforced?
I mean Person A makes an NFT and lists it for sale for $X USDC. Then Person B, who only has $Y USDC ($Y < $X), buys it using a pre-approved loan from Person C in the amount of $X - $Y.
If Person B repays the loan within T days, the lien is removed, so Person B owns it free and clear. Otherwise, the NFT is transferred to Person C.
The pre-approved loan would just be a message signed by Person C, granting anyone permission to transfer a certain amount out of Person C's account if (in the same transaction) they also grant Person C a lien on that particular NFT.
Person C's loan funds wouldn't be in an ordinary account, but rather in a smart contract which understands these liens and loan approval messages.
I see... yes I think such a mechanism could be used to finance the purchase of an NFT. So, I'll admit that I was wrong. You can do financing with a smart contract, although from what I gather you'd be limited to buying NFTs. Not terribly useful, but congrats on coming up with this example.
Imagine you want to make purchase, but you don't have the funds. You have two options. Option A, you save money first, until you have enough funds. Option B, you borrow money, and save later (while you repay the loan). In economics, option A is called "saving" while option B is called "financing".
Collateral isn't strictly necessary, but it's useful because it reduces credit risk and therefore lowers the cost of borrowing funds (i.e. the interest rate that the borrower is charged). However, notice that if the collateral is equal or exceeds in value the amount borrowed and it is deposited with the lender until the loan is paid off, this is no longer option B, this is option A. This is not financing.
Financing requires that the collateral (if any) is not deposited with the lender until the loan is paid off, or that, if it is, it doesn't cover the whole of the borrowed amount. For financing to work, you need legal procedures that enable the lender to seize the borrower's assets in the event of default. You can't do that with smart contracts, because smart contracts can't seize assets that are in somebody else's wallet. You can do other things for sure, but not financing.