DeFi won’t last long without unlocking Bitcoin’s $250B treasure chest

Published at: Nov. 8, 2020

Decentralized finance is a fairly new, nuanced concept for mainstream audiences. At its core, DeFi promises a revamped global financial system equipped with savings, loans and inventive yield-earning opportunities that enable innovative financial products without centralized gatekeepers. Since Jan. 1, this promise has been met with a demand that has exceeded $11 billion in total value locked, representing a more than 1,550% increase in year-to-date value.

DeFi applications require the on-chain logic of smart contracts. Today, a lot of experimentation and early traction for DeFi applications is happening in the Ethereum ecosystem, using the JavaScript-like language Solidity.

Related: Programming languages used in blockchain, explained

While we have seen Ethereum-powered projects such as Uniswap, Aave and Compound champion the DeFi space, the community is beginning to show signs of demand for solutions that incorporate Bitcoin (BTC).

Bitcoin is the largest digital asset by market capitalization, but it largely remains a passive asset. To actively deploy Bitcoin in DeFi products, custodians such as BitGo have begun tokenizing Wrapped Bitcoin (WBTC). Wrapped Bitcoin takes Bitcoin’s value and couples it with Ethereum’s programmability, giving investors a way to earn additional yield from their Bitcoin investments without cashing out. In the past two months alone, more than $1 billion worth of WBTC has been brought onto the Ethereum network, indicating a demand for Bitcoin as an actively deployed financial asset.

Bringing Bitcoin into DeFi’s orbit

Bitcoin is the strongest sovereign blockchain and is well on its way to becoming the first truly sovereign currency of the world. Bitcoin has the most robust blockchain security and the most mainstream name recognition. Right now, the use of BTC in DeFi is at a very early stage.

There are two ways that Bitcoin can be used in DeFi products: Wrapped representations of BTC can be used on separate blockchains (like WBTC on Ethereum) or native smart contracts can come to the Bitcoin blockchain itself. Directly building DeFi products on Bitcoin is something that makes practical sense but has been difficult because of the limited scripting language of Bitcoin and scalability concerns. Bitcoin has traditionally been thought of as a medium of exchange and a store of value. However, Bitcoin’s recent move onto Ethereum as a wrapped asset signals market demand for BTC in DeFi. In the process, people are finding unique, albeit unnatural and potentially dangerous, ways of doing so.

Bitcoin’s limited scripting language has long been considered a feature, not a bug, because it keeps the base blockchain secure. Smart-contract logic can be added on top of Bitcoin through sidechains like Liquid, connected chains like Stacks, or merged-mined chains like RSK. Moving BTC from the main Bitcoin chain to such adjacent chains can be easier and more secure than issuing wrapped assets on disconnected chains.

Bitcoin as active capital

In order to fully bridge the gap, Bitcoin will have to undergo the transformation from a passive asset to an active, yield-generating asset. One hurdle is the tribal nature of cryptocurrency users. Many Bitcoiners don’t recognize Wrapped Bitcoin as Bitcoin. In my opinion, this is because Bitcoiners and the Ethereum community share different philosophies.

Ethereum has created a culture that celebrates experimentation and testing in production. However, daring experimentation is not a trait that Bitcoiners share. Bitcoiners, by nature, are careful, healthy skeptics who take good care not to lose their assets. Wrapped Bitcoin is one of several DeFi innovations that invite danger by mixing these two philosophies. Taking a valuable asset like Bitcoin and putting it in a smart contract such as an ERC-20 token that shares the security properties of Ethereum can be an uneasy concept for Bitcoin holders. There should be a more secure solution for bringing BTC into DeFi’s orbit.

By recognizing the opportunity to build on Bitcoin, I believe that we may see a future where Bitcoin continues to be the king of blockchains. As DeFi continues to grow, it’s entirely possible that Bitcoin will remain the center of gravity for crypto and that smart contracts around Bitcoin will natively unlock innovation and $250 billion in Bitcoin capital.

The views, thoughts and opinions expressed here are the author’s alone and do not necessarily reflect or represent the views and opinions of Cointelegraph.

Muneeb Ali, a Ph.D. graduate from Princeton University, is the co-founder of Blockstack, a project on a mission to build a user-owned internet. He is also the CEO of Blockstack PBC, a public benefit corporation that has raised more than $75 million to develop the core protocols for Blockstack.
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