Why DeFi on Bitcoin
Introduction
Do you know most volcanoes provide warnings before an eruption which involves the rise of magma toward the surface, which normally generates detectable earthquakes and so on?
Unless you’re living under a rock, that’s exactly what we’re noticing lately. The emergence of Ordinals, BRC-20, Bitcoin transaction fees surpassing block subsidy for the first time since 2017, and whatnot. All these signs are pointing towards a volcano that is about to erupt — DeFi on Bitcoin.
So why DeFi on Bitcoin? Why reinvent the wheel when we already have DeFi on Ethereum and other chains?
Well, let me answer that question, but before that, let’s start with the basics.
What is DeFi?
If you’ve heard about Blockchain, then you must have come across the term “DeFi.” Short for decentralized finance, DeFi is an exciting new field that leverages technology to build open financial systems outside of traditional banking structures. It allows people to create, borrow, lend, invest, trade, hedge, settle, insure, pay, collect, gamble, donate, remit, and otherwise exchange value without intermediaries.
Satoshi conceived Bitcoin as digital cash meant to facilitate P2P payments and break the hegemony of centralized systems. Hence, Bitcoin gave birth to decentralized finance (DeFi). Yet, due to its design, the network could not support advanced DeFi applications because it was not a programmable chain.
Therefore, the genesis of DeFi can be dated back to July 2014, when Ethereum introduced the ability to deploy custom programs on its blockchain. This feature opened the doors for developers to build powerful financial applications within the DeFi space. While many early efforts took place on Ethereum, recent advancements have made DeFi possible on other blockchains too, including Bitcoin.
In this blog post, we’ll explore how Bitcoin is driving innovation in DeFi, and why now is the time to be excited about Bitcoin and DeFi, or as we prefer to say it, BitFi.
Why is DeFi Important?
It is impossible to overemphasize DeFi’s significance. Traditional financial systems based on trust-based centralization have failed over and over again. In 2023 alone, three banks in the United States crashed completely, taking investors’ money with them and risking deposits that were not insured by FDIC. Yet, this does not tell the whole story of how much trust-based centralized systems have failed.
Technology has significantly advanced since banking became a thing. Yet, cross-border payments still take days to go through. Additionally, having a bank account means you have zero privacy. Banks face severe security challenges as cyber fraud and theft rates increase. Loans and other financial products may not be readily available to the average person. The list is endless.
DeFi is essential to the future of finance as it takes away the one thing that has held the industry back for years: centralization. In decentralized finance, your accounts remain in your control, and you have no spending limits to worry about. You can enjoy pseudonymity as you send and receive money and interact with financial products — all thanks to blockchain technology.
DeFi is essential because it:
- eliminates the control of centralized systems,
- has the potential to provide individuals around the world with greater freedom and control over their assets.
- has no limits,
- is open round the clock,
- streamlines global payments,
- offers privacy to users,
- can offer democratic access to traditional financial systems,
- has a low entry barrier.
DeFi on Ethereum
Ethereum was the first blockchain that allowed developers to program cryptocurrencies, so it naturally became the home of DeFi applications. The network still enjoys that first-mover advantage and is home to over 770 DeFi protocols today.
At its birth, Ethereum shared a framework similar to Bitcoin’s, utilizing a Proof of Work (PoW) consensus mechanism that involved miners. However, as of last year, the Ethereum network has moved to a Proof of Stake mechanism. This change has undermined its censorship resistance and security. Nonetheless, Ethereum is still known as the home of DeFi, thanks to smart contracts.
However, there are significant changes taking place as we move towards the future. Most importantly, Ethereum’s transition to Proof of Stake (PoS) highlights the importance of an unsafe future of finance based on a PoS-dominated base layer. As we saw in the past year, the transition to PoS exposed Ethereum’s shortcomings in censorship resistance and the concentration of too much power in the hands of stablecoin issuers, among other issues. This raises the need to secure the future of finance in a proof of work (PoW) base layer.
Besides censorship and security compromises, Ethereum has always had scalability issues as well. Gas fees rise astronomically when transaction volumes are high. This phenomenon has forced several DeFi users to seek alternative chains and protocols to pivot to other blockchains to offer cheaper services to users. Skeptics argue that Ethereum’s gas fee issues have hindered the growth of DeFi on the chain. With alternatives like Tron and BSC boasting billions of dollars in TVL and Bitcoin DeFi’s emergence, Ethereum’s dominance may slowly decline.
Furthermore, if we aspire to build an open financial network with censorship resistance and zero security compromises, Ethereum might not be the best network to build on top of it. That’s why we need DeFi of Bitcoin.
DeFi on Bitcoin
First and foremost, Bitcoin is the most secure and battle-tested blockchain network in existence. It has been operating for over a decade, with billions of dollars worth of value transacted on its network every day. The security of the Bitcoin network is maintained through the proof-of-work (PoW) consensus mechanism, which is widely regarded as the most robust and secure consensus mechanism for blockchain networks. While other networks may offer faster transaction speeds or lower fees, they often compromise on security or decentralization.
By building DeFi on Bitcoin, we can leverage and unlock its unparalleled security and stability to create a truly decentralized and transparent financial system. With the Stacks blockchain, we’re able to build smart contracts and decentralized applications (dApps) on top of the Bitcoin network, allowing us to leverage the security and stability of Bitcoin while still providing the functionality and flexibility of other blockchain networks.
Another key advantage of building DeFi on Bitcoin is its massive network effect. Bitcoin is the most widely adopted and recognized cryptocurrency in the world, with millions of users and a growing ecosystem of applications and services. By building on Bitcoin, we’re able to tap into this massive user base and create a seamless and integrated DeFi experience for users.
Additionally, building on Bitcoin offers several key benefits for users and developers alike. For users, it means that they can transact with the confidence and security that comes with the Bitcoin network. For developers, it means that they can build applications on a secure and robust platform without having to worry about the underlying infrastructure.
Therefore, at Velar, we’re building a suite of DeFi applications with Bitcoin finality. By building on Bitcoin, we’re able to provide our users with the security, transparency, and stability that they need to engage in DeFi activities without the risk of centralized points of failure or security vulnerabilities.
Current state of DeFi on Bitcoin
Even though Bitcoin’s DeFi ecosystem is a late bloomer, today, things have improved significantly, thanks to the Bitcoin Taproot upgrade that enhances transaction scalability.
Several solutions like sidechains like Rootstock, independent layer-1 blockchains that depend on the Bitcoin network like Stacks and Mintlayer, layer two scaling solutions like Liquid Network, and payment settlement solutions like Lightning Network have sprung up. These innovations have advanced DeFi’s course on Bitcoin, potentially unlocking hundreds of billions of dollars of value on the network.
Presently, asset management solutions like Hiro Wallet support DeFi on Bitcoin. Internet Computer is building an integration with Bitcoin that will allow developers to write smart contracts (called canisters) directly on Bitcoin. Programming languages like Sapio and Discrete Change Logs are in the works, and they promise to bring full smart contract capability to the Bitcoin network.
While true DeFi on Bitcoin is still in its infancy, the promise of a bright future is there for all to see. The innovations so far already boast over $500 million in total value locked, and this value is bound to rise in the coming years. DeFi will thrive on Bitcoin, thanks to the blockchain’s most prominent features, such as censorship resistance and zero compromises on security.
Advantages of DeFi on Bitcoin
Security
DeFi protocols rely heavily on the underlying security of their host blockchain. Bitcoin is one of the most secure blockchain networks. A P2P node network runs the Bitcoin protocol and verifies every transaction before updating it to the ledger. Bitcoin’s framework is such that double spending is impossible.
Also, the Bitcoin script cannot perform loops, an intentional deficiency that makes it impossible for anyone to execute infinite loops on the network, leading to a denial-of-service attack that could take down the network. Thus, DeFi on Bitcoin can thrive with the assurance that the network is sufficiently secure.
Decentralization
Bitcoin’s DeFi ecosystem benefits from its decentralization. When Satoshi Nakamoto and his colleagues published the white paper in 2008, they spoke of a distributed network that depended on several node-running users, known as miners, who secured the network and did work to validate transactions.
Thus, no single entity can claim the Bitcoin network or speak as an authority. Bitcoin is so decentralized that the probability of a 51% attack (the only way to compromise the network) is almost zero. Since DeFi represents zero centralization, zero timeouts, and full transparency, Bitcoin is perfect for the average DeFi user.
Network Effect
Bitcoin is the biggest and most prominent cryptocurrency. The network has over $500 billion in value, as one bitcoin is worth $29,000 presently. Bringing DeFi to Bitcoin puts over $500 billion in capital to good use on the network. With a large and robust community of over 106 million people and half a trillion dollars worth of value, DeFi protocols on Bitcoin are poised to soar astronomically.
Final Thoughts
DeFi on Bitcoin is growing fast, and we’re going to witness the rapid pace of development in the coming months. With over $500 billion of value locked on the Bitcoin network and more than 106 million Bitcoin owners, the potential for DeFi on Bitcoin is enormous.
In conclusion, we believe that building DeFi on Bitcoin offers the best shot for the future of finance. By leveraging the security, stability, and network effect of the Bitcoin network, we’re able to create a truly decentralized and transparent financial system that is accessible to everyone, regardless of their location or financial status. We’re excited to be at the forefront of this movement and can’t wait to see what the future of DeFi on Bitcoin holds.
The Bitcoin network is perfect for DeFi solutions, as it is secure, decentralized, and highly valued. However, more innovative Bitcoin-native solutions are needed to unlock the network’s actual DeFi value. That’s why we’re building Velar — an inflection point in the journey of DeFi on Bitcoin. In the words of Neil Armstrong, “That’s one small step for man, one giant leap for mankind.”
The article was first published on Velar Blog. Follow us on Twitter.
