Wrapped Bitcoin (wBTC) is exactly what Bitcoin holders need to take full advantage of the DeFi revolution. You can use your wBTC tokens for liquidity mining, yield farming, and much more on DeFi platforms.
Well, that’s what this article is about. There are many advantages to converting your Bitcoins into Wrapped Bitcoin or wBTC tokens. So read on to learn everything you need to know about minting and burning Wrapped Bitcoin.
Table of Contents
What is a Wrapped Bitcoin?
Wait, did I say Bitcoin on Ethereum? Aren’t they two different blockchains altogether?
Yes, that is correct. Bitcoin (BTC) is the crypto asset on the Bitcoin blockchain, while ERC-20 tokens are the native tokens on the Ethereum blockchain.
- A wBTC token is created using the protocol standards of an ERC-20 token. Therefore, it can be used on the Ethereum blockchain.
- At the same time, wBTC represents Bitcoin (BTC) on a 1:1 basis. In simpler terms, one Wrapped Bitcoin is always equal to one bitcoin.
In other words, ‘wrapping’ a BTC turns it into a wBTC (an ERC-20 token). As an ERC-20 token, this wBTC can now be used on the Ethereum blockchain.
This raises another question! Can Wrapped Bitcoin only be used on the Ethereum blockchain? What about Binance Blockchain?
The good news is that you can use Binance Bridge to wrap your crypto assets (BTC, ETH, USDT, etc.) in the form of BEP-20 tokens. Like ERC-20 tokens on Ethereum, BEP-20 tokens are the native tokens of the Binance Smart Chain (BSC)
Just like Wrapped Bitcoin tokens on Ethereum, you can wrap Bitcoin and many other cryptocurrencies to use on Binance Smart Chain (BSC). Binance Bridge allows you to wrap your crypto assets (BTC, ETH, XRP, USDT, BCH, DOT, and many more) to use on Binance Smart Chain in the form of BEP-20 tokens.
This article will focus on the Wrapped Bitcoin (ERC-20 tokens) used on Ethereum.
Why “wrap” Bitcoins?
But why would we want to wrap something as expensive as bitcoin and use it on the Ethereum blockchain? The answer is quite interesting.
As you know, digital currency is synonymous with Bitcoins. In fact, bitcoin is considered the original cryptocurrency, the first of its kind. Despite the thousands of cryptocurrencies that are available today, Bitcoins continue to enjoy supremacy in the world of cryptocurrencies. The market cap they hold is huge. In fact, it is the most valuable and most common cryptocurrency in the world.
But they have a big drawback. Bitcoin may have ushered in the new dawn of blockchain technology. But that was more than a decade ago. Technology has evolved beyond imagination ever since. By 2020, DeFi became the hottest trend in the crypto world. Unfortunately, the Bitcoin blockchain cannot introduce ‘Decentralized Finance’ (DeFi) concepts into its ecosystem.
Launched in 2015, Ethereum quickly grew to become the most widely used blockchain. When Ethereum introduced ‘ Decentralized Finance ‘ (DeFi) and its products into its ecosystem, they became popular among cryptocurrency users. But bitcoin users missed out on the monetary benefits promised by DeFi.
wBTC was invented to bridge the interoperability between these two big blockchains, Bitcoin and Ethereum. The process is:
- Bitcoin (BTC) is wrapped in wBTC.
- With wBTC, bitcoin users can enter the Ethereum blockchain.
- wBTC can participate in all kinds of transactions and take advantage of the benefits of DeFi and its various products.
You can convert BTC to wBTC. You can also convert wBTC back to BTC anytime you want.
This flexibility encourages users to avail this service in their transactions with ease frequently.
How does a Bitcoin become a Wrapped Bitcoin?
Creating a Wrapped Bitcoin from a bitcoin is known as wrapping.
Please note that a Wrapped Bitcoin is an ERC-20 token that runs on the Ethereum blockchain and represents an actual bitcoin in a 1:1 ratio.
Bitcoin (BTC) is first deposited as collateral on an exchange in the wrapping process. Once the process is complete, its equivalent token (ERC-20) is minted. Therefore, we can say that the minting brings new wBTC to the market.
The parties involved in the wrapping process are:
1. The user wants to convert his Bitcoin (BTC) into Wrapped Bitcoin (wBTC).
2. The merchant: the one who confirms the identity and authenticity of the user before the minting takes place. Some of the major central and decentralized exchanges that act as merchants include Uniswap, Binance, OKEx, Huobi Global, and Kyber Network.
3. The Custodian: the person responsible for the safe custody of the bitcoins deposited for conversion. When a ‘User’ deposits their bitcoins for packaging, the ‘Custodian’ store them in their custody and then mints the corresponding wBTC.
The Custodian also burns wBTC when users need their BTC back. Custodians are responsible for maintaining the 1:1 ratio between BTC and wBTC. For wBTC, the sole Custodian is BitGo.
What is wBTC minting and burning?
Let us now analyze the minting and burning processes in a little more detail.
What is wBTC Mining?
Suppose you are a trader and you already have BTC in your wallet. You need wBTC to enter the DeFi market. The conversion of BTC to wBTC is known as wBTC minting.
The steps involved are:
1. Start request: You send a request for Wrapped Bitcoin to the merchant.
2. Complete KYC: Upon receiving the request, the merchant conducts a KYC (Know Your Customer) and AML (Anti-Money Laundering) process to confirm your identity and authenticity.
3. Merchant sends BTC to Custodian: After KYC and AML finish, the merchant sends BTC to the Custodian and asks Custodian to mint wBTC equivalent to deposited bitcoin.
4. Custodian Mints wBTC: The Custodian receives the request and the BTC from the merchant, waits for six confirmations, and then mints the equivalent wBTC (ERC-20 tokens), and then releases the newly minted ERC-20 token to the merchant’s address in the wallet. Ethereum.
5. P2P Exchange – You and the merchant must now transact through a centralized exchange or a peer-to-peer transaction through a decentralized exchange. This peer-to-peer transaction is also called an atomic swap. In this transaction, the wBTC minted by the trader is exchanged with your BTC.
6. wBTC is deposited in your wallet: Now you get minted wBTC tokens that are equivalent to your BTC deposited in your wallet.
These minted wBTC tokens can be used on any of the DeFi platforms to enjoy a wide variety of money generation options such as yield farming, gaming, liquidity mining, borrowing or borrowing, token staking, governance token earning, etc.
What does it mean to burn wBTC?
Burning is the reverse process of coining. When you mint crypto tokens, you have created new tokens and these are added to the tokens in circulation. When you burn a crypto token, you have permanently removed it from circulation.
When you convert BTC to wBTC, the new wBTC tokens were newly created or minted, while the Custodian safely guarded the BTC. But when you convert your wBTC back to BTC, you get your bitcoins back, but the corresponding wBTC tokens are destroyed or ‘burned’.
The steps involved are:
1. Start Request – Gives the merchant a request to claim their BTC.
2. Merchant sends WBTC to Custodian: The merchant exchanges their wBTC with the Custodian for BTC.
3. Custodian releases BTC to Merchant: Custodian waits for 25 block confirmations on the Ethereum network upon returning Bitcoin to Merchant.
4. wBTC tokens are burned: wBTC are deducted or burned from the merchant’s Ethereum wallet, and this is called a burned transaction. It is done strictly with the merchant addresses after the recording transaction is started.
Who controls the operation of the wBTC protocol?
What happens if this Custodian does not burn the wBTC it receives? Can they misuse? Who controls all this? Why is BitGo the sole Custodian or how did the Kyber Network become a wBTC trader?
Well, did you know that these two were among the three brains behind the innovative idea of wrapping bitcoins? Here is a quick look at the creation and launch of wBTC and who controls the operation of this protocol.
The Wrapped Bitcoin protocol was originally developed by a consortium of three partners, namely BitGo Inc, Kyber Network, and Ren (formerly known as Republic Protocol).
They first published a whitepaper detailing the protocol and its use cases on January 24, 2019. By January 31, 2019, eight merchants began promoting bitcoin to wBTC conversions marking the launch of wBTC tokens. After the initial launch, more merchants followed suit.
- BitGo: BitGo is a trading company that acts as a custodian for digital assets. They are responsible for conducting regular audits to ensure additional system security. They also initiate ‘Proof of Reserve’ transactions that help users verify the validity of their bitcoin reserves.
- Kyber Network – actively participated in the creation of wBTC. Kyber Network plays the role of merchant in the project. If you don’t understand the real meaning of a custodian or trader, don’t worry. Please take a look at the sections below where I am explaining the concepts in detail.
- Ren: Ren is also a relatively new company that was founded in 2017. Ren’s main goal is to formulate integrations between crypto-asset chains and DeFi applications.
A decentralized autonomous organization (DAO) controls the protocol’s operation behind wBTC. Currently, the DAO committee has around 30 members. Each of these members has the voting power to make changes to the smart contracts that the Wrapped Bitcoin system is built on.
The public can see the minting of wBTC tokens on the Ethereum blockchain and the burning of wBTC tokens on the Bitcoin blockchain.
Advantages of Wrapped Bitcoin
So is it worth the effort to go after wrapping bitcoins? Does Wrapped Bitcoin have any advantages? Let’s see them.
The main goal of WBTC is to bring Bitcoin holders to DeFi platforms so that they can be a part of some of the exciting financial opportunities available on the Ethereum blockchain.
Bitcoin is digital gold as it has the largest market capitalization. In fact, it is a solid and reliable store of value. But the disadvantage of bitcoin is that it does not follow the ‘Turing model’ and is not programmable. Therefore, the Bitcoin blockchain cannot provide interesting or innovative use cases to its users.
Meanwhile, the Ethereum blockchain is built in such a way that it is capable of building decentralized applications on its ecosystem. That is the reason why we see a vast majority of DeFi applications on the Ethereum blockchain.
Wrapped Bitcoin bridges the gap between the two blockchains of Bitcoin and Ethereum, making them interoperable.
2. Shared incentives
With the advent of Wrapped Bitcoin, the prospects for on-chain maximalism are flourishing in the crypto space. Before the invention of WBTC tokens, bitcoin users could not enter the DeFi market. With Wrapped Bitcoin, bitcoin holders can engage in DeFi trading and earn interest on their DeFi investment without decreasing the value of their bitcoin holdings.
Thus, Wrapped Bitcoins have paved the way for shared incentives between the Bitcoin and Ethereum blockchains. WBTC tokens have turned maximalist notions of the Bitcoin blockchain upside down. With the rise of network effects, the hassle and perceived risk of exchanging tokens outside of the Bitcoin network has been effectively reduced.
A significant advantage of wBTC is speed. Wrapped bitcoin transactions are faster than bitcoin transactions because of wBTC runs on the Ethereum blockchain.
The Ethereum blockchain can add a new block every 15 seconds. But BTC resides on the Bitcoin blockchain, which adds a new block only every ten minutes.
From this fact, it is evident that the movement of wBTC between Ethereum wallets, exchanges and services is much faster than that of bitcoins. Another advantage is the shorter transaction waiting time when transferring BTC to Ethereum because the Ethereum network has comparatively higher throughput and block confirmation time.
4. Safe and secure transactions
wBTC publishes all on-chain transactions. Therefore, it is possible to verify transactions on both Bitcoin and Ethereum networks.
If a user is so interested, they can independently audit how much of their BTC was sent to the WBTC address and check if the transactions match the number of WBTC tokens created on the Ethereum blockchain.
Smart contracts control the exchange of bitcoins with their token counterpart. Therefore, transactions are more secure. Security and safety in transactions encourage more bitcoin users to get Wrapped in Bitcoin.
5. Investment opportunities
Bitcoin tokenization opened up new investment opportunities. The main advantage of tokenization is that bitcoin holders do not have to sell their bitcoins to buy other crypto tokens to participate in DeFi trades.
6. Traceable and transparent
The bitcoin packaging and reconversion processes are completely transparent and traceable. It is easy to find out the amount of wBTC in circulation.
All chain transactions are traceable and can be traced by a user if needed. Transaction traceability reduces the scope of fraudulent transactions, increasing system trust and reliability.
7. Large influx of liquidity
With Wrapped Bitcoin, bitcoin whales could enter the DeFi markets. Once the whales entered the scene, the liquidity and user base of the DeFi sector has increased tremendously.
With high liquidity flow, bitcoin users can now participate in liquidity pools, engage in yield farming, own governance tokens, lend or borrow crypto assets, participate in initial coin offerings, etc.
With tokenized bitcoins, decentralized exchanges can support trading pairs of bitcoins. Trading pairs resulted in a high flow of liquidity from bitcoin holders to liquidity pools on decentralized exchanges.
Other models of Wrapped Bitcoin
Until now, we had discussed a centralized wBTC model, but interestingly, a couple of other wrapper models are available. Let’s take a quick look at them.
Although there are different models of wBTC in use, each of them gives us the same result. They all convert a bitcoin into its token counterpart on the Ethereum blockchain. Today’s three most popular wrapper protocols are Centralized, Trustless, and Synthetic.
We have already seen this strategy. In this strategy, users have to rely on an intermediary to safeguard their bitcoin. The user deposits their bitcoin with a centralized broker. They lock the bitcoins in a smart contract and issue equivalent ERC-20 tokens to the user.
The only drawback of this approach is that a user is dependent on the broker. In this method, the intermediary is the Custodian of the deposited bitcoins.
This doesn’t mean you can’t trust anyone, but it eliminates the trust issue altogether. In a trustless system, those involved do not need to know or trust each other.
This blockchain strategy is more advanced and decentralized. A good example is the Keep Network service. They offer users Wrapped Bitcoin in the form of tBTC.
Unlike the centralized strategy, smart contracts maintain safe custody of the bitcoins deposited here. Users’ bitcoins are locked in smart contracts and without the user’s consent, the platform cannot make any adjustments to the bitcoin. This method is an autonomous and trustless system.
3. Synthetic assets
‘Synthetic assets’ is another model that is gaining popularity among traders. In this scheme, a user can lock their bitcoin in a smart contract and get hold of a synthetic asset with the equivalent value.
Here, the BTC is not directly backed by the synthetic asset. The Synthetix exchange backs synthetic assets with tokens native to the platform. One of the major players in this category is the Synthetix decentralized exchange (DEX). Synthetix DEX Wrapped Token is known as sBTC, and the platform is primarily based on liquidity pools.
Tokens wrapped in Binance Smart Chain (BSC)
This article would be incomplete without a final mention of Wrapped Bitcoin on platforms other than the Ethereum network.
For Binance fans, the Binance Bridge Project increases interoperability between different blockchains. It allows you to convert your crypto assets (Bitcoin, USDT, ETH, etc.) into Tokens Wrapped on Binance Chain and Binance Smart Chain. You can also exchange them for your original crypto assets.
The way forward for Wrapped Bitcoin
Based on current day statistics, Wrapped Assets have certainly proven their worth. Have you ever wondered what the future could be for Wrapped Bitcoin?
Considering the overall value and affordability of BTC Wrapped, it’s no wonder developers are doing their best to expand on this concept. There is already a constant high demand to introduce wBTC into more diverse and complex DeFi projects.
Currently, the leader in the DeFi sector is the Ethereum blockchain. But this dominance is diminishing as more players enter the field.
Very soon, you may be able to witness wBTC on other blockchains as well. As far as Ethereum is concerned, they could evolve into a fully functional network to host complex DeFi concepts.