Contributor: learn more in this Q&A with Alex Zhao, CEO of Standard Hashrate Group, the creator of BTCST.
DeFi and Bitcoin Are Separate Entities, But Why?
have been enjoying meteoric rises (and some meteoric crashes) in the past year. The DeFi market grew by 210 times in a single year, whereas Bitcoin’s value rose 780%. And now, with the crypto crash in which Bitcoin plummeted to below $50k
with half a trillion dollars wiped from the market, there are very seldom slow days in the crypto space.
Two of the biggest areas within crypto — Bitcoin and DeFi — are often misconstrued as separate entities. This is because the vast majority of DeFi applications and protocols are built and run on the Ethereum
blockchain. But as we see the rapid and unprecedented growth of Bitcoin, there’s an increasing demand for the cryptocurrency to merge with DeFi, given that Bitcoin holders are natural fits for the space.
Fortunately, there are several user-friendly and accessible entry points for Bitcoin holders and those with idle Bitcoin assets to enter the DeFi market.
How Can Bitcoin Be Used in DeFi?
One of the most common ways that Bitcoin is used within DeFi is through “wrapped” tokens
and Bitcoin tokenizations.
A market-leading tokenization of Bitcoin is Wrapped Bitcoin
(WBTC), which launched in 2019 to enable Bitcoin to participate in the Ethereum blockchain. WBTC is also the first ERC-20 token that is backed 1:1 with Bitcoin. This allows decentralized applications on the Ethereum network to integrate Bitcoin in a tokenized form. This is possible because wrapped tokens have the liquidity of ERC-20 tokens, allowing versions of Bitcoin to be traded and exchanged within the DeFi space.
Besides WBTC, which consists of over one million mined Bitcoins on the Ethereum blockchain, another token is bringing Bitcoin and DeFi together: hash rate tokens.
These types of tokens, such as BTCST
, are wrapped Bitcoin; however, unlike WBTC, there is no custodian because all of the on-chain transactions occur on Binance Smart Chain
, a decentralized finance platform.
In the case of WBTC, Bitcoin owners transfer their coins to a custodian, who in this instance is BitGo
, a digital asset trust company. BitGo has partnered with several market makers and mints WBTC onto the Ethereum blockchain. This process can also be reversed by sending the WBTC back to BitGo’s partners where the token is “burnt”, which means to remove a coin or token from circulation, and the immobilized Bitcoin is once again transferred onto the Bitcoin blockchain.
What About Loaning Out Bitcoin to Earn Rewards?
Another method of entering the DeFi space is through crypto margin lending and staking. For Bitcoin holders, this is becoming increasingly popular as it helps holders earn yield on their BTC assets. To facilitate this, some decentralized exchanges (DEX
) enable holders to trade Bitcoin freely. These include Atomex and JellySwap, which provide low-level APIs to help with integration.
Of course, earning yield on Bitcoin in the decentralized finance market is not as simple as buying Bitcoin and depositing it into a centralized lending app like BlockFi
. To earn yield on Bitcoin in DeFi, Bitcoin holders are required to either tokenize their BTC or buy tokenized Bitcoin on a centralized exchange such as Pancake Swap
for BNB wrapped Bitcoin or Uniswap
for ETH wrapped Bitcoin. Both exchanges are available natively in the Trust Wallet mobile app.
Alternatively, DeFi users can deposit tokenized Bitcoin in trading or lending pools to generate yield. Users can deposit their WBTC into lending protocols such as Aave or Compound. They can also deposit their WBTC into decentralized liquidity pools to earn liquidity mining returns on Curve Finance or Harvest Finance platforms.
Sticking With Loans, What About Bitcoin Loans?
The rise in Bitcoin loans is a different method that’s bridging the gap between DeFi and Bitcoin. Organizations such as Aave
, for instance, are offering crypto lending services. These are specifically Bitcoin loans at competitive rates, which means any user is just a few clicks away from receiving Bitcoin.
provide significant benefits compared to traditional crypto exchanges to crypto holders. For example, they allow an investor to add liquidity to their bank account without any taxable repercussions. Loans without collateral are also available from many crypto and Bitcoin lenders. An example of these would be flash loans; however, they require an in-depth knowledge of crypto due to the complexity of the transaction.
DeFi loans are also written in smart contracts, allowing for complete transactional transparency.
What Are the Effects if Bitcoin Becomes More Prevalent in DeFi?
The prospect of more widespread decentralized financial protocols is tempting enough. By adding the potential for Bitcoin to be freely traded on other blockchain platforms with more wrapped Bitcoin assets, the total value locked of both Bitcoin and DeFi will reach new heights.
By adding extra liquidity to Bitcoin, there are further opportunities for increased use cases in the mainstream. The concept of decentralized finance can significantly enhance the existing powers of Bitcoin by allowing for easier swaps and options for staking through the use of the wrapped tokens. With regular Bitcoin, these everyday DeFi activities are more difficult or near impossible.
For example, there is little concern for institutions that handle multiple cryptocurrencies across different nodes and transaction formats for decentralized applications like exchanges, wallets, and payment services. WBTC combines the benefits of Ethereum and Bitcoin, making it simple to handle the wrapped currency with only the Ethereum node.
What Needs to Happen to Make This Work?
Awareness is an essential factor for a successful and sturdy cohesion between DeFi and Bitcoin. The more users in the space that are aware the two are compatible and can be used in tandem, the more these people will utilize the existing platforms that are helping to bring Bitcoin to DeFi.
Long gone are the days where Bitcoin and DeFi were considered two separate entities. There is plenty of new and emerging technology in the space building the bridge over the gulf between the two. The more people aware of the benefits, the more opportunities for both spaces to grow.
The dramatic and bullish increase in the price of Bitcoin is showing no sign of slowing any time soon. For this reason, having more decentralized protocols available in the crypto space will be essential. The more technologies and products that allow for this to happen, the future of both Bitcoin and DeFi will be unprecedented.
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