CoinDesk has made an extremely optimistic prediction about the future of the Bitcoin DeFi ecosystem, believing that in the next 5 to 10 years, the Bitcoin DeFi ecosystem is expected to create more than $1 trillion in value.

By Rebbeca Ren (Chef at Crypto Kitchen in New York)

There are many speculations about this summer, the most talked-about of which are SocialFi Summer and OnChain Summer. As the Bitcoin staking protocol Babylon announced the completion of US$70 million in financing, the discussion about BitcoinFi Summer has become more heated.

Although the CryptoKitchen public account has been updated a bit slowly recently, we have not been idle, but have had in-depth exchanges with infrastructure builders in the Bitcoin ecosystem. They come from all over the world, both in the East and the West, and there are veteran players who started from the Bitcoin ecosystem, as well as new forces transferred from other public chains.

Without exception, Paradigm's huge investment in Babylon has brought significant linkage effects and injected market confidence - these builders believe that this financing not only heralds a future prosperity for infrastructure construction around Babylon, but also It marks that the prospects of the BitcoinFi track are considerable.

Ethereum has long dominated the DeFi market, attracting a large number of developers and projects with its powerful smart contract functions and flexibility. In contrast, Bitcoin is mainly used for value storage due to its overly concise base layer design, lack of complete smart contract programming capabilities, and extremely slow transaction speeds - this seems to be somewhat different from Satoshi Nakamoto's original intention of defining it as a "peer-to-peer electronic cash system" in the white paper.

However, in this cycle, Bitcoin has begun to show new potential. In addition to the approval of BTC ETF to attract capital inflows from large asset management companies, the out-of-circle effect of the Ordinals protocol has attracted a large number of individual investors - some from the Ethereum ecosystem, and some are brand new crypto market participants.

The popularity of Bitcoin assets has allowed builders to see the feasibility and reliability of building assets around Bitcoin, and they may help Bitcoin no longer be limited to value storage, return to a "peer-to-peer electronic cash system", and become decentralized finance, or more broadly, become an important part of dApp.

Next, we will review the recent projects and some of our feelings.

?Shell Finance

Shell Finance is a trustless lending and stablecoin protocol built on Bitcoin Layer 1, designed to address the need for decentralized finance on the Bitcoin network.

In terms of business model, it is similar to MakerDAO, where users can pledge assets within the platform and borrow synthetic assets $bitUSD, while Shell Finance acts as an intermediary in the lending process. This model can meet the $bitUSD lending needs of a wide range of users and achieve efficient liquidity from individuals to funding pools in the UTXO model.

In terms of development path, Shell Finance has borrowed from AAVE's approach and hopes to open up the market by building a bottom-up community centered on user needs. Compared with Compound, a mainstream decentralized lending platform that only supports a limited number of asset types, AAVE supports a variety of collateral assets, increasing the flexibility and diversity of asset utilization. Therefore, AAVE has a better community foundation and can serve more users.

Shell Finance also hopes to reach more users, not just Bitcoin holders, by supporting a variety of Bitcoin assets, including Ordinals NFT, BRC-20, ARC-20, and Runes.

Unlike other Bitcoin stablecoin projects, all functions and contracts of Shell Finance run on Bitcoin's Layer 1. Founder Tim Hsieh said this is mainly due to two considerations:

• The Layer 1 architecture makes the protocol itself highly secure and decentralized, reducing potential risks and attack surfaces.

• Having tens of millions of BTC and the most active, OG, and critical players on Layer 1 enables Shell Finance to access the broadest market and the greatest liquidity.

On a technical level, Shell Finance uses a special technology called Discreet Log Contract (DLC) to make its loan system secure and automated.

DLC is a technology proposed by Lightning Network co-creator Tadge Dryja to enable more complex financial contracts on the Bitcoin blockchain while maintaining privacy and security. DLC uses cryptography to ensure that contract details remain private before execution, and only discloses relevant information when certain conditions are met.

With the help of DLC technology, the lending process is roughly as follows:

• Users can borrow a certain amount of $bitUSD by staking $ORDI.

• The oracle monitors the market value of $ORDI, and if its value falls below a set threshold, the oracle sends a sell signal, liquidating $ORDI to repay the $bitUSD loan.

During the entire process, $ORDI does not need to be transferred to the borrower, but is placed in a place similar to a "smart safe". This "safe" can automatically handle related operations including liquidation to ensure everything is safe and fair.

In June this year, Shell Finance issued its own Ordinals NFT, Darkman, with a supply of 5,000 pieces, and adopted a free mint method. Tim told us that the issuance of NFTs can help Shell Finance find early and core users, and users holding NFTs are equivalent to members of the protocol and can enjoy discounts on lending services.

Before starting his own business, Tim had been working in the traditional financial industry and was well aware of how traditional finance works and the pain points in payment and settlement. These experiences led Tim to choose BCH (Bitcoin Cash) as a solution to increase Bitcoin TPS (transactions per second) and achieve fast payments when he first entered the crypto world. However, this startup was not ideal.

As technology develops, BCH's approach of increasing TPS by increasing block size has exposed many problems, such as limited scalability, failure to solve fundamental problems, centralization trend and reduced security, and lack of community support. In contrast, Lightning Network and Roll-up technologies provide better scalability solutions, making it outdated.

In 2023, the popularity of Ordinals and BRC-20 token Sats made Tim realize the strong consensus of people on Bitcoin chain assets. He said: "Sats was minted 21 million times, which is like a social experiment with unexpected results, which means there is an opportunity to build services around these people." This is exactly why he founded Shell Finance. After chatting with Shell Finance, we happened to meet another company that uses DLC technology——

?DLC.Link

DLC.Link is headquartered in New York and was founded by serial entrepreneur Aki Balogh. Aki co-founded the AI-driven marketing company MarketMuse in Boston in 2013 and successfully raised $10 million. In 2023, with his love for Bitcoin and his pursuit of high decentralization and high security, Aki started a new entrepreneurial journey and naturally invested in the construction of the Bitcoin ecosystem.

This time, Aki and the team aim to launch a safer way to wrap BTC for users to participate in cross-chain DeFi transactions, namely dlcBTC, to replace wBTC (Wrapped Bitcoin).

wBTC is an Ethereum-based ERC-20 token that represents the value of Bitcoin on the Ethereum network, enabling Bitcoin to participate in DeFi applications on Ethereum. In the wBTC ecosystem, BitGo plays the role of "custodian" and is responsible for storing crypto assets. When a user converts Bitcoin to wBTC, Bitcoin is deposited in BitGo's custodial wallet, and BitGo ensures that each wBTC is backed by 1:1 Bitcoin.

Founded in Silicon Valley in 2013, BitGo is the first qualified custodian specifically for storing digital assets. It protects about 20% of on-chain Bitcoin transactions (by value) and supports more than 700 digital assets within its platform. Although BitGo is a well-known and compliant cryptocurrency custody service provider, this centralized custody model still poses trust risks. If it is attacked or there is a security breach, users may face the risk of losing their custody Bitcoin.

Therefore, the Aki team hopes to enable users to participate in DeFi by achieving self-custody of Bitcoin (without the need for any third party).

dlcBTC is based on DLC technology, which allows users to lock Bitcoin in a multi-signature contract and maintain full control over their assets. Even if the system is hacked, the locked Bitcoin can only be transferred back to the original depositor and cannot be stolen.

On the other hand, dlcBTC supports multiple chains. Currently, users can use dlcBTC in the Ethereum and Arbitrum ecosystems, and DLC.Link plans to further expand to more blockchains such as Solana in the future.

?How do Oracles work in Bitcoin DeFi?

As individual cryptocurrency traders or holders, we may not see oracles in our daily lives, but they play a critical role in every transaction.

DeFi relies on smart contracts to operate because they can provide automated, intermediary-free, transparent, efficient, low-cost and flexible financial operations. Since smart contracts themselves cannot directly access off-chain data, oracles are needed as a bridge to obtain data from external data sources and transmit it to the blockchain, so that smart contracts can make decisions and execute based on these external data.

We have repeatedly mentioned that the Bitcoin blockchain itself does not support smart contracts, so how do oracles play a role?

This is where Layer 2 solutions come in — they build on top of the Bitcoin blockchain to enhance its scalability, speed, and functionality without changing the base layer. By moving part of the transaction processing to a secondary layer, Layer 2 addresses Bitcoin’s limitations of slow transaction times and high fees.

APRO Oracle is an oracle system built on Bitcoin Layer 2. It aims to build a secure and reliable computing platform by combining off-chain computing with on-chain verification, expand data access and computing capabilities, and provide customized computing logic services for DeFi applications.

Its oracle system consists of two layers of networks:

① OCMP network (off chain message protocol): the oracle network itself, which is composed of network nodes. The nodes in the first layer monitor each other. Once a large-scale abnormality occurs, it can be reported to the backup layer, which will make a judgment.

For example, a DeFi platform needs real-time market price data to determine lending rates. The oracle nodes of the OCMP network can obtain current price data from multiple exchanges and verify the accuracy of this data through a consensus mechanism. Ultimately, the verified data is transmitted to the smart contract on the blockchain to automatically adjust the lending rate.

② Eigenlayer network as a backup layer.

This means that oracles can get a higher level of security through EigenLayer. Specifically for APRO Oracle, if its first layer OCMP network is controversial, Eigenlayer will verify and adjudicate. EigenLayer's social consensus mechanism is designed to supplement Ethereum's objective consensus mechanism, not replace it. It is mainly used to handle special cases that require human judgment.

This two-layer structure increases security and reduces the risk of nodes being bribed or attacked.

APRO Oracle tells us that it is the first decentralized oracle designed specifically for the Bitcoin ecosystem and has played an important role in supporting layer 2 projects such as Merlin and Bitlayer.

Building a Data Availability (DA) Layer for Bitcoin DeFi with Ordinals

In the DeFi ecosystem, the data availability (DA) layer significantly improves the transaction throughput of the blockchain and reduces transaction costs by transferring some data storage and processing off-chain.

For example, on a blockchain network, each transaction requires a miner fee. When the network is busy, transaction fees rise sharply. But if users submit large batches of transaction data through the DA layer, they only need to pay a small portion of the main chain fee, thus achieving lower-cost transactions and operations.

The DA layer is responsible for ensuring the integrity and availability of data, making key transaction records and operations always accessible and secure. Although some blockchain main chains do not support complex smart contract functions, the DA layer can handle complex calculations and logical operations to provide support for DeFi applications.

There are several mainstream ways to build a DA layer on the Bitcoin blockchain:

① Using OP_Return Outputs

OP_Return is a Bitcoin Script opcode used to store arbitrary data in a transaction. Each OP_Return output can store up to 80 bytes of data. While limited in capacity, it provides a simple and straightforward approach to data availability.

ChatGPT shows what OP_Return is

• Advantages: Data is stored on the Bitcoin blockchain, ensuring that the data cannot be tampered with and is highly secure; any node or user can easily access and read the stored data without the need for additional infrastructure.

• Disadvantages: Each OP_Return output can only store 80 bytes of data, which is a big limitation for applications that need to store large amounts of data; frequent use of OP_Return to store data will increase the size of the blockchain, requiring nodes to store more data, thereby increasing the burden on nodes.

②Build on the side chain

Sidechains are independent blockchains that interoperate with the Bitcoin mainchain, allowing for more experimentation and innovation without affecting the performance and security of the mainchain.

• Advantages: Sidechains can typically process and store more data, providing greater data availability capacity; they can be customized according to the needs of specific applications, providing more functionality and flexibility.

• Disadvantages: Building and maintaining side chains requires additional development and operational resources, including nodes, consensus mechanisms, and security protocols. The security of the side chain depends on its own consensus mechanism and node network. It is necessary to ensure that the security of the side chain is not lower than that of the main chain, otherwise it may bring risks.

The more well-known side chain solutions include Liquid, RSK (Rootstock) and Stacks.

③ Layer 2 Solution

• Advantages: Layer 2 solutions can significantly improve transaction processing speed and throughput, solving the scalability problem of the Bitcoin main chain; by moving most transaction processing off-chain, Layer 2 reduces the burden on the main chain, making the block The chain is more lightweight and efficient.

• Disadvantages: The design and implementation of Layer 2 solutions are usually complex and require additional protocols and technology stacks; some Layer 2 solutions may introduce a certain degree of centralization, especially in terms of settlement and data availability. Well-known Layer 2 solutions include BitLayer, BitVM, Merlin Chain, and Botanix.

MultiAdaptive, who we recently spoke with, takes a unique approach by leveraging Ordinals in the Bitcoin protocol to publish data.

This process allows users to engrave unique data on satoshis, the smallest unit of Bitcoin, so that each transaction can contain specific data content. Users first send NFT-like Ordinal transactions to MultiAdaptive nodes for verification. These nodes are responsible for data availability support off-chain to ensure the integrity and legitimacy of the data.

The verified data is then sent to the Bitcoin network for storage and broadcasting, with the Bitcoin network acting as a "witness" in the process.

By leveraging Bitcoin, the most secure and decentralized blockchain, MultiAdaptive is able to ensure data immutability and long-term storage. This approach avoids the complexity of building bridges between chains, simplifies system architecture, and reduces potential security risks.

In addition, the off-chain data availability support provided by MultiAdaptive nodes has improved the verification and processing speed of data, while still relying on Bitcoin for final storage and witnessing, ensuring high availability and reliability of data.

However, using the Bitcoin network for data storage and broadcasting may incur high transaction fees, especially when the network is congested, and this cost issue needs to be handled with caution.

MultiAdaptive was originally a data availability network for Ethereum, and after seeing the development of the Bitcoin DeFi ecosystem, it quickly added support for the Bitcoin blockchain.

?at last

CoinDesk pointed out in the article "More Than $1 Trillion Bitcoin DeFi Opportunity" that the value creation of the Bitcoin DeFi ecosystem is driven by three key needs:

• Preference for the Bitcoin blockchain as a base layer for other tokenized assets

• The need for greater productivity of Bitcoin assets

• The need for a financial system that reflects Bitcoin’s principles of decentralization

The rise of the Ordinals protocol is a manifestation of the first need. Since its launch on the Bitcoin mainnet in January 2023, Ordinals has grown from less than $100 million in total value to more than $1.5 billion in less than six months, demonstrating the huge potential of Bitcoin as the base layer of tokenized assets.

The biggest opportunity lies in the second demand: improving the productivity of Bitcoin assets through income tools and decentralized financial systems. Compared with other blockchains such as Ethereum and Solana, the value of alternative tokens (FT) on Bitcoin is still in its infancy.

However, with the development of sidechains, Layer 2, and other emerging technologies, Bitcoin’s functionality is improving significantly. In the first quarter of 2024, the total value locked (TVL) in the Bitcoin ecosystem soared from $492 million to more than $2.9 billion, a more than six-fold increase, demonstrating the huge expansion of Bitcoin’s DeFi potential – payments, Many application scenarios such as lending, decentralized exchanges (DEX), game finance (GameFi) and social finance (SocialFi) are under construction.

CoinDesk has made an extremely optimistic prediction about the future of the Bitcoin DeFi ecosystem, believing that in the next 5 to 10 years, the Bitcoin DeFi ecosystem is expected to create more than $1 trillion in value.

?last of the last

Tim from Shell Finance once mentioned in a conversation with CryptoKitchen:

“Bitcoin has shown different trends in different stages of development - from the initial "peer-to-peer digital cash" to the later "digital gold", and will even return to its original intention in the future, because history always repeats itself. However, the changes in these titles are not the most important. The key lies in the actions we take at each stage, the direction of the industry and demand. The core point of the current Bitcoin halving cycle is that we need to find a new growth point at this stage to maintain the security of the entire Bitcoin network. Building a decentralized financial (DeFi) ecosystem around Bitcoin may be a feasible path.”

The security and decentralization of Bitcoin provide a solid foundation for DeFi, while advances in various related technologies make it possible to implement more complex financial applications on the Bitcoin network.

By introducing DeFi into the Bitcoin ecosystem, we can not only improve Bitcoin’s productivity, but also expand its application scenarios to achieve faster payments, lending, decentralized exchanges (DEX), game finance (GameFi), social finance (SocialFi) and many other functions.

This is not only in line with the current trend of industry development, but also the key to maximizing the value of Bitcoin. Through continuous technological innovation and ecosystem expansion, Bitcoin may be expected to lead the trend of cryptocurrency and decentralized finance and compete with Ethereum.