Previously, using Bitcoin (BTC) on Ethereum or Ethereum (ETH) on Binance Smart Chain (BSC) was a big challenge. Blockchains operate independently, making it difficult to transfer assets between networks. Wrapped tokens are the solution to this problem, allowing users to access and use assets that are not native assets on the blockchain.
What is wrapped token?
Simply put, a wrapped token is an asset that is pegged 1:1 to a native asset on another blockchain. Stablecoins such as Tether also operate according to the same logic. Tether is considered a virtual version of USD with the ability to operate in a decentralized system.
For example, Wrapped Bitcoin (WBTC) is an ERC-20 token on Ethereum, pegged to the value of Bitcoin at a 1:1 ratio.
Note: Although Tether (USDT) is often referred to as a wrapped token, this is incorrect. USDT is traded at a 1:1 ratio with USD, however, Tether does not keep an exact amount of USD for each USDT in its reserves. This reserve also includes cash equivalents, assets and loan receivables.
Wrapped token was created for what?
In essence, a native token on a blockchain network cannot be freely transferred to another network. Similarly, you cannot directly transfer Bitcoin from the Bitcoin blockchain to the Ethereum blockchain due to different token standards (ERC-20, BRC-20,...), encryption system (Encryption) and consensus mechanism (POW, POS,... ). Thus Wrapped token was born due to the need for greater interoperability and liquidity. The ability to wrap idle assets and use them on another chain can strengthen connectivity between isolated liquidity sources.
How does wrapped token work?
Wrapped tokens are usually managed by a custodian (Custodial), which can be an organization, multi-sig wallet, DAO or smart contract. This custodian holds an amount of native assets equivalent to the number of tokens issued.
The wrapping process takes place as follows:
A person sends the native token (e.g. Bitcoin) to the custodian.
The custodian will lock the native token, mint wrapped token on the destination blockchain (e.g. WBTC on Ethereum) in an amount equivalent to the original asset.
The unwrap process takes place in reverse, when the user wants to exchange the wrapped token back to the original asset.
Wrapped Bitcoin (WBTC)
Bitcoin itself cannot run in the Ethereum blockchain. In fact, Ethereum's blockchain offers more services than Bitcoin's blockchain. Because of this, some people mint Bitcoin (BTC) and use their newly wrapped Bitcoin (WBTC) on the Ethereum network to operate every service the Ethereum network offers. These services include running decentralized applications (dApps) in the decentralized finance (DeFi) ecosystem.
Wrapped Bitcoin was introduced in 2019, jointly established by three organizations: BitGo, Kyber Network and Ren.
Wrapped token trên Ethereum
Wrapped tokens on Ethereum are tokens from other blockchains created to comply with the ERC-20 standard. This allows you to use non-Ethereum native assets on Ethereum. The process of wrapping and unwrap tokens on Ethereum will cost gas.
However, ETH was developed before the ERC-20 standard, so it does not comply with this standard. This causes problems, as many DApps require conversions between ether and ERC-20 tokens. Wrapped ether (WETH) was born to solve this problem. It is a wrapped version of ether, compliant with the ERC-20 standard.
Limitations of using wrapped tokens
Most current wrapped token implementations require trust in the custodian holding the funds. With current technology, users cannot use wrapped tokens for true cross-chain transactions – which usually have to go through a custodian.
However, a number of more decentralized options are in the works and may launch in the future to make minting and redeeming wrapped tokens completely trustless.
The casting process can also be relatively expensive due to high gas fees and possible price inflation.
Conclude
Wrapped tokens act as an important bridge between blockchains, allowing assets from one blockchain to be used on another. This promotes interoperability within the cryptocurrency and DeFi ecosystem, supports more efficient use of capital, and helps applications share liquidity with each other.
