Written by Ryan S. Gladwin.
What is wrapped bitcoin?
It's well past Christmas, why are people still talking about "wrapped bitcoin"? Unlike what the name suggests, wrapped bitcoin (WBTC) has nothing to do with the holidays nor does it relate to birthdays or anything of the sort.
Launched back in 2019, wrapped bitcoin is an ERC-20 token that represents bitcoin on the ethereum blockchain. The token is backed 1:1 by an actual bitcoin. Just like stablecoins such as USDT are backed to the dollar… oh, wait, let's back up and first understand what an ERC-20 token is.
What is an ERC-20 token?
ERC-20 tokens exist on the ethereum blockchain through a smart contract that creates the token, handles transactions, and keeps an eye on token holders and wallet balances.
Smart contracts are essentially pieces of code that cannot be changed once they have been released because they are on the blockchain. Developers typically need to build in access points to the contract in case vulnerabilities are found or to add more functionalities.
ERC-20 tokens must follow six essential functions and may use three optional functions.
totalSupply: maximum amount of tokens that can be created.
balanceOf: how many tokens an address has
transfer: taking tokens from the total supply and giving them to an address
transferFrom: sending tokens from one address and giving them to another address
approve: verifies that a contract can give a specified number of tokens to an address
allowance: verifies that an address can give a specified number of tokens to an address
The optional functions are a bit more straightforward:
- Name = "Wrapped Bitcoin"
- Symbol = "WBTC"
- Decimals = 8
These essential and optional functions provide a standard for the creation of tokens, making it easier for exchanges and wallet providers to import them to their platforms. Otherwise, each time a new token was made, brand new code would have to be made.
Why would I get WBTC?
Now we know that wrapped bitcoin is an ERC-20 token, and we know what an ERC-20 token is, let's understand why the concept of bitcoin on another chain exists?
It's because WBTC benefits from everything ethereum has to offer, allowing holders to interact with the ecosystem in a way that is not possible with regular Bitcoin. WBTC helps holders access functionalities such as smart contracts and the entire DeFi ecosystem.
For instance, you can provide liquidity and earn pool fees on exchanges like Uniswap. Holders can also stake their WBTC to earn passive income. Additionally, since ERC-20 tokens are more easily interchangeable, WTBC opens up a wide variety of trading pairs against it and other ethereum tokens.
Another reason for the popularity of WBTC is that if you already have an ethereum wallet, buying and selling WBTC becomes a lot easier than regular bitcoin. There is no need to get a new bitcoin-specific wallet, change networks or remember a new passphrase. People love easy access; why else would people take disabled parking spots when they don't need them?
Some people invest in bitcoin because they are bullish on the asset, but most are not fans of the user experience bitcoin provides. Thus, opting for WBTC is a popular choice because, with WBTC, you are choosing to follow the price of bitcoin while benefiting from ethereum's utility.
However, there are some downsides to buying WBTC over regular BTC — let’s look at them.
What's the catch with WBTC?
Wrapped bitcoin is technically not decentralized. The minting process requires a custodian to initiate the transaction after a request has passed a KYC (Know Your Customer) and AML (Anti Money Laundering) tests. Wrapped bitcoin only has one custodian, BitGo; therefore, it has a single point of failure — something that the crypto community generally doesn't approve. There is a chance that more custodians will be added in the future, but for now, BitGo is the one and only.
That being said, as far as centralized powers go, BitGo isn't that bad of a company to trust your money with.
Founded in 2011, BitGo has provided crypto services for years. The BitGo platform itself has never been hacked. However, an exchange that uses BitGo software suffered a data breach in 2016. BitGo processed the withdrawal of $60 million of BTC from BitFinex's stolen keys. However, most of the blame here falls on Bitfinex for allowing a data breach to leak keys, and post the breach, both companies have updated their systems. BitGo hasn't had any issues since.
BitGo also has a $100 million insurance policy underwritten by Lloyds Syndicate. So, in case something does go wrong, they have you covered… as long as more than $100 million isn't stolen. Fingers crossed.
Another cause for concern is the probability of the token not being actually backed 1 for 1 like advertised. It's only natural — the Tether fiasco opened a can of worms and still gives many people nightmares. However, not to worry, as WBTC is admittedly more transparent.
The WBTC order book is completely on-chain, transparent, and accessible at any time. The site reads "transparency improves trust [...] The proof of reserve is on-chain which shows the exact 1:1 between minted WBTC tokens and BTC stored by the custodians".
Some would be skeptical at the point of all of this. Essentially, if you are picking WBTC over regular bitcoin, you concede that ethereum has better technology but want a stake in the store of value that bitcoin has. If you agree with that point, why not double down on the flippening (ETH overtaking BTC) and just purchase ethereum?
Perhaps you simply don't see that happening, and you just want the benefits that the ethereum network can offer you. In which case, mint as much WBTC as you want… we won't stop you.
Next up, staking: