Proof of reserves Industry standard
In January 2020, Bitcoin Magazine published a description of “Why Proof of Reserves Matters for Bitcoin”.
This was no accident – the recent anniversary of the QuadrigaCX implosion reminded many of us of the risks we were working to stave off, especially here in Canada.
Two years might not seem like a long time to the average person, but it’s a milestone in history in the cryptocurrency world – it’s more than a seventh of Bitcoin’s entire existence. By looking at the industry’s progress in terms of proof of reserves, we can see just how much can happen in that time frame.
In this early 2020 piece, Mauricio Di Bartolomeo joined the chorus of several voices already pleading for this opportunity to accelerate Bitcoin’s rise in legitimacy and professionalism.
Jason Tyra had written several articles between 2014 and 2015. Blockstream’s Steven Roose presented proposed standards in early 2019, soon advocated by Matt ฿ on a personal blog and Nic Carter had banged his own drum, publishing several articles and a podcast. interviews on the topic, as well as using its wide public reach to flag other advocates.
But real-world implementations were still thin on the ground, with little to show for it since 2014, when Kraken sought to prove its reserves after the Mt. Gox debacle.
It remained to be seen how exactly proof of reservations would emerge as a real-world phenomenon.
Proof of reserve, regardless of reserve
The proof of reservations is the extension of a fairly simple observation; a service that holds a publicly validatable asset such as bitcoin on behalf of clients, may choose to publish independently verifiable evidence of the reserves of assets in its possession.
One of the two challenges I launched in Bitcoin MagazineThe previous article implied growing pressure on custodians to loan out their assets to generate yield. Indeed, this practice has positively exploded over the past two years. Rather than being seen by the industry as a tempting vice to be resisted, many Bitcoiners embraced development and sought to earn interest on their assets.
A chain-reserve proof purist of years past might have been troubled by this trend, viewing it as a growing obstruction to the precise form of industry transparency to be desired. But the idea of verifiably balanced assets and liabilities can be applied to more than 100% reserve custody models.
Indeed, in January 2021, Ledn became the first lender in the Bitcoin industry to offer proof of reserves as a service to its customers. By engaging with third-party accounting firm Armanino LLP, which produced an anonymized Merkle tree where each leaf represented a client balance, clients could individually verify through the third-party firm that their assets were properly accounted for.
The case has been clarified: Proof of reserves is a viable feature for customers regardless of reserve model.
The dominoes start falling
There had already been a modest start in 2020.
In May of that year, Gate.io provided proof of a 100% guarantee, the end result of a months-long effort beginning with a January 1 snapshot, and in September 2020, CoinShares also offered a real-time audit with Armanino.
But it was in 2021 that the momentum really started to build.
As mentioned above, the year started with the implementation of Ledn, and the pace picked up as the months went by.
August was a particularly eventful month. Not only did Ledn follow through on its intention to perform proof of reserves every six months by issuing its second attestation, but BitMEX entered the fray as the heaviest hitter yet (measured by assets under management).
The BitMEX research bureau published an in-depth technical breakdown characteristic of the state of the industry of “proof of liabilities and assets”, and immediately followed BitMEX’s own demonstration of full reserves, independently verifiable by any customer with a modest amount of technical skills.
In September, Nexo joined Ledn as the second lender to offer attestation with Armanino, this time with a real-time implementation.
In early February this year, Kraken offered proof of its bitcoin and ether holdings totaling $19 billion, ending an 8-year hiatus since its first published proof of reserves in 2014.
Suddenly proof of reserves is no longer just a twinkle in the eye of a visionary, or even a standout feature delivered by an industry forerunner or two.
It becomes a feature that customers can and should expect.
The path to follow
Like Bitcoin itself, proof of reserves is more than just a technological tool – it has ideological implications. It is the awareness of the belief that transparency and individual verifiability are paramount and that they do not necessarily have to end in self-custody.
If bitcoin is to become a global currency, there will be custodians. There will be lenders. They fulfill essential roles on the road to mass adoption. Open-source wallets and specialized hardware are incredible developments for self-sovereignty and their importance should not be underestimated. But they will never understand all of Bitcoin’s economic activity.
Bitcoin’s openness and verifiability enable its users to demand more transparency from Bitcoin service providers. Instead of resigning ourselves to the inherent risks of custodial models, we can work to standardize solutions and mitigations to mitigate those risks and ultimately help drive faster and broader adoption.
Requiring proof of reserves from the services you use is one of the most powerful ways to do this.
This is a guest post by Mario Gibney. The opinions expressed are entirely their own and do not necessarily reflect those of BTC Inc or Bitcoin Magazine.