Crypto Behemoth Coinbase Enters Bitcoin DeFi Arena

A short and cryptic tweet sent X circles into a frenzy on Tuesday night as global exchange leader Coinbase hinted at plans to enter the packaged Bitcoin market. Initial speculation was quickly validated by senior employees who corroborated their enthusiasm for the further integration of the Bitcoin asset into the company’s on-chain ecosystem.

Other observers highlighted the strategic nature of the decision following a tumultuous week for current market favorite BitGo’s wBTC. The latter has long been considered the easiest and most popular method for Bitcoin investors to gain exposure to DeFi products.

Given the industry’s focus on native Bitcoin alternatives, the announcement is seen by many as a decisive move towards preserving Ethereum’s dominance as the de facto Bitcoin DeFi layer.

Origins of Bitcoin Wrapped

To better understand the emergence and interest in packaged Bitcoin products, we need to go back to 2018, when the idea of ​​DeFi was just starting to take off on Ethereum.

Looking to attract liquidity to their protocols, a collection of projects have decided to focus on the most liquid asset on the market: Bitcoin. Loi Luu, one of the original contributors to wBTC, shared his perspective on the ordeal:

“We realized that to really help DeFi grow, we needed to bring Bitcoin liquidity to the ecosystem.”

TVL (Total Locked Value) of wBTC over the years

As the old saying goes, the rest is history. In mid-2020, the “summer of DeFi” sparked a speculative frenzy that would push the total value of wBTC deposits north of $10 billion. Today, just over 150,000 bitcoins remain locked in its Ethereum contract, in the custody of institutional provider BitGo.

This custody, and the accountability it requires, is the subject of the current controversy surrounding wBTC. Late last week, for example, BitGo unveiled a new strategic partnership with Hong Kong-based BiT Global that aims to expand its wBTC product to a “multi-jurisdictional custody” setup. Behind BiT Global is the infamous cryptocurrency founder, Justin Sun.

The ad has been pushed back by users who argue that introducing new actors into the custody arrangement is a miscalculated risk.

The dominoes began to fall the following day, when community members at the popular algorithmic stablecoin Maker began advocating for wBTC to be removed from the protocol’s collateral list as a safety measure. On Tuesday, BitGo founder Mike Belshe and Bit Global representatives defended the decision on a public X space.

While the concerns expressed on social media have yet to affect wBTC deposits, they have opened the door to challengers. Despite BitGo’s long tenure in the space, it’s safe to wonder if they’ve exhausted the confidence of market participants.

Earlier this year, a lawsuit from the company stemming from a failed acquisition of Galaxy Digital resurfaced as the Delaware Supreme Court ruled the case should continue.

A Challenge for Programmable Bitcoin Layers

For Coinbase, this foray into the wrapped asset business could be more than just opportunism. Analysts see potential for the company to revive an outdated product by associating itself with the popular Bitcoin DeFi narrative.

Based on BitcoinLayers research, over 60% of proposed new Bitcoin scaling protocols are promoted as replacements for Ethereum’s EVM (Ethereum Virtual Machine). Over the past year, the excitement surrounding these proposals has invited many to suggest that they could turn users from Ethereum to Bitcoin, but most projects have failed to make much headway so far. Coinbase could be looking for an opportunity to nip future competition in the bud.

The company’s stake in Ethereum’s success has grown significantly since the release of its native implementation, BASE, late last year. While it’s fair to question what took them so long to compete with BitGo’s packaged product, the ability to directly profit from the growing demand for on-chain Bitcoin speculation is likely the driving force behind the decision.

Coinbase recently reported nearly $20 million in revenue from their BASE product in the last quarter alone.

Despite hype for more trust-minimized native Bitcoin solutions, market participants have so far favored established institutional custodians like BitGo over more complex and economically volatile alternatives. Coinbase seems intent on doubling down on this approach by capitalizing on their existing moat in the custody business.

As the company is already responsible for holding the assets of major institutional holders such as Blackrock’s IBIT ETF, the proposed cbBTC product is expected to inspire even more confidence in larger players than its predecessors.

The impact it could have on future Bitcoin layers is significant. Coinbase is in a unique position to attract liquidity that will be challenging for smaller projects to compete with. Their strongest argument will be based on the security of their link mechanism, which remains a work in progress.

As industry analyst Jacob Brown noted, this week’s announcement follows a series of moves by Coinbase that show a growing interest in the Bitcoin ecosystem.

Of course, the security compromises introduced by custody products remain heavily criticized by technologists and promoters of more decentralized solutions, but the question remains whether or not market participants adhere to these principles.