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Wrapped Bitcoin Meaning

Jan 24, 2024 | Updated Jan 24, 2024
Wrapped Bitcoin is a tokenized representation of Bitcoin that is interoperable with decentralized applications on the Ethereum blockchain.

What Is Wrapped Bitcoin (wBTC)?

Wrapped Bitcoin (wBTC) is an ERC-20 token that represents Bitcoin on the Ethereum network. The wBTC protocol was collaboratively developed by Kyber Network, BitGo Inc., Compound, MakerDAO, Set Protocol, Dharma, and Ren. 

Wrapped tokens are designed to enable interoperability across different blockchains. Before wBTC, Bitcoin only operated on its native blockchain. By wrapping Bitcoin, however, the resulting ERC-20 token can exist on the Ethereum blockchain. Thus, wBTc allows holders to participate in decentralized finance (DeFi) ecosystems on  Ethereum. This opens up many potential benefits, such as significantly improving the liquidity in BTC-related markets.

wBTC is pegged to BTC at a 1:1 ratio, implying that one wBTC has the equivalent value of one BTC. Therefore, 1 wBTC can be exchanged for 1 BTC, and vice versa.

How wBTC wrapping works

The process of creating new wrapped tokens is known as minting. Three key players are involved in the wBTC minting process – custodians, merchants, and the wBTC DAO.

  • Merchants lock their BTC to authorize the creation of new wBTC. They are also responsible for burning wBTC to release an equal amount of locked BTC.
  • Custodians are responsible for creating wBTC and securing its BTC reserves. For every 1 wBTC minted, the custodian holds 1 BTC on the Bitcoin network.
  • The wBTC DAO is a decentralized autonomous organization that oversees the changes to smart contracts that generate wBTC and the removal or addition of custodians and merchants to the wBTC network.

For example, a user submits a wBTC mint request to the merchant along with the amount. Then the merchant sends the user’s BTC to the custodian, who then adds the BTC to a known reserve address and generates an equal amount of wBTC. The custodian sends the freshly minted wBTC to the merchant who sends it to the user. To convert wBTC back to BTC, the merchant submits a burn request to the custodian who releases the BTC from the reserve address.

Wrapped Bitcoin vs Bitcoin

Wrapping Bitcoin enables leveraging Bitcoin’s liquidity to various services in the DeFi sector as wBTC exists on the Ethereum blockchain. However, it is important to note that your Bitcoins will be in the custody of the custodian.

The value of the wrapped token is impacted if the custodian proves to be dishonest or becomes defunct. wBTC, for one, de-pegged from BTC during the FTX bankruptcy filing and only returned to the peg later on. Learn more about wrapped crypto and what do the wrapped tokens work from this article.

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