A Bitcoin-Charged Crypto Economy with Trustless Vaults

Abstract

Bitcoin is by far the largest crypto asset by market capitalization, yet the vast majority of it remains idle. Today, less than 1% of all bitcoins are bridged to smart contract platforms, where most decentralized finance (DeFi) activity takes place. A key barrier to greater participation is that existing Bitcoin bridges are either centralized or rely on significant trust assumptions. In fact, due to the lack of covenants in the Bitcoin scripting language, there are no known ways to build trustless Bitcoin bridges.

We bypass this barrier by introducing a different primitive: trustless Bitcoin vaults. Bitcoin holders deposit their BTC into these on-chain vaults in a self-custodial fashion. The bitcoins in each vault are tied to a specific smart contract protocol on an external chain. These vaults are programmable, and withdrawals are permitted only when a zero-knowledge proof of a specific smart contract state is verified on the Bitcoin chain. Together with an appropriate Bitcoin scripting design of the vault, this eliminates the need for mutual trust among parties. We demonstrate how this construction enables the use of native Bitcoin—without wrapping or bridging—as collateral in many DeFi applications, including lending, stablecoin issuance, and perpetual DEXs.

Leveraging recent advances in BitVM3, we present experimental results showing that these vaults can be operated with minimal on-chain overhead—an essential requirement for scaling trustless Bitcoin-backed DeFi. Bitcoin vaults built on top of the Babylon Bitcoin staking protocol further improve capital efficiency by allowing staked BTC to act as collateral in DeFi protocols. We conclude by discussing how trustless Bitcoin vaults significantly strengthen the existing Babylon ecosystem and the utility of BABY as the token for its decentralized governance.

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