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Vitalik Buterin proposes a method to test reserves more reliably



One of the most important consequences of the FTX disaster is the loss of confidence of exchange users. Many of these companies, such as Binance, rushed to do backtesting to prove the liquidity of their exchange platforms. However, these tests have been challenged. Vitalik Buterin has written a white paper that seeks an alternative to this type of reserve testing.

According to a document published today by Buterin, “exchanges could create cryptographic evidence that the funds they have on the chain are sufficient to cover their liabilities to users.” The purpose is to to set aside the trust that must be placed in government licenses.The practice of having to “check” the corporate structure and background of the people who make up these entities.

Buterin calls this method “solvency testing.” Simply put, it is an asset test and a liability test. It depends on several factors, including a technical solution called Merkel tree (used in Bitcoin to know the veracity of a transaction) and zero-knowledge proof (ZK SNARK, which is used to prove that a cryptographic procedure is legitimate without revealing the data of its participants).

These techniques would preserve the privacy of individuals making deposits in cryptocurrencies. exchangesThis cannot be guaranteed with a simple list of repositories. Also, a public budget with total balances is possible. But, without these techniques, any budget could be accessed by anyone on the web.


How the solvency test works

The solvency test consists of creating a public register that totals the sums of all deposits in a structure called the Merkel tree. (which can improve its level of privacy if a zero-knowledge test is used). This method would ensure the veracity of the reported data. It would also allow anyone to check whether their balance is included in such a cryptographic structure and to check for negative balances.

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In other words, the exchanges would “send each user proof of the Merkle sum of his balance.” The user would then be assured that his balance is correctly included in the total.”

To preserve privacy and avoid disclosing the entire set of addresses, the exchange could also run a zero-knowledge test on the blockchain in which it demonstrates the total balance of all addresses on the blockchain that have this format.

The other important issue is protection against double collateral use. Exchanging mutual collateral for proof of reserves is something that exchanges could easily do that would allow them to pretend to be solvent when in fact they are not. Ideally, solvency tests should be conducted in real time, with an updated test after each block.

Vitalik Buterin, Having a secure CEX: solvency testing and more.

Buterin suggests that not everything can be verified cryptographically, as exchanges hold balances in fiat currencies. Therefore, confirmation methods derived from corporate audits must be used. Using traditional banking and KYC methods.


Referenced Binance Venezuela

However, Buterin believes that both custodial exchanges (“where funds are stored in something like a validation smart contract”) and non-custodial exchanges will continue to coexist.

“The simplest way to improve the security of backward-compatible custodial exchanges is to add back-up testing. This is a combination of asset testing and liability testing,” Buterin says.

Impact of FTX on exchanges

During the recent consolidation of Binance’s funds, a Bitcoin network reported by CryptoNews. This posed a challenge for the Bitcoin network because of the possibility of increased fees. Something that did not happen thanks to the adoption of a better as Segwitthat help make the network more efficient.

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In any case, it is a fact that people see a risk in using the exchanges, since after the fall of FTX, the funds of the exchanges have decreased.


Reference Binance Countries
BTC dropped from exchanges.
At least 150,000 BTC have left cryptocurrency exchanges. Source: glassnode / Bitcoin Magazine.

The problem of lack of trust has spread to platforms that trade ETFs, stocks or bitcoin futures. Companies such as Grayscale have faced a lack of trust. of their users by attesting to their reservations, as they have companies such as Genesisboth related to traditional finance.

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