BitVM has just lately come beneath some scrutiny after the Taproot Wizards, Tyler and Rijndael, posted their criticism of the liquidity necessities imposed on the operator of a BitVM primarily based two-way peg. In all of the current discussions round BitVM primarily based layer two options, I had taken without any consideration that individuals discussing them and within the design house understood the collateralization/liquidity necessities imposed by the structure on the operator(s). The current dialogue across the “liquidity crunch” challenge exhibits me I used to be incorrect about this assumption, and that many individuals exterior of these actively concerned in BitVM growth weren’t conscious of this challenge.
Earlier than I am going into the liquidity crunch challenge, I believe it’s necessary to make clear one of many distinctive properties of a BitVM peg (known as bridges by altcoin builders). In bridges constructed on different networks, the funds held within the precise bridge contract controlling the motion of funds between networks are what’s used to truly course of withdrawals. Within the case of a BitVM peg, these funds aren’t accessible so as to fulfill withdrawals. The operator of the system (rollup, sidechain, and so on.) should truly entrance their very own liquidity so as to course of consumer withdrawal requests.
As consumer withdrawal requests are available, the operator truly shifting the rollup state ahead seems to be at each request, and processes these withdrawals utilizing their very own private funds. After a interval, the system then check-points its state in a cutoff committing to all pending withdrawals. After the operator has fulfilled all pending withdrawals from the final state they’ll then interact in a declare course of from the BitVM secured funds to make themselves entire for all of the capital they’ve fronted. The BitVM contract is established in order that operators can have their capability to assert these funds revoked in the event that they haven’t honored all pending withdrawals from the final state.
So the overall consumer move is a deposit goes right into a contract secured by BitVM, the operator fronts their very own capital to course of withdrawals, after which periodically the operator compensates themselves for the cash they’ve spent out of pocket from the BitVM contract. This units a BitVM peg other than every other sort of two means peg, introducing a liquidity requirement much like the Lightning Community.
The Liquidity Crunch
The issue that Taproot Wizards recognized of their write up is a results of the mixture of the up-front liquidity necessities imposed on the operator and the fraud proof scheme that permits the verifiers of the BitVM to revoke the operator’s entry to funds in the event that they haven’t fulfilled all withdrawals in a given rollup epoch. This creates a giant potential downside for the system, and notably for the operator.
For now let’s fully ignore the potential state of affairs of an operator deliberately refusing to course of a withdrawal attributable to malicious censorship. That isn’t a priority for now in trying on the potential issues, as if an operator did such a factor, they need to have their entry revoked and incur the lack of no matter funds they’ve already spent on processing withdrawals.
It’s completely attainable for an trustworthy operator to run right into a scenario the place, by means of no malicious intent on their half, they don’t have entry to sufficient liquidity to course of the withdrawals pending in a single rollup epoch. If this have been to happen, then an in any other case trustworthy operator can not compensate themselves from the BitVM contract for what they’ve processed with out opening themselves as much as a single verifier difficult them and leading to them completely dropping entry to the funds. All the pieces that they’ve spent processing withdrawals in that epoch can be misplaced funds they might not recuperate.
This creates a giant danger for a peg operator. Via no malicious motion in any respect, merely by means of limitations of their very own funds, rates of interest rising in borrowing funds, simply components of time required to entry funds, they’ll lose an enormous amount of cash. This introduces a giant potential instability within the peg, and it additionally begs the query the place does the customers’ cash go within the occasion of an operator being hit with a fraud proof?
The Choices
The necessary factor to notice is that the place the final word lifeless finish vacation spot of funds is relies on explicit design selections made by the implementers of any given peg. There’s a good diploma of freedom out there in design selections, the tip vacation spot of funds after a problem ejects an operator has a number of choices, the interval after an epoch finish that an operator has to meet all withdraws is configurable, none of these items are set in stone as a single attainable option to configure them.
So now that we perceive the issue let’s have a look at some potential options.
Throttling
You could possibly tackle the problem by throttling withdrawals. This might entail making a most restrict of funds that an operator might be sure by the contract to meet in any given rollup epoch. This might enable the operator to make sure that that they had sufficient capital so as to course of the utmost quantity they need to. Every interval the operator may course of that many withdrawals, undergo the declare course of to compensate themselves from the BitVM contract, after which within the subsequent epoch recycle that quantity to meet the subsequent wave of withdrawals.
The issue with that is you don’t know when a big uptick in funds pegged into the system will happen, and also you additionally don’t know when market exercise will align to incentivize an enormous amount of cash to need to peg out of the system. As extra funds are pegged in, the potential for a big improve within the quantity needed to peg out directly will increase. This dynamic primarily results in an ever rising queue to get out of the system until you improve the utmost epoch withdrawal quantity, which additionally will increase the liquidity necessities for the operator.
This exacerbates the liquidity requirement these pegs have, and primarily creates an enormous friction to withdrawals. Swap outs don’t remedy the problem, as this finally traps the counterparties liquidity on this ever rising queue, not like different two means pegs the place they might exit virtually instantly after facilitating the swap.
A number of Operators
Each BitVM 1 and BitVM 2 help having a number of verifiers in several methods, permitting a couple of extra to take part and be able to revoking an operator’s entry to funds. It is usually attainable in BitVM 2 (and a few BitVM primarily based pegs such because the Citrea rollup) to have a number of operators working in parallel. Multiple entity may help course of withdrawals from the peg, so a number of swimming pools of liquidity can be found to facilitate the peg.
This might in precept make your entire liquidity dynamic way more scalable, as it will not be restricted to a single entity having to entrance the liquidity to facilitate well timed withdrawals from the system, but it surely introduces questions of complexity. Every UTXO deposited into the BitVM peg and sure by the contract must have the phrases of claiming outlined. That contract must now be capable to distinguish between a number of operators, and guarantee a method of distinguishing which withdrawals are related to which operator, and guarantee they’ll solely declare what they’ve facilitated slightly than funds meant for a distinct operator.
It additionally must consider deal with the worldwide withdrawal demand that every one operators exist to facilitate. What if each operator has used all of the capital they’ve, however there may be nonetheless unmet demand? Do all of them have entry to BitVM funds revoked? None of them? Is there some rollover grace interval much like having a queue throttle? If there may be, who’s accountable if these withdrawals nonetheless aren’t facilitated the subsequent epoch? These are all issues that should be concretely labored out.
A number of Linear Operators
Along with having a number of parallel operators, you would have a series of linear operators. A single operator may operate at a time, facilitating withdrawals, and in the event that they have been to ever run right into a liquidity downside and had their entry revoked from the BitVM funds the funds after a problem/revocation course of might be instantly despatched to a brand new BitVM with a brand new operator. This might not tackle in any respect the danger of a single operator struggling a liquidity crunch, and they might understand the lack of no matter withdrawals they already deposited, however it will guarantee another person may step in and have an opportunity to proceed facilitating withdrawals with the power to assert compensation from the BitVM.
This nonetheless provides a great deal of price to the peg-in course of. Producing a BitVM occasion will not be low-cost by way of information and interactivity, that means that to chain linear BitVM operators collectively like this, you need to generate for peg-ins that variety of BitVMs.
The Backstop
In the entire instances of any peg utilizing BitVM, there may be one final query: the place do the funds finally go within the worst case failure? There are finally two choices. Both you truly burn the funds, otherwise you put them beneath the management of a verifier. The primary implies that customers’ funds at the moment are destroyed, and everybody holding funds within the peg is now rugged. The second implies that the belief mannequin has shifted outright to trusting a person verifier or group of verifiers in a federation who unilaterally management the funds.
Burning the funds is a non-starter in a mannequin with out a withdrawal throttle, as that may validate the worst-case state of affairs considerations voiced by Taproot Wizards. A constant failure case of operators, no matter parallel or linear, would end in customers’ funds truly being destroyed. The one mannequin this is able to be remotely protected in, can be with a withdrawal throttle; however even then if the operator(s) outlined by the contract have been to vanish or have their entry revoked, the danger of everlasting fund loss would nonetheless exist.
In order that leaves placing the funds again beneath the management of a single verifier or a gaggle of them. Within the occasion of a complete failure of all operators, this is able to enable the verifier(s) concerned within the system to recuperate customers’ funds and make them entire. I don’t suppose that is that dangerous.
Each BitVM occasion is ready up with an n-of-n multisig that handles signing all of the pre-signed transactions concerned within the BitVM contract. The last word root safety mannequin of your entire scheme is {that a} single a type of key holders should stay trustworthy, and refuse to signal a dishonest dispersion of funds, to ensure that the system to be safe.
That very same safety mannequin may be utilized to the place funds go (minus the operator(s)) within the occasion of a complete operator failure. That introduces the danger of a single key being misplaced or not cooperating burning funds although, so you would additionally simply make it a traditional m-of-n multisig.
I see no downside in such a arrange in any respect, it accomplishes the purpose of guaranteeing customers’ funds aren’t irrevocably burned with out making a wild alteration to the belief mannequin. In the end in case you are not a direct participant of the BitVM contract, i.e. holding a type of n-of-n keys your self, you’re nonetheless trusting a federation of some kind. Solely needing to belief a single member to be trustworthy to maintain issues protected is clearly superior to having to belief 3 folks in a 5-of-7 multisig, however it’s nonetheless a type of delegated belief.
Wrapping Up
On the finish of the day, I believe the liquidity crunch challenge recognized by Taproot Wizards is a really authentic challenge. Relying on the particular structure of the peg in query, it may introduce issues from fully burning customers’ funds, to dropping operators’ funds even with out malicious motion, to easily creating an ever rising queue to exit with out both halting deposits or falling again on the n-of-n group to bypass the queue.
It’s not nonetheless, in my view, one thing meaning the concept of utilizing BitVM to safe a two means peg is a basically damaged thought. I believe I’ve laid out variety of ways in which particular implementations may backstop or mitigate the problem, and finally the fact of the n-of-n group present and the potential to push funds in a failure case to a delegated group to deal with withdrawals may tackle the danger of everlasting lack of funds.
As a final observe, the tempo of growth on this house has hit a tempo within the final yr or in order that I’ve by no means seen in my time right here, I believe it is necessary when discussing these developments to step again and hold a peaceful head whereas trying on the discussions that happen over trade-offs and dangers. Sure, public notion is a facet of those conversations occurring in public, however these discussions must be rooted within the purpose of arriving at an correct understanding of the problems at hand. That ought to not take a backseat to attempting to illicit or defend any explicit public notion first.
