Buterin discusses proof of reserves and what the future holds

Buterin discusses proof of reserves and what the future holds

Following the FTX crash, the need for crypto exchanges to regain user trust is high on the priority list of many stakeholders, including Ethereum co-founder Vitalik Buterin, who published an article by blog on the matter.

Buterin traced the history of reserve proof, discussed the limitations of current methods used by centralized exchanges to show lack of trust, and suggested ways to improve them.

According to him, the need for exchanges to prove their solvency has been an issue since the Mt Gox crash in 2011.

These issues led to discussions in 2013 about how exchanges can prove the total size of users’ deposits and also show that they have enough assets to cover those deposits. This led to the Merkle Tree technique, which is now used.

Buterin Says ZK-SNARKS Can Help Exchanges Prove Their Reserve

Buterin noted that the Merkle Tree method is not completely safe. While good for proof of liability, he noted it was risky for privacy.

Vitalik Buterin ZK Snark
Source: Vitalik Buterin

However, advances in technology mean that there are better ways for exchanges to prove reserves and liabilities, and this is through the use of ZK-SNARK. He wrote:

“The simplest thing we can do is put all user deposits into a Merkle tree (or, even simpler, a KZG pledge), and use a ZK-SNARK to prove that all user balances tree are non-negative and add up to some claimed value.

Buterin also noted that while proving assets by transferring cold wallets to public addresses is simple, it is also problematic. The problems are the double use of collateral and the cost of signing messages to prove control of an address.

Additionally, Buterin explained that exchanges could use plasma and validiums to prevent the misuse of user funds. But it also has drawbacks, like obtaining funds if the operator disappears.

He concluded by saying that while decentralized exchanges have advantages, CEXs can help recover an account if the user forgets a password.

The future of CEX

Buterin further predicted a future where there could be crypto-limited CEXs and half-custodial exchanges that contain fiat but not crypto.

The blog post included contributions from major exchanges such as Coinbase, Binance, and Kraken.

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