The BTC Liquidity War Begins: A Review and Analysis of the Babylon Ecosystem Liquidity Staking Protocol

1. Introduction

Bitcoin has long been hailed as "digital gold," with its strong economic value and security making it the ideal staking asset. However, due to the programmability limitations of Bitcoin, it has been difficult to directly participate in complex DeFi operations in the past. Traditionally, bringing Bitcoin into PoS chains or other blockchain ecosystems often requires wrapping Bitcoin into assets like WBTC through third-party custodial services, a method that not only introduces the complexity of cross-chain operations but also increases trust risks. Recent discussions surrounding changes in WBTC custody have stemmed from these concerns.

The Babylon protocol offers a novel solution to this issue. It achieves a local staking mechanism that does not require cross-chain operations or third-party custody by constructing complex UTXO script contracts on the Bitcoin mainnet. This protocol allows Bitcoin assets to be directly managed and controlled through the Babylon chain, enabling secure integration with PoS chains and generating yields. This approach not only preserves Bitcoin's decentralized characteristics but also addresses the trust crisis present in traditional cross-chain staking solutions, opening up new revenue sources for Bitcoin holders.

2. Bitcoin Staking Demand and the Babylon Protocol

2.1 Liquidity Issues in the Bitcoin Ecosystem

As the highest market-cap cryptocurrency globally, Bitcoin possesses strong economic security. However, due to its decentralized design and limited programmability, Bitcoin holders have faced a major issue over the past few years: how to achieve yield growth while maintaining asset security. Traditional Bitcoin holders mostly adopt a "HODL" strategy, hoping to realize gains through long-term appreciation of Bitcoin, but this strategy does not generate immediate returns and limits Bitcoin's application in a broader decentralized finance ecosystem.

2.2 Security Challenges and Capital Needs of PoS Chains

Unlike Bitcoin, Proof of Stake (PoS) chains provide network security by requiring validators to lock up their crypto assets. This mechanism allows PoS chains to maintain their network security and consensus through staking tokens. However, PoS chains often face challenges in attracting sufficient capital for staking during their initial launch phases. Since the native tokens of new chains typically have low value, it is difficult to attract large-scale validators, making the network's security relatively weak. Additionally, PoS chains usually rely on specific economic models and incentive mechanisms to ensure network security and viability. These challenges limit the widespread adoption of PoS chains, especially in the absence of sufficient capital support.

2.3 The Birth of Babylon: A Bridge Connecting Bitcoin and PoS Chains

The core goal of Babylon is to provide Bitcoin holders with a native, decentralized staking solution by constructing complex UTXO script contracts on the Bitcoin mainnet, while also providing security support for PoS chains. By bringing Bitcoin's economic security into PoS chains, Babylon creates new revenue opportunities for Bitcoin holders while addressing the capital and security deficiencies of PoS chains.

Babylon's innovation lies in its design of a system for remote staking based on the Bitcoin chain. Through complex cryptographic algorithms and script language design, Babylon uses a smart contract known as "Covenant" to lock Bitcoin on the Bitcoin mainnet, and then remotely manages and schedules these assets through the Babylon Chain built on the Cosmos SDK. This way, Bitcoin holders' assets can be securely staked while avoiding the complexities of cross-chain operations and the risks of third-party custody.

3. Overview of the Babylon Protocol

Babylon was founded by Stanford University professor David Tse, a member of the National Academy of Engineering, and is a secure sharing protocol that brings Bitcoin's unparalleled security into the decentralized world, allowing Bitcoin holders to stake their Bitcoin in a trustless and self-custodial manner to provide crypto-economic security for PoS systems. Investors in Babylon include well-known institutional investors such as Polychain Capital, Hack VC, Binance Labs, OKX Ventures, and ABCDE Capital, with a total public funding amount reaching $96 million.

3.1 Core Mechanism and Operating Principles of Babylon

The Babylon protocol provides robust security support for the blockchain ecosystem through its unique architectural design. This architecture is divided into three layers: the Bitcoin network layer, the control layer, and the data layer, each playing an important role in the system and collectively building Babylon's security and efficiency.

3.1.1 Bitcoin Network Layer

The Bitcoin network layer is the foundation of the Babylon protocol, responsible for providing timestamp services for PoS chains. This layer records timestamps on the Bitcoin network, allowing PoS chains to leverage Bitcoin's strong security to prevent potential threats such as long-range attacks. The timestamp service of the Bitcoin network layer not only ensures the integrity and authenticity of data but also supports the execution of staking contracts, including staking, redemption, and slashing functions, through a Bitcoin covenant emulator. The covenant emulator is a daemon program that functions like a virtual machine (VM), providing an execution environment for Bitcoin contracts and hardware, translating contract code into Bitcoin scripts for execution, and ultimately outputting UTXOs to be added to the chain, thereby introducing smart contracts into the Bitcoin network to enhance the network's programmability.

3.1.2 Control Layer

The control layer consists of the Babylon blockchain network, acting as an intermediary connecting the Bitcoin network and Cosmos Hub. In this layer, the Babylon protocol matches Bitcoin staking rights with PoS chains through a market mechanism. The key technologies in the control layer are the Extractable One-Time Signature (EOTS) and Finality Gadget consensus systems, which are used to penalize malicious signers and ensure network security. Additionally, the control layer supports rapid redemption services, enhancing the liquidity of BTC and giving Babylon a significant competitive advantage in the liquid staking market.

The Extractable One-Time Signature (EOTS) is a security mechanism primarily used to prevent double-spending issues. In the Babylon system, if a staker signs two different blocks at the same block height using the same private key, that private key will be exposed, leading to the confiscation of the staker's Bitcoin (BTC) assets. EOTS signatures are based on Bitcoin's Schnorr signature technology, and a block will only be finalized when more than 2/3 of BTC stakers use EOTS signatures on it. This mechanism ensures that stakers participate in governance as required, preventing malicious behavior.

3.1.3 Data Layer

The data layer mainly includes various PoS consumer chains that obtain economic security support from the Babylon protocol. Compared to traditional staking methods, the data layer design of Babylon simplifies the complexity of cross-chain operations while avoiding reliance on third-party custody risks. Through Babylon's Security as a Service model, other PoS chains can outsource their network security to Babylon, thereby enhancing their security and resistance to malicious attacks. In return, these PoS chains generate corresponding yields, providing a source of income for the Bitcoin assets staked on Babylon.

3.2 Comparison of Babylon and Eigenlayer

Babylon and Eigenlayer logically share similar goals of outputting the verification service capabilities of native assets to achieve shared security and economic benefits, but their implementation paths and market positioning differ.

Core Goals and Market Positioning: The core goal of Babylon is to connect the Bitcoin mainnet with other PoS chains, bringing the economic security of Bitcoin, a native asset, into PoS chains to create yields for Bitcoin holders while providing necessary security guarantees for PoS chains. In contrast, Eigenlayer packages the service capabilities of Ethereum validators as a commodity, outputting verification service capabilities to other PoS chains and amplifying the yield capabilities of native Ethereum nodes through the yields of these chains. Therefore, Babylon focuses more on Bitcoin's native assets, while Eigenlayer emphasizes amplifying Ethereum's verification service capabilities.

Security Needs and Market Response: The security services provided by Babylon represent a more rigid demand for other PoS chains. If these PoS chains do not connect to Babylon, they may face criticism for centralization in their custodial methods, which could affect their network credibility. While Eigenlayer also offers security consensus services, it primarily attracts users by amplifying the existing staking yields of Ethereum. Thus, Eigenlayer's market performance relies more on the short-term prosperity of Restaking platforms, while Babylon, with its rigid demand for solutions, has a more stable market outlook in the long run.

3.3 Launch of Babylon Mainnet and Phase One Staking

On August 22, 2024, Babylon officially launched the first phase of its mainnet staking activities. The initial staking cap for the first phase was set at 1,000 BTC, with a minimum staking amount of 0.005 BTC and a maximum staking amount of 0.05 BTC per transaction. Within just 7 Bitcoin blocks, or over 3 hours, the staking cap of 1,000 BTC was reached, with approximately 12,700 users participating in the staking. Due to intense competition, the gas fees on the Bitcoin network surged, with transaction fees reaching over a thousand satoshis per byte at one point.

Before Babylon announced the launch of its mainnet, various LRT projects or platforms in the industry, including Bedrock, Lombard, Lorenzo, Chakra, and pSTAKE, successively announced various staking activities to attract user participation. These platforms offered gas fee reductions or waived gas fees altogether, allowing users to stake BTC through their own portals and receive not only the rewards provided by Babylon but also corresponding tokens or points.

4. Analysis of Representative Projects in the Babylon Ecosystem's Liquid Staking Protocol

Under the framework of the Babylon protocol, several liquid staking protocols have emerged, enriching the use cases of Bitcoin and providing users with diverse sources of income. Below is a review of five representative liquid staking protocols within the Babylon ecosystem.

4.1 Bedrock (uniBTC)

Bedrock is a multi-asset liquid staking protocol founded by the PoS node service provider Rock X. Since its launch in May 2024, Bedrock has become one of the core projects in the Babylon ecosystem due to its innovative staking model and strong technical support. Investors include OKX Ventures, LongHash Ventures, Comma3 Ventures, and Babylon co-founder Fisher Yu. Bedrock supports liquid staking of Bitcoin, Ethereum, and other blockchain assets, providing liquid staking tokens such as uniETH, uniIOTX, and uniBTC.

Users can choose to stake WBTC or FBTC on the Ethereum network, with a third party staking an equivalent amount of Bitcoin into the Babylon protocol. This model ensures the liquidity of Bitcoin while allowing users to earn uniBTC by staking WBTC, enjoying the yields from Babylon staking while also benefiting from other DeFi yields provided by uniBTC.

Bedrock performed outstandingly in the first phase of Babylon's mainnet staking, becoming one of the largest delegators with 297.8 BTC staked, accounting for 29.78%.

4.2 Solv Protocol (solvBTC.BBN)

Solv Protocol enables users to participate in Babylon's staking activities across multiple blockchain networks through its liquid staking token solvBTC.BBN, allowing them to earn corresponding yields. A notable feature of Solv Protocol is its multi-chain integration capability. Users can stake Bitcoin assets into Babylon through Solv Protocol and receive solvBTC.BBN, which can circulate across multiple networks such as Ethereum, BSC, Arbitrum, and Merlin.

Solv Protocol has raised over $11 million, with notable investors including IOSG Ventures, Binance Labs, and Blockchain Capital.

In the first phase of Babylon's mainnet staking, Solv Protocol successfully staked 250 BTC, accounting for 25%.

4.3 Lorenzo Protocol (stBTC)

Lorenzo Protocol focuses on the liquidity finance layer for Bitcoin within the Babylon ecosystem. The project creates a flexible staking model by separating the principal and yields of staked Bitcoin, allowing users to obtain Liquid Principal Tokens (LPT) and Yield Accruing Tokens (YAT) through the Lorenzo platform.

The staking model of Lorenzo is realized by staking Bitcoin or BTCB on the Lorenzo platform, where users receive stBTC at a 1:1 ratio. The yields generated from staking accumulate in the form of YAT tokens, allowing users to withdraw both principal and yields separately at the end of the staking period. This design enables users to not only earn staking yields from the Babylon protocol but also trade these tokens in the secondary market for additional earning opportunities.

Lorenzo Protocol completed a funding round on October 4, 2022, with participation from Binance Labs, though the specific amount was not disclosed.

Lorenzo also performed well in the first phase of Babylon's mainnet staking, staking 129.36 BTC, accounting for 12.94%.

4.4 PumpBTC (pumpBTC)

PumpBTC allows users to stake various forms of Bitcoin assets (such as WBTC, BTCB, and FBTC) on its platform and mint pumpBTC at a 1:1 ratio. PumpBTC collaborates with third-party custodians Cobo and Coincover, entrusting the staked Bitcoin to the Babylon protocol, with yields settled in pumpBTC.

To incentivize users, PumpBTC has also introduced a points reward mechanism. Users can earn pumpBTC through staking and receive additional points rewards by participating in various activities and team modes on the platform.

PumpBTC accounted for 118.4288 BTC in the first phase of Babylon's mainnet staking, approximately 11.8% of the total Bitcoin staked.

4.5 Lombard (LBTC)

Founded in April 2024, Lombard is based on Babylon's cross-chain liquid staking for Bitcoin. The core product of the Lombard protocol is LBTC, a liquidity token for Bitcoin minted 1:1 on the Ethereum chain. Investors in Lombard include Polychain Capital and Babylon Chain.

The operational mechanism of Lombard is very straightforward. Users deposit Bitcoin into the Lombard platform, which are then staked into the Babylon protocol to generate staking yields. Meanwhile, the LBTC tokens minted on the Ethereum chain can freely participate in various DeFi activities, allowing LBTC holders to enjoy yields from Babylon staking while also earning additional yields through DeFi protocols.

Lombard ensures the security of users' Bitcoin assets through a security alliance mechanism and a non-custodial key management platform called CubeSigner. This security assurance mechanism has garnered high trust for Lombard in the market.

Due to intense competition on the day of Babylon staking, Lombard decided not to stake BTC into Babylon temporarily and instead allocated the saved fees to ecological development.

4.6 SatLayer

SatLayer focuses on liquidity restaking and does not directly deposit Bitcoin into Babylon but provides users with more earning opportunities through restaking. Through SatLayer, users can restake Bitcoin and various Bitcoin liquid staking tokens (such as Lombard's LBTC, PumpBTC, SolvBTC, etc.) to earn additional yields. SatLayer offers users a tool to use Bitcoin as a universal security layer, protecting various decentralized applications or protocols through Bitcoin Validated Service (BVS).

SatLayer completed a $8 million pre-seed round of financing in August 2024, led by Hack VC and Castle Island Ventures, with participation from notable investors such as OKX Ventures, Mirana Ventures, and Amber Group.

SatLayer launched its first deposit activity on August 23, 2024, quickly exceeding the 100 BTC cap and ultimately reaching a staking volume of 133.35 BTC, with 74.4% being uniBTC, 12% solvBTC.BBN, and 11.8% LBTC.

5. Risk and Opportunity Analysis of the Babylon Liquid Staking Protocol

The Babylon liquid staking protocol not only provides Bitcoin staking yields but also brings innovative security support to the entire blockchain ecosystem. However, this emerging field presents both opportunities and risks.

5.1 Opportunity Analysis

1. Growing Demand for Bitcoin Liquidity: With the expansion of the DeFi market and the increasing yield demands of Bitcoin holders, the liquid staking services offered by the Babylon protocol are expected to see greater market demand. Particularly against the backdrop of PoS chains facing security and capital challenges, Babylon's "Security as a Service" model can provide critical support for these chains, further driving their market expansion.
2. Ecosystem Expansion: The unique design of the Babylon protocol allows it to attract numerous liquid staking protocols and PoS chains to join its ecosystem. As more protocols and chains connect to Babylon, the entire ecosystem will become more diverse and robust. This ecological expansion can not only increase Babylon's market share but also enhance its technological influence and market position.
3. Catalytic Effect on the BTCFi Market: The launch of Babylon is expected to have a significant catalytic effect on the long-dormant Bitcoin ecosystem. It can not only drive existing CeFi-dependent projects to upgrade their technology towards decentralization but also bring direct commercial vitality to BTC Layer 2 PoS chains, accelerating the accumulation of TVL for these chains and promoting the diversified development of DeFi yield farming. This multi-layered impact will help enhance the overall vitality and sustainability of the BTC ecosystem.
4. Prospects for Cross-Chain Integration: As the blockchain world gradually trends towards multi-chain and cross-chain, Babylon's architectural design gives it a first-mover advantage in this area. It can provide security and liquidity support for multiple blockchains, making it a key infrastructure in the cross-chain ecosystem. In the future, with the emergence of more cross-chain protocols, Babylon is expected to play a more important role in this trend.

5.2 Risk Analysis

1. Technical Risks: The Babylon protocol involves complex cross-chain operations and cryptographic technologies. Although it ensures a high level of security through Bitcoin timestamps and the multi-signature mechanism of the control layer, there are still potential technical risks. For instance, vulnerabilities in smart contracts, failures or malicious exploitation of signature schemes could lead to the loss of staked assets. Additionally, the complexity of the Babylon architecture may lead to system performance issues under high load, affecting user experience and asset security.
2. Economic Risks: The essence of liquid staking is to provide yields while maintaining asset liquidity, a model that relies on continuous market growth and ongoing user participation. However, market volatility, reduced staking yields, or the emergence of competing protocols could lead to user attrition. Furthermore, as more assets flow into the Babylon ecosystem, staking rewards may gradually decrease, weakening user participation incentives.
3. Decentralization Risks: Although Babylon emphasizes decentralization in its design, in practice, staking resources may become concentrated in a few large nodes or service providers, reducing the degree of decentralization. This could not only weaken the system's resistance to attacks but also raise market concerns about the security and fairness of staking.
4. Asset Management Risks: While Babylon provides security support through the Bitcoin network, its control and scheduling depend on the Cosmos SDK chain rather than being directly controlled by the Bitcoin main chain's script programs. This means that Babylon is still somewhat constrained by the realm of "asset management." For BTC Layer 2 chains relying on Babylon for security consensus, this may imply a weakening of sovereignty, thereby limiting the ecological complexity and independence of these chains.

6. Conclusion and Outlook

As an innovative blockchain solution, the Babylon liquid staking protocol not only provides Bitcoin holders with new revenue avenues but also brings much-needed security guarantees to PoS chains. By implementing remote staking for Bitcoin through its complex UTXO script contracts and Bitcoin timestamp services, Babylon overcomes the limitations of traditional staking methods. The Babylon ecosystem has given rise to a number of liquid staking protocols such as Bedrock, Lombard, Lorenzo, Solv, Pump, and SatLayer, offering users BTC LST/LRT and richer earning opportunities. However, the Babylon ecosystem also faces risks in technology, economics, and compliance, which may impact its long-term market performance and user trust.

In summary, the Babylon protocol provides a powerful tool for the collaborative development of Bitcoin and PoS chains. Its success not only sets a new benchmark for the development of blockchain technology but also offers more possibilities for the future development of Bitcoin, serving as an important starting point for the revival and growth of the market. As more technically robust projects join this market, the future development of the BTC ecosystem will become richer and more diverse. The Babylon protocol is expected to play a key role in this process, leading the first wave of BTCFi yield farming and bringing new growth opportunities to the BTC Layer 2 market.