Bitcoin’s DeFi summer fails to draw in liquidity despite price rally

The expectations of a Bitcoin DeFi summer are clashing with the relatively low numbers. Despite the positive price performance of BTC, side projects attract relatively little value. 

Bitcoin’s chain has not managed to replace either Ethereum or Solana for tokenization, DeFi or other high-output activities. BTC has established itself as a store of value, after recovering its price above $69,000. 

One of the reasons is that newcomers to crypto are drawn in to the relative ease of Solana, or to smart wallets for using Base. Bitcoin still requires a self-custodial wallet. Additionally, the first-comer advantage of Ethereum DeFi means there is no organic liquidity moving into Bitcoin-based protocols. 

One of the reasons for Bitcoin’s lagging DeFi sector are the fees, which rise as high as $5 even on regular days, and often jump to $100 with a big mempool backlog. The other reason is that most DeFi protocols use various forms of consensus synchronization. Bitcoin still uses around 20K nodes worldwide, which have no central coordination and take some time to propagate transactions. 

As a result, Bitcoin DeFi still made an attempt to grow, but stalled with value locked under $800M. More than 30% of that value is carried by the Lightning Network, which now carries $362.3M. However, the Lightning Network does not pay significant passive income, or draw in liquidity. 

Bitcoin lags in L2 projects launches

One of the reasons for lacking a Bitcoin DeFi scene is the lack of L2 chains. For Ethereum, several series of project launches took over the L2 niches. The problem with L2 projects was they were also often backed by VC capital and deliberately created to extract value. 

The most recent Bitcoin Builders conference revived the issue of Bitcoin’s native L2, potentially launching scaling projects. So far, the development of those networks is still at the idea stage, and it is uncertain if it will take off. Merlin is the only functioning L2 project, though it only locks in $654K in BTC value, a fraction of other types of wrapped BTC. The protocol draws in 16,933 BTC.

Even without a L2, Bitcoin has tools for tokenization, including BRC-20 tokens and Runes. Those tools, however, had limited adoption. BRC-20 tokens have a total market cap of just $1.7B and are dominated by ORDI and SATS.

After a boom of BRC20 and other Ordinals transactions, Bitcoin’s chain returned to basic fees for moving BTC coins. On-chain data showed that users moved away from Bitcoin-based tokenization, especially as most retail and speculation moved toward Solana. 

Runes also slowed down, after expanding to a market cap of $1B in total. The project in total was capped at $440M, of which $420M belonged to DOG, the top Rune.

Runes have the advantage of much lower transaction fees, but did not take off due to the effect of Solana meme tokens, which offered similar utility. It attempted to gain attention with tokenized memes, but failed to compete with Raydium and Pump.fun. Runes became the most transacted asset since April, replacing BRC-20 tokens but both slowed down in Q2.

BTC still flows to other chains

One form of Bitcoin DeFi that has existed for years is inflows into other chains, in the form of wrapped BTC. Around 154K BTC coins have been wrapped on Ethereum, in several forms. The size of wrapped coins is similar to one large whale wallet, with the first type of WBTC dominating. Other types include HBTC, renBTC and sBTC on Synthetix, which have much lower supply. 

Another $140M worth of BTC has flowed into the Avalanche blockchain, since the launch of the protocol in 2021. BTC.b was mostly meant for fast transactions and has spread to more than 145K wallets. 

In terms of WBTC, Bitcoin’s participation in DeFi is around $10B, which is half the value locked on Ethereum. In a way, BTC is helping Ethereum’s DeFi the most. 

Bitcoin itself, however, does not offer native staking or re-staking, which is the big advantage of Ethereum. All ETH holders can rely on a form of passive income through staking, leading to a drive to hold onto the token for the long term, while using tokens for short-term speculation. 

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Cryptopolitan reporting by Hristina Vasileva