Crypto Exchanges Committing To Proof Of Reserves, Will It Build Trust?

The recent debacle of the FTX crypto exchange, coupled with the fiasco that took place with Terra earlier this year, disrupts the level of confidence among the crypto community. The major takeaway from the ongoing crisis might be how centralized crypto platforms and businesses need transparency, which the current regulatory framework lacks in achieving. To regain the shattered trust of the community, the need to put forth transparency among centralized trading platforms and exchanges about their proof-of-reserves arises.

The phenomenon that crypto exchanges should make their proof-of-reserves public gained acknowledgment among the crypto sphere when on Nov. 8, Binance CEO Changpeng Zhao pledged to make the platform’s true reserves audit system public. Once achieved, crypto enthusiasts will be able to get to know the platform’s state of reserves before making any decisions.

Binance CEO’s Tweet Sparks The Proof-of-Reserves Trend Among Crypto Exchanges

While Changpeng Zhao, Binance’s Founder and CEO, was carrying out a deadly blow to his rival, FTX’s Sam Bankman-Fried, he made a peculiar announcement last Tuesday via his Twitter profile: Binance will initiate Merkle-tree proof-of-reserves soon.

A Merkle tree, also known as a “binary hash tree,” is a data structure used in computer applications. In the crypto sphere, the Merkle tree encrypts the blockchain data more securely and efficiently. The centralized ledger or database records a user’s assets in centralized crypto exchanges. 

Employing the Merkle tree will assist exchanges in keeping the user account’s hash value of assets in its “leaf nodes.” A third party will audit those assets in the Merkle tree’s leaf node and verify all the users’ holdings. 

Commonly known as CZ, the Binance founder believes that to avert any future debacle of FTX, proof-of-reserves can be a monumental pathway to reform the crypto industry. It will lead to a more transparent environment to prevent such shallow accounting errors. 

Talking to a large audience at the Indonesia Fintech Summit on Friday, CZ pressed harder on the importance and benefit of the proof-of-reserves idea as regulators keep on tightening their shackles around the exchanges. He said:

That is absolutely going to be where the focus is for the next little while, which is right,” he said. “We have learned from our mistakes.

Although blockchains are public, centralized exchanges such as Binance, Coinbase, and FTX, do not present their userbase with equivalent transparency levels. After employing the Merkle tree, a sort of map holding their customer’s assets would be available for the public to verify.

Exchanges Follow Suit and Commit to ‘Proof of Reserves ‘

The announcement from Binance’s CEO encouraged other renowned crypto exchanges to commit to ‘proof-of-reserves’ in achieving transparency in the following days. 

Since CZ announced Tuesday, other prominent digital exchanges, Gate.io, Coinbase, Bitfinex, Crypto.com, Houbi, and Kraken, followed suit and have submitted their proof-of-reserves.

Interestingly, although Binance initiated this ‘proof-of-reserves’ trend, it did not mention its liabilities.

The crypto sphere has pointed out their discomfort about the absence of liabilities. However, they believe that it can be a good start, but it should not end here; providing evidence of the liabilities of a platform is what is expected. Other crypto exchanges, such as Bitfinex, MexcGlobal, and ByBit, are also among firms that have submitted only their proof-of-reserves and have not announced their liabilities yet. 

Kraken, Gate.io, and Coinbase are among the pioneer crypto exchanges that have made their liabilities and their ‘proof-of-reserves’ public. Crypto.com and Huobi, however, have announced they are compiling their liabilities report and will publish it soon. 

Featured image from Pixabay and chart from TradingView.com