Bitcoin is about to get an upgrade. Four years ago, Bitcoin went through somewhat of a civil war over its technological limits. Strongly held beliefs about block size, which limits the amount of information that can fit in a block, split the Bitcoin network (BTC) into Bitcoin Cash (BCH), and further into Bitcoin SV (BSV). Since then, the original Bitcoin still reigns supreme, and the others have lagged behind in price appreciation by a great degree. Last month, the Bitcoin network came to an overwhelming consensus when 90% of nodes signaled they are in support of a new upgrade scheduled to go live in November, nicknamed Taproot.
The Taproot upgrade will do numerous things to improve the technological base that bitcoin runs on. Mainly focusing on increased privacy features, it will also improve the ability of the network to run smart contracts, a main feature that has propelled Ethereum to new all-time highs this year as institutional interest in the technology has skyrocketed.
While the average Bitcoin user won’t notice much of a change, the various layer-2 solutions and side chains such as Lightning Network and Liquid will experience massive improvements. Currently, these protocols built on top of Bitcoin are distinguishable from normal transactions on-chain through the need to reveal all the complex rule scripts they run when they interact with the blockchain. Taproot implements an improved signature method called Schnorr signatures which allows those programs to only reveal the exact rules used for each transaction instead of all of them. Ultimately, this allows these complex transactions to appear on-chain in the same way as a normal wallet-to-wallet transaction. Not only does this improve privacy by making it harder to pick out these complex transactions during chain analysis, but it also saves space on the block and increases transaction speed.
These improvements will incentivize developers to build more complex applications on top of Bitcoin, opening up an entire world of possibilities, notably increasing Bitcoin’s ability to participate in the world of decentralized finance (DeFi) which has become the most hyped use case of other blockchains such as Ethereum. DeFi allows your average person to cut out the institutional middleman in the world of finance, giving users the ability to lend, borrow, and participate in countless other transactions that normally require a bank or other financial institution to facilitate. In fact, just last week, Square CEO Jack Dorsey announced his company is already building a DeFi platform on top of Bitcoin.
For investors, this is an important reminder that Bitcoin is an ever-evolving technology still in its early stages. Upgrades to the protocol come with high potential for reward, as well as risk. Any change to the technology could introduce bugs which could threaten confidence in the entire cryptocurrency sphere. This is why these upgrades are highly contentious and infrequent, and why they are thoroughly tested, retested, and audited by developers over and over again before they are deployed and adopted.
How the market will respond is yet to be seen, as bitcoin’s famous volatility tends to react unpredictably to good news and bad news. What is certain though, is that Taproot will massively increase the ability for institutional adoption as it increases privacy, speed, and lowers fees for the more complex interactions these participants would likely be engaging in.
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