The cryptocurrency industry has become a playground for the dishonest, as evidenced by the actions of the executives and owners of the crypto exchange FTX, which collapsed in November 2022 after widespread fraudulent practices were exposed. FTX did not hold assets in reserve for its customers, or employ💎 third-party 🐎auditors to vet its financial practices, easily fooling its customers that all was well within the once-popular exchange.

This begs the question, could proof of reserves have prevented the e෴xchange from becoming the biggest financial fraud in history?

Why Is Proof of Reserves (PoR) in Demand After FTX 𝓀Collapse?

Proof of reserves is becoming more and more popular, especially with the November 2022 downfall of the FTX crypto exchange and recent comments from crypto exchange Binance about the importance of transparency. It also will become important as regulators look to se♌t industry standards to protect consumers, as proof of reserves is a secure and transparent way to ensure that customer funds are safe.

Understanding Proof of Reserves (PoR)

Proof of reserves is completed by a third-party auditor that creates a snapshot of a♌ll of the company’s balances to show transparent “proof” that the crypto company has enough assets to cover its liabilities at any given time. This gives customers confidence that the crypto company is not at risk of a liquidity crisis, and that customers can withdraw their funds at any tim𓆏e.

Proof of reserves employs a secure data structure known as a 澳洲幸运5官方开奖结果体彩网:Merkle tree (or hash tree), which aggregates the total of all customer balances without exposing any private information. The total aggregate data is accessible via the 澳洲幸运5官方开奖结果体彩网:Merkle root. The Merkle root is the tamper-proof cryptographic fingerprint that auditors can access to verify the balance information. Using the Merkle tree hashing mechanism that underpins blockchain technology keeps the data se𝕴cure and protected from any tampering or hacks.

All of these checks and balances ensure that a crypto company has the 澳洲幸运5官方开奖结果体彩网:reserve assets that it needs to serve all customers, and that 澳洲幸运5官方开奖结果体彩网:liquidity is maintained no mat♛ter the market conditions. 

Concerns About Proof of Reserves (PoR)

Although proof of reserves offers assurance that a crypto company has the assets in place to cover its liabilities, it is only a single snapshot in time, not a live accounting of balances over time. It also only shows the on-chain assets of the custodian; it does not track where those assets comeౠ from (i.e., whether the assets were borrowed f🃏or the purposes of the audit).

Goal of Proof of Reserves

The goal of providing proof of reserves is to offer financial transparency about a crypto company’s 澳洲幸运5官方开奖结果体彩网:balance sheet, especially in regard to customers’ funds. A third-party audit gives consumers confidence that the crypto company they are using has sufficient liquidity to handle day-to-day operations, and more importantly, customer 澳洲幸运5官方开奖结果体彩网:withdrawals.

The Bottom Line

Proof of reserves (PoR) is a step in the right direction for any crypto company, ensuring that customer funds are safe and proving (cryptographically) that the company has sufficient liquidity. As more 澳洲幸运5官方开奖结果体彩网:regulation is introduced for the crypto industry, any crypto exchange or company that acts as a custodian on behalf of their customers would benefit from a proof-of-reserves audit. While the process does have some downsides (such as not tracking company liabilities), it can provide customer assurance and bolster their confidence.