Digital Nugget: Zero Knowledge – catalysing growth and unlocking new use cases
Applying zero-knowledge cryptography to blockchain projects may be the most important innovation since the successful realisation of distributed ledger technology.
Protocols based on Zero-Knowledge (ZK) proofs have been attracting a great deal of attention recently. Two highly anticipated launches focused the crypto market on new opportunities with this technology: zkSync’s launch of their smart-contract-compatible, zero-knowledge-based scalability solution, and Polygon’s launch of their zero-knowledge-based identity solution.
Zero-knowledge proofs were invented by MIT computer scientists in 1985. They solve the problem of verifying the truth of a piece of information without revealing the information itself, which is extremely valuable when it comes to sensitive financial data or personal information.
zkSync daily transaction
Source: Sygnum Bank
Privacy coins
The first use of zero knowledge in crypto was to create truly anonymous blockchain protocols after concerns that Bitcoin was not sufficiently private.
Zerocoin and Zerocash were two protocols proposed in 2013 as extensions of Bitcoin. After the Bitcoin community’s rejection of the proposals, they launched as independent protocols: Zcoin (now Firo) and Zcash. Leading privacy coin, Monero, also incorporated zero-knowledge technology in 2017.
While preserving anonymity and creating truly private cryptocurrencies are powerful applications of the zero-knowledge technology, institutions are averse to using privacy coins due to the regulatory risk. As a result, this application of zero-knowledge proofs created a niche rather than catalysing growth.
Scalability
As the crypto industry worked to resolve the challenge of scalability, zero-knowledge technology emerged as one of the solutions for data compression, since transactions are processed off-chain and verified through zero-knowledge proofs.
There is still a lot of research going on to fine-tune the technology and balance futureproofing (e.g. quantum resistance) with the degree of improvement in scalability. The first zero-knowledge-based scalability protocol that is compatible with Ethereum smart contracts launched this year, and zero-knowledge is catching up with the hitherto-dominant scalability solution, the so-called ‘optimistic rollups’, by offering better security.
Identity
With zero knowledge as one of the methods, the emphasis on scalability refocused attention on the technology and spurred innovation for new applications, such as decentralised, privacy-preserving identity solutions. Zero-Knowledge proofs used in combination with decentralised platforms make information about identity auditable, traceable and verifiable while allowing individuals to maintain privacy and control data sharing.
Using zero-knowledge proofs can open the way to meaningful growth for decentralised lending to real-world corporations and individuals by verifying identity as well as relevant financial data for credit assessment.
Another subset of proving identity for interacting with decentralised platforms is verifying that the user is not a bot.
KYC
An important use case for decentralised identity solutions is applying it for know your customer” (KYC) and anti-money laundering (AML) checks on decentralised platforms. Zero-knowledge technology can solve the conundrum of privacy vs. regulatory compliance.
Proof of reserves and other audit functions
Zero-knowledge technology can also allow centralised finance (CeFi) entities serving the crypto market to provide proof of reserves, safety of user funds and asset/liability matching without disclosing confidential information. Projects such as zkSync are working on solutions in these areas.
In a broader sense, zero-knowledge technology has the potential to catalyse the growth of a decentralised audit sector within the crypto market.
Data attestations
Zero-knowledge proofs can be used to verify data from on-chain and online sources in a privacy-preserving manner. The proof can then be utilised by decentralised applications for access control, collateral verification or reputation curation.
Supply chain management
Supply-chain management has long been expected to become an important application sector for decentralised, trustless technologies, but it has not yet materialised.
Applying zero-knowledge solutions can solve the problem of simultaneously enabling privacy and traceability.
Escrow
As escrow fees can be quite significant, this creates another opportunity for decentralised platforms to deliver a low-cost solution. Zero-knowledge proofs can unlock this opportunity.
Other
Further applications of the technology are already being experimented with, while others are yet to be conceived.
For example, decentralised platforms with zero-knowledge proofs could be used to preserve the integrity of voting.
Summary
Zero-knowledge technology used in combination with decentralised platforms has the potential to catalyse significant growth for certain sectors of the crypto market, such as decentralised finance, as well as launch entirely new sectors.
Some of the opportunities are:
Zero- knowledge- based identity solutions, which can unlock growth in DeFi lending to real world entities
Zero- knowledge based KYC/AML solutions that can help institutional involvement with decentralised finance to take off
Decentralised audit that may emerge as a new sector – which would also make interactions with centralised entities safer
With notable innovation taking place in this area, we have seen some important solution launches recently, and we expect to see further exciting developments soon.
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