Web3 entrepreneur, investor, CBDC inventor and founder of Panther, Bitt, BaseTwo, Fluent and Elementary. Collaborated with UN, MIT and IMF.
I find that most people who follow the financial world have never heard of zero-knowledge proofs (ZKPs), something that I suspect will soon change given their enormous potential for a large number of use cases.
You could say that this technology is constantly evolving since 1985has finally reached a point where it is ready to transform the lives of many, even if they are unaware of its existence.
Let’s take a look at what ZKPs are, how they can affect your business and why I think you should learn more about them.
The importance of zero knowledge proofs in finance
Zero-knowledge proofs (ZKPs) enable secure and private data verification without revealing transaction details. This makes them ideal for use in a variety of financial applications that require privacy, security and compliance, ranging from online economies to advanced financial tools such as dark poolswhere participants can act anonymously without revealing their identity or data.
At the same time, the promise of transparency, security, and user autonomy has led to the growth of decentralized finance protocols (DeFi). DeFi protocols face a host of challenges, including barriers to institutional and enterprise adoption. They also do not suffice in their current form regulatory concerns or the need for user and business data protection, which has been a major stumbling block to their widespread adoption.
I think zero-knowledge proofs offer a solution to these challenges. By enabling secure and private transactions that still meet regulatory requirements, ZKPs can help bridge the gap between traditional finance and emerging financial technologies. In a world where information is super-distributors and trading systems robbing traders of their competitive alpha (in short, the advantage of trading quickly using quantitative tools), the transparency of public blockchains poses an additional problem for those looking for an advantage.
Onboarding companies to a new financial paradigm
The potential benefits of decentralized finance offer many opportunities, and zero-knowledge technology allows businesses and enterprises to take full advantage of them. By integrating ZKPs into their systems, DeFi ecosystems can become friendlier to businesses and vice versa. Even if they don’t participate in DeFi, companies can benefit from ZKPs in the areas of:
• Enhanced privacy. Financial institutions can use ZKPs to protect sensitive customer information and maintain privacy without compromising compliance. ZKPs allow users and systems to prove and verify statements without leaking data on that subject. This enables all kinds of interactions, including IoT/AI agent-to-agent or platform-to-platform, which can then be navigated without the receiving parties retaining any data. This dramatically reduces cybersecurity costs and will revolutionize compliance in finance, one of the largest cost drivers.
• Enhanced security. Zero-knowledge technology ensures that transaction data remains confidential, reducing the risk of data breaches and unauthorized access to sensitive information.
• Regulatory compliance. ZKPs allow institutions to verify transactions and user identities while complying with regulatory requirements such as anti-money laundering (AML) and know-your-customer (KYC) regulations.
• Greater efficiency. Zero-knowledge proofs enable more secure transactions, which can save costs, prevent alpha lapses, and improve operational efficiency for businesses.
Giving a boost to existing systems outside the financial world
Because zero-knowledge proofs can simultaneously deliver compliance, privacy, and decentralization, they can be applied to address challenges in many areas of our lives, both as public goods and for-profit initiatives. Here are just a few examples of these use cases.
Decentralized Identity Services
Enabling a dynamic system decentralized identity can allow individuals to prove their identity or attributes without disclosing sensitive information. Using ZKPs allowed users to communicate securely and privately within the digital landscape, reducing the risks of identity theft or data breaches. Ultimately, digital identity management can become simpler and more secure. Users only need to disclose the minimum amount of data when communicating online.
Port to DeFi with decentralized dark pools
A major problem for financial institutions looking to bridge their capital to decentralized alternatives is their innate transparency. Decentralized dark pools, operated by compliant entities, have the potential to put an end to this problem, ensuring security, privacy and regulatory compliance.
Institutions can trade digital assets privately and securely while still complying with regulations by presenting their trading history, eliminating the risk of money laundering, but providing seamless integration of institutional capital into the DeFi ecosystem.
Protect data when interacting with AI systems
ZKPs can play a vital role in AI and improve privacy, security and trust. By using ZKPs, AI systems can process sensitive data and perform calculations without direct access the underlying information. This enables privacy-preserving machine learning where AI models can be trained on encrypted data, ensuring the confidentiality of user information.
Consequently, ZKPs can promote greater adoption of AI applications across industries where data privacy and security are paramount.
Preparing for a new financial era
As zero-knowledge technology gains traction, compute costs and verification times will decrease and security will improve. I think this will make it essential for investors and entrepreneurs to keep up with the latest developments in this rapidly evolving ecosystem, creating a rush to understand the technology, protocols and implications.
Understanding zero-knowledge technology and the supporting blockchain protocols is essential to realizing the full potential of DeFi for your business and critical to a smooth transition from traditional finance to Web3.
Some solid resources to familiarize yourself with zero-knowledge technology are the Electric Coin Company blog and the zkCapital newsletter. Another excellent resource for learning about privacy in the context of blockchain is the Zero Knowledge podcast.
DeFi dark pools still face challenges such as regulatory uncertainty, technology limitations, and security risks. Overcoming them through cooperation with regulators, technological innovation and robust security measures can further the integration of DeFi dark pools with institutional capital, leading to what I envision as a more resilient and efficient financial ecosystem.