In these current times the clarity and safety of the information with pricing are important to the end users who trade cryptocurrencies on exchanges and other decentralized financial platforms.The required safety and transparency is provided by blockchain oracles, which help third-party data providers to supply real-time data on the pricing to DeFi protocols.
DeFi protocols can be used by multiple entities simultaneously to build a service or an application.
Blockchain Oracles
Blockchain has the ability to change the world. But, it requires an ecosystem where it can communicate with other services and solutions effectively and easily.
Blockchain oracles let blockchain reach its true potential.
Blockchain oracles are third-party service providers. They provide external information to smart contracts and act as a mediator to connect the applications and services which are out of its reach with blockchain.
To talk in technical terms, a blockchain oracle is a layer of solution that verifies, queries, and authenticates data sources which are outside the network. After it finishes the operations, it then sends that information.
The data sent by the blockchain oracle can be any data that is of value. For example, the healthcare system could be requesting any data which is related to insurance using the oracles. If you take an example of a food industry, it will want to send the information about the food supply chain.
After getting to know about what blockchain oracles are let us skimm through the types of blockchain oracles.
Types of blockchain oracles
The blockchain oracles are mainly classified into three types:Source – The origin of the data. Is it hardware or software ?
- Source – The origin of the data. Is it hardware or software ?
- The direction of data – Is the data outbound or inbound?
- Trust – Does the data come from decentralized or centralized solutions?
1. Source
Software oracles: The oracles that take information from online sources, and send the information to the blockchain. Online data can come from any source, including websites, servers, and online databases. THe web is being used as a source of information.
Software oracles come handy when it comes to supplying supply chain information to smart contracts in real-time. Other key use-cases for oracles, including digital asset price, real-time traffic information.
Hardware oracles: Oracles that interact with the real world using an interface. This means if a smart contract needs a connection to the real world, it can do it with hardware oracle. Now, if a smart contract needs to send data from scanners or electronic sensors then you would be needing a hardware oracle.
2. Direction of information
Inbound and Outbound Oracles: Inbound oracles are oracles that are controlled by a single entity. This means that they are sole providers for providing information to the oracle. By using centralized oracle things get tricky as centralized oracle effectiveness is not that great when compared with decentralized one.
For public blockchains decentralized oracles are more effective. There is no centralized authority here that controls the oracles, which means the data has multiple sources of truth. The information is transmitted using decentralized oracles can be verified and trusted.
3. Trust
When it comes to trust one needs to know from where the data is being transmitted.
Centralized oracle gets the data from a data provider and can also receive from multiple data providers which are controlled by an entity. This raises eyebrows if there is a single point of failure, this implies that centralized oracles are not likely to be exposed to haks and vulnerabilities.
And decentralized oracles send information into smart contracts and receive or obtain information from a number of data providers. The decentralized oracles rely on a number of sources increasing the trust and the data can be depended upon which is provided to the smart contracts.
Oracles are intermediaries that ensure trust in the DeFi ecosystem.
Oracles in DeFi ecosystem
With the DeFi ecosystem, decentralized orales are primarily used, as using centralized oracles goes against the ethos of DeFi products or applications. DeFi applications are financial tools that are built on a blockchain.
The TVL or the total value booked in DeFi is the total balance of Ether, Bitcoin and ERC-20 tokens held in the smart contracts of DeFi applications. The quick growth in TVL from $675 million at the start of 2020 to past $7 billion in the third quarter is an indication of the blockchain oracles have in DeFi. The effect can also be seen in the exponential year-to-date returns on investments in the tokens of major decentralized oracle providers Chainlink and Band Protocol when compared with Bitcoin.
The hybrid DeFi protocols which are gaining popularity offer decentralized networks while eliminating volatility, operate by connecting crypto assets to conventional financial instruments, specially those that are pegged to the U.S. dollar.
Blockchain oracles in the near future
As the blockchain oracles serve as a mediator between the blockchains and external data providers a question arises regarding security as it is the key aspect when examining whether the oracles may go mainstream or not.
As it is a mediator there can be man-in-the-middle attacks in which the attacker can gain access to the data flow between the oracle and the contract can be a security threat to the oracles.
The use cases decrease with the smart contract, the use cases for it decrease because they depend on the data in the same blockchain network. Oracles allow the interaction between the external data and providers and the smart contracts which enhances the dependability and clarity of the decentralized finance protocols serving as a bridge between the DeFi protocol and dependable external data providers.
