Wondering what are blockchain oracles? What are centralized and decentralized oracles? What makes them different? Which one is better? This article will provide answers to all your questions.
Table of Contents
- What is Blockchain Oracle, and Why Do We Need it?
- Centralized Vs. Decentralized Oracles: Which is Better?
- How Oracles Help DeFi Protocols
- Concluding Lines
What is Blockchain Oracle, and Why Do We Need it?
Blockchain oracles are known to be third-party services that enable smart contracts to send data from outside their network. This is because smart contracts are unable to access external information. Such oracles allow smart contracts to access data in real-time, which is not available on the blockchain network. Oracles act as data sources, but actually, they are not. Basically, they are layers that verify on-chain data and then submit the aggregate data to smart contracts.
Blockchain oracles are vital as they have the potential to expand the scope in which smart contracts can operate. In simple words, we can say that they provide a link between off-chain and on-chain data. They facilitate communication between smart contracts and the outside world hence vital for the global adoption of blockchains.
As the oracle landscape is evolving, there is an active trend from centralized oracles to decentralized ones.
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Centralized Vs. Decentralized Oracles: Which is Better?
Blockchain oracles can be categorized based on various factors, including source and direction of information and the degree of trust. Many companies and businesses that consider VCP implementation struggle to choose between two types of oracles. This decision is crucial mainly for an operational perspective. Let’s see how both types of oracles differ.
Centralized oracles act as a single entity that provides data from an external source to a smart contract operating with a set of security features. Such oracles are controlled by a single entity and the only provider of information for smart contracts. Since it works similarly to the traditional financial system where a single entity is responsible for everything, it suffers from a bottleneck problem, or we can say a single point of failure. These oracles have a simple architecture with lesser investment in terms of infrastructure and maintenance. Although they provide protection against game theory attacks, these are still prone to vulnerabilities to being corrupted and attacked.
Decentralized oracles do not rely on a single source of truth; thereby, such oracles increase the authenticity of the information provided to smart contracts. Unlike centralized oracles, such oracles rely on multiple external sources and aim at achieving trustlessness. It utilizes the ShellingCoin mechanism, where all the independent sources report the data without coordinating with one another. But this mechanism is vulnerable to various problems like collusion between parties, signaling, and even bribing.
Such oracles are considered to be ideal for businesses with multiple plans running at different times but require higher investment in infrastructure and maintenance.
Now to state which is better, remember that decentralized oracles are faster in operations, but they are insecure. Centralized oracles, on the other hand, are slower but secured. Thus, this is the reason why many of the DeFi applications choose to run on centralized oracles while others on decentralized oracles.
DeFi Protocols Running Oracles
Decentralized Finance takes the promise of blockchain a step further and aims to transform traditional financial products into trustless and transparent protocols that run without involving any intermediaries.
Various DeFi protocols run decentralized despite the fact that such oracles are insecure. The DeFi ecosystem needs decentralized oracles because centralized oracles go against the ethos of DeFi applications and products. Such applications and products discourage using centralized oracles as their oracle of choice because of the fact that they are comparatively much slower.
Several known DeFi protocols such as Compound, MakerDao, Uniswap, and Aave use Oracles for fetching external data while running on the Ethereum Blockchain network.
MakerDAO utilizes oracle to determine the price of assets in real-time. What oracle does is it sends price updates periodically to an aggregator that defines a median price, which can then be used as a reference price on the platform. Similarly, Compound uses oracle to gather information about the price, which is then forwarded to its price feed, managed and controlled by administrators.
Thus from the above discussion, it is clear that decentralized oracles are a must for the DeFi ecosystem. But Blockchain developers and experts have to figure out the problems associated with oracles. The well-known ‘oracle problem’ ( trust conflict that centralized third-party systems bring to smart contracts) and lower latency rates are the major risks of running oracles on a blockchain.