Decentralized systems rely on the role of blockchain oracles for smart contracts to interact with data from the so called off chain real world. Blockchains are secure and self contained, but they can’t access external information. Good news, there’s an application out there to fill in this data gap: Oracles. Oracles provide data to smart contracts that allows smart contracts to perform truly complex operations like price feeds for decentralized finance (DeFi) apps, weather data for insurance contracts, and much more. In this article, we will dive into how blockhain oracles work, the benefits of blockhain oracles and the challenges they face in improving blockchain functionality.
Blockchain Oracles: Bridging the Gap Between Blockchain and Real-World Data
Decentralized networks rely on blockchain oracles to serve as the intermediaries that link blockchains to real world data. Since blockchains are inherently closed systems they cannot themselves just access external data. This problem is solved by oracles – the services that feed smart contracts on blockchains with real time data, whether that’s price feeds, weather reports, sports results or other data required to perform automated processes. As such, oracles are needed to permit smart contracts to interface with the existing world, and make it possible to implement diverse and meaningful applications such as decentralized finance (DeFi), supply chain and more.
How Blockchain Oracles Work
Blockchain Oracles are built to pull, authenticate and communicate real world data to blockchain smart contracts. There are software and hardware options; software based fetches the data from the online sources (e.g API) while hardware based fetches the data from physical sensors (e.g temperature readings). In the case a smart contract needs external data to be trigger, then it queries the oracle. The smart contract requests the data required, the oracle fetches the desired data, validates it, and takes it back to the smart contract so that the smart contract can execute its actions. For instance, a DeFi application may employ a price oracle to fetch real time cryptocurrency prices and transactions or loans or liquidations will be made accordingly as per live market data.
Benefits and Challenges of Blockchain Oracles
Smart contracts are restricted to only being able to implement algorithms written by developers, but building on what we learned with prediction markets, blockchain oracles can change this and open up a huge range of possibilities. They enable decentralized applications (dApps) to perform access to external data to engage in real world use cases on the block chain. In DeFi, oracles are very powerful because the data they give for market prices or interest rates has to be accurate and in real time, otherwise it is unfair and the system is inefficient. Oracles can also be used in other industries, such as insurance (e.g. automatically triggering payouts when weather conditions allow), or supply chain management (e.g. verifying the origin and conditions of product before they’re to be shipped).
But blockchain oracles have their problems — specifically the 'oracle problem' — which essentially amounts to leaning on a third party for offering the data, creating potentially dangerous vulnerabilities. As a trustless system, blockchains rely on oracles to provide them with data from external sources, and if the data is false or outdated or manipulated, that’s a point of failure your blockchain should defend against. Decentralized oracles such as ones that use multiple data sources and a consensus mechanism to increase the probability of an event occurring or not occurring so you minimize the risk of single point of failure.
Conclusion
Blockchain oracles are necessary tools to relieve the blockchains from the complications of bridging blockchains to the real world, and let smart contracts obtain external data and perform more complex operations. Without oracles, the use cases for blockchain technology are limited to quite simple use cases, such as digital currencies and digital gold or digital Bitcoin. Now, with oracles, real time information is made available, which empowers and enables many more use cases in what we will call DeFi (decentralized finance), which includes things like mortgages, insurance and supply chain management. However, while challenges such as the 'oracle problem' persist, developers are finding ways to create decentralized oracles that can help solve these problems, ultimately ensuring that oracles are much more influential as blockchain applications evolve.
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