Decentralized oracles help connect off-chain external data and APIs to the blockchain. In other words, oracles provide a framework for smart contracts to access data that is uncertain or unavailable from information on the chain. This data can be anything from price information to weather reports. In this way, oracles act as a bridge between the blockchain and the off-chain world.
Why do you need an oracle
Smart contracts provide a new way to create new decentralized applications (DApps). However, smart contracts generally do not have access to real-world information, such as data on the network, or any data that needs to be obtained through an API.
This is the main obstacle to the large-scale adoption of the entire DApp, as almost all technical aspects require data. For example, decentralized exchanges (DEXs) cannot correctly calculate the amount of collateral required for leveraged trading without access to the underlying asset price.
How oracles work
Oracles act as middleware between datasets and the blockchain. The oracle makes queries to external resources on the blockchain to which it is connected, and the oracle then verifies the required data through its internal security framework and relays it to the requesting blockchain client. This data is actually received by the blockchain through external transactions, which ensures that all nodes connected to the chain share this information to verify the next transaction.
Problems with oracles
The decision of any smart contract execution depends largely on the quality of the data provided by the oracle, which makes the security of the data source critical to the security of the chain, and this is the main problem that the oracle has not yet solved. However, leveraging different types of blockchain oracles can significantly reduce this risk.
Oracles can be centralized or decentralized. The essential feature of the former type is importing data from a centralized database, a typical example is querying real-time data from a website running on an AWS server. This approach often negates the technical advantages of blockchain, as a single entity will control the data provided to the smart contract. However, in some use cases, especially around information from real-world data, the use of centralized oracles is unavoidable.
Decentralized oracles significantly reduce risk. Rather than relying on a single entity to source data, smart contracts query multiple oracles to ensure data validity and accuracy. Each oracle operates autonomously in a decentralized network, jointly bringing off-chain data to the blockchain.
Types of Oracles
In a nutshell, an oracle is only as good as its data source. Therefore, we can differentiate oracle types based on the source of the data, the direction of the information, and the level of trust it represents.
- software oracle
- hardware oracle
- Inbound Oracle
- Outbound Oracle
- Smart contract-specific oracles
software oracle
Software oracles process information originating from online sources on the Internet, such as databases and servers. Since this information is available online in real-time via an API, software oracles can continuously request and feed data. Therefore, software oracles are the most common type of blockchain oracles.
hardware oracle
Hardware oracles are devices such as electronic sensors, monitors, and barcode scanners that translate real-world events from the Internet of Things (IoT) into data on the blockchain. For example, sensors can track the weather and transmit the data to the blockchain.
Inbound Oracle & Outbound Oracle
Inbound oracles enable smart contracts to receive data from the outside world. Instead, outbound oracles enable smart contracts to send data to the outside world. For example, when a blockchain address receives a certain amount of tokens, something can be activated in the outside world.
Smart contract-specific oracles
Smart contract-specific oracles are customized to provide information to individual smart contracts. Although these oracles are expensive to maintain, they serve specific use cases, so they provide a flexible environment for developers where they can customize oracles for certain requirements.
Summarize
Oracles have become an essential part of internal and external communications in open networks. Today, large networks of different oracles support the functionality of many important crypto projects. Without oracles, DeFi projects would have to rely solely on the information available in their network, which would greatly limit their capabilities in a multi-blockchain future, including cross-chain transactions.
For example, Injective relies on a set of decentralized oracles to provide the most accurate prices for the trading market. Therefore, we partner with oracles like Band Protocol and Chainlink to provide a reliable source of truth. It is important to note that even in a decentralized environment, oracles are not completely infallible. Therefore, it is the responsibility of blockchain projects to diversify the oracle network they rely on to minimize the probability of errors. This is one of the many reasons why Injective works closely with multiple oracle providers.
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