Dec 20, 2022

The Need For Interoperability of Blockchains

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Blockchains are becoming increasingly important as a tool for managing and controlling digital assets. The technology offers unparalleled security, transparency and trust, allowing users to securely store and transfer digital data, such as cryptocurrency, in a distributed and immutable manner.

Bitcoin and Ethereum

Bitcoin was the world’s first and oldest public, permissionless blockchain meant to facilitate peer to peer transfer without the need for an intermediary. But it has its own limitations on the user activity it can handle per block making it too slow for instantaneous exchange of value. Ethereum was launched a few years later as the faster, more efficient blockchain compared to Bitcoin.

With the introduction of composability on Ethereum and building of smart contract protocols for various DeFi applications, the number of use cases grew, and Ethereum's initial design was no longer scalable. In order to relieve the Ethereum Mainnet from data and execution load, many parallel blockchains were built. 

The need for interoperability

In a world where blockchains are becoming increasingly popular and widespread, the need for interoperability is greater than ever. With so many different blockchains in operation, each with its own design implementation, different consensus mechanisms, different coding languages and hence different token standards, crosschain compatibility has become essential in order to facilitate the exchange of value between different blockchains.

Without interoperability, the liquidity of assets is fragmented and the interconnectedness of different blockchains is limited. Lack of interoperability makes it difficult to use the different blockchains and to realize the full potential of the technology. Ultimately bridges were built between these parallel blockchains in order to ease fragmentation of liquidity and allow users to hop from one blockchain to another seamlessly. 

Connecting the real word

In recent years, there has been a growing interest in using blockchain technology to trade real-world assets too. There are a number of advantages to using blockchain for trading real world assets. It can help to reduce fraudulent activities, speed up the process of trading, reduce the costs associated with trading, can provide a more efficient way to track and manage assets, and can create a more democratic and decentralized market for assets.

To connect the real world to blockchain, we need smart contracts that let blockchain know the data from the physical world. Oracles that are feeding real world data to blockchains work on trust. Chainlink is an example of an Oracle network that acts as the bridge between real world data (eg. physical entity) and blockchains (digital entity). However we can definitely do better when we are connecting two blockchains (both digital entities) by building trust minimized or even trustless systems. 

In a nutshell, whenever one blockchain (eg. Ethereum) connects to any other blockchain (eg. Solana), there is a bridge (eg. Wormhole) involved. In that sense, a bridge is a rules based protocol, fundamental for a scaling solution. 

What is a bridge?

Before we define a bridge, we need to introduce another term called ‘Messaging Protocol’ which is the interoperability layer and we can say that two chains are always connected by a messaging protocol. A bridge is an application built on top of this messaging protocol. For example, a token bridge is an application on top of this messaging protocol that allows you to send tokens across chains, an NFT bridge is an application on top of this messaging protocol that allows you to send NFTs across chains. There could be a governance bridge that allows you to vote from different chains. Thus generally speaking, bridges can be thought of as applications built on top of some messaging protocol and the bridges will inherit the security of the messaging protocol. Optimism has an optimism messaging bridge and any token bridge that's built on top inherits the same rollup security. What that means is, going from Ethereum to Optimism would be super fast but going from Optimism back to Ethereum would be super slow (due to seven day challenge window). 

Circle Inc., the organization behind USDC, can also be seen as a bridge between a bank in the US and a blockchain (such as Ethereum or Solana or Polygon), where you deposit USD on one side and receive USDC on the other and vice-a-versa. It's definitely not like the bridging infrastructure that we usually know of. It's more of an Oracle as it's trying to swap a real world entity (USD) into a digital one (USDC). But in some sense it's accepting deposits on one end and giving you other assets on the other end just like a bridge would. 

Blockchain bridges

It is important to note that a simple blockchain bridge is not able to physically move tokens between blockchains. Instead, a blockchain bridge is made up of two smart contracts that hold tokens and a set of rules that determine who has access to those tokens. These two smart contracts communicate with each other through messages with cryptographic signatures. These messages contain instructions for the smart contracts on the destination chain to create or release new tokens, which then completes the transaction. Therefore, blockchain bridges must be able to verify the validity of these messages. 

Coinchange research team has written a long-form research report on the Crosschain Interoperability and Security which will be published in the next few weeks, where we do a deep dive on the the various bridge security models and propose solutions for users to make the right choice while selecting a bridge for their transaction.

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