Smart contracts are a game-changing technology that can automatically carry out the stipulations of a contract between two parties. However, due to their inability to access data from the outside world, many are now looking into the role of oracles in smart contracts.
If you’ve researched smart contracts or blockchain technology, you’ve probably come across the word “oracles.” Oracles are essential in expanding the functionality of smart contracts outside the blockchain. Now, let’s look at how Oracles aim to help smart contracts.
What Are Oracles?
Oracles are third-party data sources or services that supply data or initiate blockchain-based actions based on predetermined circumstances. Because of their role as intermediaries, smart contracts can now engage with information and occurrences beyond the blockchain. Oracles are crucial in helping smart contracts make judgments and carry out tasks based on real-world data.
Oracles consume data from web APIs or market data feeds that are external and non-deterministic and then transform it into a form the blockchain can comprehend. The role of oracles in smart contracts is to provide data on things like stock prices, sports scores, weather forecasts, and sensor readings, among other things.
Consequently, it aids the blockchain in utilizing external information to carry out specific smart contract criteria. In addition, people use oracles in smart contracts in scenarios involving multi-signature transactions to facilitate agreement on the transactions before signing.
For example, picture a smart contract that automatically initiates insurance payments in the event of agricultural loss caused by bad weather. When specific criteria (such as an unusually wet or dry period) are satisfied, the smart contract automatically executes rewards using real-time meteorological data provided by Oracle.
Types of Oracles
Many kinds of Oracles are available, each designed to meet different needs. Some common types of Oracles include the following:
- Software Oracles
- Hardware Oracles
- Consensus-Based Oracles
- Inbound and Outbound Oracles
Software Oracles
These software Oracles use algorithms and standard protocols to retrieve and verify data from the outside world. Data collected via API calls to websites, databases, or other software systems is an everyday use case for them.
To illustrate, the software Oracle can retrieve stock values from financial websites and feed that information into a smart contract.
Hardware Oracles
Physical devices or sensors called “Hardware Oracles” feed real-world information into smart contracts. Hardware oracles’ primary function is to convert analog signals into digital values that smart contracts may understand.
You can use them in supply chain management and the Internet of Things (IoT). A hardware Oracle may collect sensor data and provide it to a smart contract, such as environmental conditions or location data gathered by GPS or humidity sensors.
Consensus-Based Oracles
When verifying data accuracy from the outside world, these oracles rely on a consensus procedure that includes many data providers or nodes. In addition, they gather and analyze information from several sources to arrive at a single conclusion.
Their intended purpose is to improve safety and dependability. Decentralized networks of nodes are one such example, as they can reach a consensus on data accuracy before anyone uses it in a smart contract.
Inbound and Outbound Oracles
Inbound oracles can relay data from the outside world to smart contracts. These are useful when a smart contract requires information from a third party, such as the weather or shipment location, to respond appropriately.
Outbound oracles have a similar role in communicating with the outside world on behalf of smart contracts. For instance, a smart contract may use an outbound oracle to communicate with a mechanism to deposit funds to a specified address.
The Oracle Problem
The Oracle problem, also known as the blockchain Oracle problem or the “Oracle challenge,” is a severe obstacle in implementing smart contracts that rely on blockchain technology. Most smart contract use cases, including DeFi, necessitate off-chain knowledge of real-world data and events, making the solution to the Oracle challenge crucial.
Therefore, oracles allow blockchains to accommodate a wider variety of digital agreements by providing a uniform access point to off-chain resources without sacrificing the blockchain’s valuable security.
Since blockchains are often inaccessible to other data sources, and contracts rely on someone to execute correct and trustworthy information, the Oracle problem arises. The issue involves integrating data from the real world into smart contracts built on the blockchain securely and reliably.
Additionally, many Oracles are centralized organizations or use a centralized data source, which can introduce a single point of failure and undermine blockchain’s decentralized tenets.
Fortunately, decentralized Oracle networks are available thanks to initiatives like Chainlink and the Band Protocol. These networks rely on a distributed group of nodes to collect, verify, and distribute data from the outside world.
Role of Oracles in Smart Contracts
Due to their inherent blockchain isolation, smart contracts can’t directly access the real world’s data or communicate with other systems without the help of Oracles.
Oracles fill this need by connecting blockchain to external data and events in the physical world. Here’s why we need oracles in smart contracts:
- Data Dependency
- Real-World Triggers
- Decentralized Finance (DeFi)
- Automation
- Enhanced Security
Data Dependency
The proper operation of many smart contracts depends on information from outside sources. For a weather insurance smart contract, for instance, to release payments, it must have access to accurate, up-to-the-minute forecasts. Oracles retrieve and supply this external data to the contract, enabling it to make educated judgments.
Real World Triggers
Stock prices, aircraft delays, and the results of sporting events are all examples of real-world events that can trigger responses in smart contracts. Oracles operate as middlemen, monitoring the happenings and initiating contract execution when the contract meets certain circumstances.
Decentralized Finance (DeFi)
Oracles play a critical role in the DeFi ecosystem by disseminating timely and reliable cryptocurrency, token, and asset price data. The decentralized finance industry (DeFi) applications rely on accurate and timely price information, such as decentralized exchanges and lending platforms.
Automation
Smart contracts are digital agreements programmed to carry out a predetermined series of actions when certain circumstances are met. When anyone meets these conditions, smart contracts can run independently of any human intervention, thanks to the data provided by oracles.
Oracles give access to real-time financial data such as stock prices, currency exchange rates, and more for smart contract wallets. As a result, based on a set of rules, wallets can execute an automatic currency or asset conversion.
Enhanced Security
Oracles can enhance the safety of smart contracts by checking the legitimacy of data from outside sources before you use it in the contracts. If a smart contract wallet has to check an external state or react to an external event, it can use an oracle.
Conclusion
Oracles have been crucial in decentralized economies for a long time, and that hasn’t changed as the blockchain and smart contract ecosystem has developed. They provide an essential link in the chain that allows smart contract wallets to communicate with the broader world of information.
Oracles are an essential part of the blockchain and smart contract ecosystems. Furthermore, over the next several years, their prominence will grow as they undergo additional development in areas such as standardization and security.
