What are Oracles in Blockchain?

What are oracles?

This word probably brings to mind ancient civilizations, when deities communicated with the earthly world through messages known as oracles.

However, in the blockchain environment, this word takes on a somewhat different meaning, although it is closely related.

Just as oracles in ancient times enabled communication between two worlds, a blockchain oracle establishes communication between a blockchain network (and the smart contracts hosted on it) and the external world.

‍

But why are oracles important?

Well, to answer this question, it is necessary to understand, in broad terms, how smart contracts operate on blockchain networks.

A blockchain network, in simple terms, is a database shared by a group of users who store the information it contains on hardware devices.

The only way this database can introduce new information is through majority consensus and a series of protocols that ensure it remains unaltered.

On the other hand, a smart contract is nothing more than a set of computer instructions stored in this database. It is designed to generate a result (output) from certain information (input data).

For example, we can program a smart contract on the Ethereum blockchain to purchase 5 ethers once block number X is mined.

However, smart contracts have a limitation: on their own, they can only interact with the information contained within the network in which they are programmed (they only understand the digital world).

And this is where oracles become relevant.

An oracle is a piece of code that acts as a bridge between a blockchain network and the outside world. In other words, it allows any information that can be shared to enter the blockchain: platforms, databases, other blockchains written in different languages, and any data source we can imagine.

For example, thanks to an oracle, we can program a smart contract to purchase ether when its price reaches $1,500. The oracle will access a data source that tells it the current price of ether and inform the smart contract, which will then execute the programmed purchase.

Oracles are involved in most current smart contract use cases, making them an essential component in the development of this technology.

However, oracles are not without issues. If the source of information they rely on is corrupted, or if communication between the oracle and the blockchain network is manipulated, the smart contract will also be compromised, as it will be acting on incorrect information.

This means that the smart contract will generate a response based on information that likely does not correspond to what should have been generated using the actual data.

Let’s look at some examples.

Let’s imagine we program a smart contract on the Ethereum network. In it, two participants, Alice and Bob, place a bet.

Both parties lock up a certain amount of money (represented in cryptocurrencies) and agree to send it to whoever correctly guesses the price of Bitcoin on January 1, 2023. If it exceeds $50,000, the funds will be sent to Alice. Otherwise, they will be sent to Bob.

Thanks to the oracle, our smart contract can access a database that indicates the price of Bitcoin at a given time (for example, imagine our oracle connects to the CoinMarketCap platform, a well-known website for checking cryptocurrency prices).

Or rather, the oracle will access this database and inform our smart contract of the results it obtains.

In this case, if the CoinMarketCap platform were to suffer a hack that altered the price it reports for Bitcoin, the oracle would provide our smart contract with erroneous information, which could result in the losing party receiving the funds unlawfully.

On the other hand, it should be noted that oracles are also susceptible to what are known as man-in-the-middle attacks, in which data is modified in the flow between oracles and smart contracts.

One solution to this problem is to decentralize the oracles.

This does not eliminate the trust problem, but it does diversify the risk.

An example of a decentralized oracle that is widely used today is Chainlink, a service that runs on the Ethereum blockchain and other EVM-compatible networks.

Chainlink allows users who request its services to use its oracles, which incentivizes honest behavior. To do so, once Chainlink receives a request, it assigns the task of verifying the required information to one or more of its oracles based on certain characteristics defined in the request. In simple terms, the more reputation an oracle wants to gain within Chainlink, the more reliable data sources it must consult when reporting specific information.

Another example is the platform Augurplatform, which serves as a prediction market for placing bets. On this platform, participants are incentivized to share information about real-world events in order to act as a decentralized oracle.

Finally, it is worth noting that oracles can connect not only to shared data sources in the cloud (software oracles), but also to physical devices that have built-in technology capable of sending information through an API.

For example, in the food supply chain, food can be monitored by a sensor that records its temperature at all times and communicates it to a smart contract through this oracle, enabling it to act accordingly.

‍

Conclusion

Oracles are also born from the philosophy and values of blockchain technology, empowering individuals and giving them the opportunity to provide information about a specific event in exchange for rewards, while contributing to greater decentralization and security across the entire data network (oracle network).

Anyone can become an oracle and earn rewards for doing so. Decisions will no longer necessarily be in the hands of centralized organizations with significant decision-making power.

In this regard, and as you can imagine, if we want to unlock the full potential of blockchain technology in any industry or sector, we will need reliable sources of information that allow us to link the analog world with the digital world. Otherwise, we would be faced with extremely limited processes and blockchain-based applications, since the vast majority of events and activities take place in the physical world.

In short, oracles are tools without which blockchain networks and smart contracts would see their functionality greatly limited due to their inability to interact with the outside world. They are considered one of the key elements for the optimal functioning of applications developed on decentralized networks.