Over the past few years of speaking with people new to cryptocurrency I’ve noticed a common theme, most people hit difficulty once we start talking about how an “imaginary” currency can have value. I’m sure everyone has heard the arguments, “It’s just computer data”, “It’s not backed by anything”, etc. With Chainlink gaining popularity quickly after support from enterprise giants like Google, Oracle and Coinbase, many new people are starting to ask about it. I feel it’s time to address the big question on everyone's minds, what gives Chainlink value?
First a brief introduction on what Chainlink is. Chainlink solves the “Oracle Problem” which simply put is the fact it is difficult to get data into decentralized blockchains in a non-centralized way. This is perhaps the most important problem in blockchain. Without a secure and reliable way to get data into Smart Contracts running on blockchains, the security and reliability of the blockchain and thus the advantage of the entire system is lost. Imagine you are a bank issuing a contract on a blockchain worth $100M that is transferred/sold based upon some input condition, would you have this contract that is being verified and secured by 1000s of blockchain nodes have its actions depend on a single data source? Absolutely not, that defeats the entire purpose of blockchain. That’s where Chainlink comes in. Developed with some of the brightest minds in the crypto space in Cornell’s IC3 group, it offers the industry leading way to provide secure, decentralized data to Smart Contracts so that $100M contract is not relying on a single, fallible, hackable data source.
Now back to our focus, value. Traditional blockchains, like Bitcoin and Ethereum derive their value through mining. This mining value is based on the same principles of scarcity and cost as mining rare metals. There’s many good articles on that and I suggest you read them, but Chainlink’s value proposition is fundamentally different… You see, Chainlink is not actually a blockchain, it is middleware for blockchains. It does not gather value from mining on a blockchain it gathers value from ALL blockchains that use it.
This is a very important property of middleware and platforms. Let us consider the Apple App Store. The App Store is a platform, it is middleware, Apple does not sell many apps of their own, rather they provide a service for others to sell their apps. As a platform, they make profits off of ALL apps and not just a few they produce themselves. Chainlink operates on this same principle, it does not offer any of its own data, it is not its own blockchain, rather it offers a simple, secure and decentralized way for others to offer their data and in doing so, value from of ALL of that data is added to the network.
Now this is all well and good, it’s easy to see how Apple profits by taking a percentage of all apps but you’re probably asking how Chainlink captures the value of the data being exchanged on it since the Chainlink team does not charge a percentage to use their network. This is where the token comes in. When you purchase LINK, you are purchasing a token that is used by others to buy data for their Smart Contracts. This token simply is a secure digital representation of a cash equivalent since we cannot exchange cash on a blockchain. The cash equivalence is determined by its market price on exchanges like Binance and Coinbase. This token is what is used to purchase data on the Chainlink network, users need to buy the token on exchanges to be able to buy data for their contracts. There is a fixed amount of tokens, the more people buy, the more price goes up. This is simple economics 101. Easy. This is the first pillar of LINK’s value, Supply and Demand.
So what is this data people are paying for? Maybe something simple and low value like the temperature in NYC right now or maybe mission critical data that determines if your flight insurance gets paid out or the result of a $100M financial contract. Chainlink covers both low and high value data. For the high value data we arrive at the second pillar of what gives the LINK token value, data providers need to buy LINK to use as Collateral.
If I am someone with a $100M contract, am not going to trust just any data provider on the Chainlink network. I am going to want to aggregate from multiple data providers and I am going to want some kind of guarantee from them that their data is accurate. Chainlink accomplishes this through a staking system where data providers offer guarantees on their data through collateral. A data provider can say here’s my data, I guarantee it’s accurate and I’m willing to put $1M worth of LINK tokens behind that statement. A data source willing to guarantee their data with $1M in LINK will be seen as much more trustworthy than a data provider only offering up $10k as collateral. This collateral is “staked” in the Chainlink network meaning it is locked up in a Smart Contract and cannot be accessed until the data provider chooses to stop providing data. This creates a very powerful value feedback loop. I call this third and final pillar Staking Synergy.
If I want to sell my data, I need to be more trustworthy than other data providers and thus need to stake more LINK tokens, so I buy more LINK and stake them. This both increases the demand because of my purchase and reduces the supply because what I stake is removed from circulation. Others now need to buy more LINK to stay competitive with me, further increasing demand and reducing supply. Eventually this feedback loop reaches equilibrium at a point where it no longer makes financial sense to purchase more tokens. If my data is only worth $100k it might not make sense for me to buy more than $10k worth of LINK to stake as collateral. Even non-data providers can benefit from this since there are staking services popping up for Chainlink which allow LINK holders to loan their tokens to people operating data nodes in exchange for a portion of the profits. These staking systems are effectively high interest savings accounts, which will see returns upwards of 5%, a very competitive rate. This gives people yet another reason to want to own LINK.
Around this point the big picture should be starting to click in your mind. A limited number of tokens, demand to buy them for use, demand to buy them as collateral, passive income generation and a competitive system which encourages taking them out of the supply and locking them up in contracts. So the next question you should be asking is, well how much is going to be staked?
To answer this we should first start investigating how much value will be on the network since the value of the staked collateral is directly dependent upon how much value it is insuring. Let’s look at the insurance market, a market commonly believed will be an early adopter of blockchain. Net premiums written totaled $1.2 trillion in 2017 in the US alone… Let’s start small, let’s say only 5% of that makes it on to the blockchain. Now let’s say we need to have 5% collateral for those high value contracts. This results in a total value of $3B in collateral needed. The current value of the entire 350M LINK in circulation is only $1.2B… Are you seeing what is happening here? The LINK token needs to increase in value tremendously in order to be able to act as collateral for contracts using it. Remember, this was just the US, just 5% of the market and just insurance. This does not include the Trillions in the global Insurance market, the Trillions in the global financial market, the Trillions in healthcare, etc. Chainlink captures value from all of this. Anything that is on a blockchain and needs data about the real world, Chainlink can capture the value of that data in its network.
Let us not forget the value offered to the enterprise data providers here either. Blockchain is an entirely new revenue stream for existing legacy companies. These Smart Contracts represent entire new markets for companies to sell their data to and Chainlink offers them an easy and secure way to do so. Oracle’s recent announcement is an excellent example of this. They are adding 50 new data providers to their blockchain via Chainlink and they are offering this integration support for free. This makes excellent business sense to them since it makes their platform more attractive by having more data. In the end they make greater profits since they can charge more for their services and/or acquire a greater number of clients.
I hope now by the end of this article, the gigantic value proposition is clear. Simply put, the more value in data that is transacted on the Chainlink network, the more value the LINK token must have to buy and insure the data. Furthermore, as more data providers join we see another feedback loop develop. The network becomes more attractive to end users due to the larger amount of data available on it, this causes more users to join, which then causes more data providers to join in order to sell to the increased number of users and so on and so forth. There is a tremendous amount of synergy and network effect feedback loops designed into the economic properties of Chainlink and for this reason, it will be firmly placed among the most valuable cryptocurrencies.
For further reading on Chainlink this is an excellent starting point: https://blog.goodaudience.com/chainlink-the-missing-piece-to-the-god-protocol-fd455dde92ab
To keep up to date with my Chainlink discussions, feel free to follow me on Twitter: https://twitter.com/gammichan