Buried under the news of the market crash (another one) and Nouriel Roubini’s rhetorics (again) was an announcement that would have caught your attention if you were interested in the technical infrastructure development of the crypto space and not just the price or MSM headlines. It was about the first commercially available sidechain called Liquid. In discussions since 2015 and being beta tested for more than a year, Liquid went live on the 27th of Sep when the first block was generated (not mined — more on that later). It is a key part of the infrastructure puzzle that needs to be built if we want to provide an alternate financial platform.
This tech essentially allows you to use one chain’s (main chain) token on another connected chain (sidechain). Imagine it being like able to take your car and exiting a motorway to go to a side road and do what needs to be done and then joining back the motorway. As long as where you want to go is also on this side road (these are the exchanges that are taking part in the chain as “functionaries”). The car is the same but as the rules of the side road are different, the car’s avatar can do tricks like go faster or be invisible or be smarter or look like a truck. But only on the side road. As soon as it is back on the motorway, it changes back to exactly what and how it was in accordance with the rules of the motorway.
How does it work
There are many types of blockchain extensions possible like layer 2 solutions, drivechains, interoperability bridges, sidechains, etc. These technologies may have overlaps but they are different in the way they work and what they are trying to achieve. The most exciting part being that these can work with each other e.g. Lighting Network can work with Liquid creating channels instantly when wanting to pay for coffee at a new shop. Sidechains are the easiest to understand with their two way pegging mechanism:
- A user takes her coins and transfers them to a special certain address, where they are locked and become inaccessible.
- Once the confirmation is received, it is used as a proof in the sidechain to get an equal or equivalent number of sidechain coins.
- Now these coins can be used in the sidechain being transferred between different participants of the sidechain and back and so on.
- Once you are done with using the sidechain and want to do something more on the main chain, you would simply burn the coins or put them back in a certain address. This releases the previously locked corresponding coins.
This can enable a lot of features not available on the main chain. Though these features are only available for the participants of the sidechain. Some of the features of Liquid include:
- Faster Trading and Enhanced Efficiency — Near instant bitcoin transfers between exchanges allow your users to take advantage of arbitrage opportunities like never before. Market makers can improve their capital efficiency by reducing balances held across multiple exchanges.
- Liquid’s Issued Assets brings bitcoin-like features to traditional assets, such as tokenized fiat, digital reward points, and attested assets (e.g. gold coins), removing the need for dedicated blockchains or wallet software.
- Better Privacy — Liquid supports Confidential Transactions for bitcoin amounts transferred in the system, which protects your users from exposure.
- Superb Reliability — Built using the battle tested Bitcoin code-base, Liquid software is highly reliable. Also, Liquid can’t change the Bitcoin cap of 21 million as the assets need to flow back to the main chain for settlement.
What it is not
This is the most important part of this article as there are many misconceptions about this new technology.
First and foremost, side-chains are not decentralised. They are essentially centralised around the participants and theoretically they can be malicious. But practically it does not work because of the massive and obvious collusion needed plus the negative impact it will have on the system in turn impacting their economic interest.
They are trust minimising not trustless. Watchers and functionaries together form the consensus backbone of the network to keep each other in check. Thereby trust is minimised but it can never be trustless like Bitcoin.
Blocks are not mined but rather signed by the functionaries. Currently there are 23 participants for Liquid who between them handle >50% of the bitcoin transaction volume making the sidechain participation ratio very high and diverse.
It is not a permission-less chain and participants need to approve the addition of a new participant in the network. More like a club but one where the list of members is transparent.
#crypto #blockchain #sidechain #blockstream #bitcoin #cryptotech #innovation #DLT
This is part one of a series on ‘8 things you should be excited about in crypto (but probably don’t even know)’. An attempt to bring out the gems of the technology in a space where these can easily get lost in attention grabbing headlines.
- Blockstream article: https://blockstream.com/2018/10/10/liquid-launch.html
- Liquid whitepaper: https://blockstream.com/strong-federations.pdf
- More on sidechains: https://en.bitcoinwiki.org/wiki/Sidechain