The 2023 Interchain Thesis: Exploring the biggest trends and opportunities in Cosmos
Why privacy, modularity, native stablecoins, custody, DAO tooling, and other big trends will put Cosmos on the map this year
Over the last two years, we’ve watched the Cosmos ecosystem grow from a handful of teams establishing early Interchain plumbing to a flourishing ecosystem of projects and companies building foundational apps and infrastructure needed to scale Web3 to the next billion people.
In 2022, the Cosmos ecosystem started gaining traction and the attention of the broader crypto industry, institutional players, and tech giants. We think the Interchain, the network of blockchains and decentralized applications leveraging the Cosmos technology stack, is positioned to become one of the most promising environments in the industry.
Narratives around sovereign dapps and blockchain interoperability, which have grown in popularity across the industry, were seeded by, among others, Cosmos and its founders. This was long before notions of roll-ups, modular blockchains, and trust-minimized bridging were widely understood. Seeing these ideas being discussed, funded, and built today is incredibly satisfying.
As we look forward to the next cycle in Web3 applications, it’s clear the industry must invest heavily in the infrastructure necessary to onboard upwards of a billion people in the next five years. And while scaling remains a significant challenge, so are the barriers to adoption as many issues around user experience remain unsolved: self-custody, privacy, application interoperability, and access to stablecoins.
The fall of FTX was a reminder that the value of what the industry is building lies in open, community-owned, censorship-resistant applications. Yet, the decentralized application stack still has a long way to go to compete with the speed, reliability, and fluidity of experience offered by Web2.
As the crypto bear market settles in, developers will build critical infrastructure and tooling, inspiring the next wave of decentralized applications. The coming years will lay the groundwork for the next “class of crypto” to innovate and move the needle in the direction of a world where users have more agency and sovereignty over their data, money, and economic transactions.
Sebastien Couture — GP, Interop
Interoperability Infrastructure
Trust-minimized interoperability protocols will grow in use, led by IBC implementations
In 2022, 69% of lost funds were due to bridge hacks, notably the Ronin Bridge ($624 million), BNB bridge ($586 million), Wormhole ($326 million), and Nomad ($190 million). Many early bridge designs implement liquidity pools for bridging assets, a honey pot for attackers where TVL is essentially a bounty.
Inter-Blockchain Communication protocol(IBC) operates on trust assumptions reduced to the security of the participating chains. IBC security relies on two principles:
- A user’s trust in the chain with which they connect
- Fault isolation mechanisms limiting the scope of damage of malicious chains
When the IBC protocol went live in the Summer of 2021, it began a shift towards trust-minimized interoperability. The design space IBC and similar protocols explore promises a future in which blockchain interoperability is far more secure than previous bridging attempts.
Thousands of IBC transfers representing tens of millions of dollars are initiated daily, moving assets nearly instantly and without a hitch. Interchain Accounts (ICA) add cross-chain composability to IBC, paving the way for a new breed of interoperable DeFi applications.
While IBC is tightly coupled with the Cosmos stack, alternate implementations bridge the gap (pun intended) with other ecosystems. Axelar, Composable Finance, Nitro, Landslide, and Octopus Network extend the reach of IBC beyond the Cosmos ecosystem and affirm the strengths of the protocol within other communities. Evmos, an EVM-based chain built on Tendermint, enables IBC for ERC-20 tokens and creates opportunities for Ethereum DeFi platforms to reach the Interchain.
We’re also looking forward to the industry adopting Zero-Knowledge Proofs (ZKP) in the context of interoperability. Several teams leverage ZKP to facilitate messaging and transactions between chains with different finality and liveness guarantees. Polymer Labs is one example and is building ZK-IBC, extending the reach of IBC to the EVM ecosystem.
We’re confident that trust-minimized interoperability protocols will become the norm for cross-chain transfers and message passing in the coming years.
Dive deeper into the topic of blockchain interoperability
- IBC: Interoperability for Cosmos and Beyond with Susannah Evans of the Interchain Foundation
- Cross-Chain Communication with Sergey Gorbunov of Axelar
- Cross-Chain Composable Apps with Arjun Bhuptani of Connext
- Evmos: The Next EVM Frontier by Federico Kunze Küllmer
Modular Blockchain Infrastructure
The modular blockchain narrative will become tangible with the launch of Celestia, Fuel, and app-specific rollups on Ethereum
The era of one-size-fits-all blockchains is behind us. Every Ethereum demand peak and their bottlenecks demonstrate that applications sharing bandwidth on general-purpose blockchains don’t scale.
Modular infrastructure departs from previous designs breaking up the different functions of a blockchain: data availability, consensus, settlement, and execution. This enables each layer to operate independently and specialize. It also creates a market where teams compete for the most performant technology at each layer.
Modularizing the blockchain technology stack allows developers to create decentralized applications (resistant to censorship) that can support a large number of users (high transaction volume) while remaining secure (prevent transaction reordering) — the blockchain trilemma. This approach switches the focus away from scaling blockchains (which was never really the goal) to scaling decentralized applications while preserving the desired properties of blockchains.
Celestia was the first to introduce this concept in 2021: a minimal blockchain that provides data availability and consensus. Other teams, like Fuel and Eclipse, will offer compatible settlement and execution layers where developers write application logic suited to their needs. Though we’re still in the early days, we think the speed and flexibility of roll-ups will be an attractive option for developers. We’re excited to see a competitive landscape of modular components, each with different trade-offs.
This new era of modular blockchain infrastructure will inspire a new wave of developers in the next cycle. Creating secure, scalable, decentralized apps will be massively simplified as developers, businesses, and hobbyists will be able to get off the ground thanks to reduced technical barriers.
Dive deeper into the topic of modular blockchains
- Modular vs. Monolithic Blockchains with Ismail Khoffi of Celestia
- Modular Execution Blockchains with Nick Dodson of Fuel Labs
Application-Specific Blockchains
More bluechip protocols will follow the path of dYdX and build sovereign appchains
The appchain narrative put forth by Cosmos is taking hold in the broader ecosystem. The idea of application-specific chains has expanded outside the Interchain and is now generally accepted in the EVM world, as laid out in the rollup-centric roadmap.
Monolithic appchains are a suitable design choice for applications requiring a high level of protocol, consensus-level customization, and tight vertical alignment between the different layers of the stack. Amazon, Facebook, and Google — all build their own data centers, network infrastructure, and hardware to achieve high degrees of vertical integration and economies of scale to remain competitive. At their size, the only way to grow is to control the entire stack — so is the case for leading DeFi players.
Osmosis is the flagship example of a sovereign DeFi appchain. Relative to protocols built on Ethereum and other smart contract chains, Osmosis benefits from high customizability, better control over MEV (which they plan to internalize), and low fees. It is now expanding to become a fully-fledged ecosystem offering various services to users.
dYdX announcing it would build its own sovereign Cosmos zone was a strong signal validating this vision of decentralized application scaling. For the largest decentralized derivatives exchange, launching a sovereign blockchain promises higher transaction throughput, customization, and better vertical integration.
In their post announcing dYdX v4, the team explains the benefit of developing a dedicated chain: “full customizability over how the blockchain itself works, as well as the jobs that validators perform.” With its new design, validators will run a local order book (similar to a mempool) that is never committed on-chain. When users place orders or cancellations, they propagate through the network until matched and committed to a block. This level of validator node customization, only possible with an appchain, gives dYdX extremely high throughput while remaining decentralized.
In his post The Inevitability of UNIchain, Dan Elitzer describes the costs incurred by DEX traders: swap fees, transactions fees, and MEV. In the case of Uniswap on Ethereum, the swap fee is the only part of the cost over which the protocol has control. Users must reason about network transaction fees, which vary widely depending on demand, and MEV, over which the protocol has little control. MEV accounts for a large portion of the overall costs to traders and represents the best opportunity for the protocol to capture value. This is the Osmosis approach, and one can speculate that dYdX also sees a chance to internalize MEV and flow value back to its users.
Appchains may go beyond the application-specific narrative and take the form of sector-specific layer-1 protocols. Chains specialized for niche industry sectors could offer particular features and better speed. Sei Network is the first layer-1 blockchain specifically tailored for trading and aims to provide fast finality and high throughput. One can extend this concept to chains Stargaze, which offers primarily an NFT minting platform but is also building tools for creators and communities.
We expect the application-specific blockchain architecture will remain a suitable choice for projects with platform ambitions.
Dive deeper into the topic of appchains
- Decentralized Capital Market Infrastructure with Jay Jog of Sei
- Osmosis Mesh Security & Permissioned CosmWasm with Sunny Aggarwal
- Cosmos vs. The Fiat System with Ethan Buchman of Informal Systems
Interchain Security
Interchain Security allows the launch of dozens of new chains leveraging the trust and security of the Cosmos Hub
Interchain Security (ICS) is an essential evolution in Cosmos, allowing appchains to benefit from the Hub’s validator ecosystem. ICS makes it possible for validators on a provider chain (e.g., the Cosmos Hub) to leverage their stake to secure consumer chains by participating in its consensus.
Shared security is not a new concept — Polkadot implemented this idea in the Relay Chain years ago. Cosmos took a different approach, deciding early on that the ecosystem should grow and mature before considering enabling shared security.
Consumer chains who chose to leverage ICS (rather than forming their own validator set) benefit from having access to the security of the Cosmos Hub from day one. Where previously, chains needed to embark on a validator roadshow, taking months of time and energy away from building, ICS chains will gain the multi-billion dollar security of the Hub, which remains unparalleled in the Interchain ecosystem.
Though a squarely different approach to scaling and security than the modular chain thesis, ICS chains have a high degree of sovereignty over consensus and data availability (except for certain aspects like slashing parameters).
With Interchain Security, the Cosmos Hub may enter agreements with consumer chains, generating revenue that may be deployed for ecosystem development (Allocator model) or distributed back to ATOM holders. The provider chain monetization design space is vast and includes transaction fees, MEV capture, block space auctions (Scheduler model), and revenue sharing.
ICS will launch in 2023 with a handful of blockchains renting security from the Hub. The most anticipated projects are Neutron (CosmWasm cross-chain smart contracts), Duality (DEX), Stride (liquid staking), SimplyStaking (on-chain ETF), Fair Block (MEV), and Noble (native asset issuance).
We’re firm believers in Interchain Security’s role in attracting large-scale projects to Cosmos.
Dive deeper into the topic of Interchain Security
Privacy-Enabling Protocols
Several privacy chains will go live, enabling a new breed of private-by-design dapps
For decentralized application adoption to grow, privacy must become a priority. The status quo of quasi-anonymity via pseudonymity (most blockchains today) cannot function when billions of people, SMEs, and corporations come into Web3.
As on-chain data analysis becomes more accessible and government agencies openly leverage these tools, the relative pseudonymity early adopters once enjoyed is quickly evaporating.
The coming years will see growth in decentralized private applications. Since the invention of Zcash, Zero-Knowledge Proof research has surged, producing a so-called Cambrian explosion in ZK primitives. Developer tooling is improving, making it easier for developers to leverage ZK in apps. As a result, private DeFi, smart contracts, and payments are now possible, and dozens of teams are actively building in this space.
VCs are also coming into the privacy-focussed market — protocols such as Aleo, Aztec, Anoma, Espresso Systems, Penumbra and Iron Fish have all raised significant rounds. Secret Network raised an impressive $400 million in 2022. Its mainnet is live and has dozens of teams building on the platform. Grassroots projects like Juicer Protocol are taking steps to remain anonymous and implementing DAO governance, drawing lessons from Tornado Cash.
We think privacy will play an increasingly important role as the ability to transact and do business privately is essential in a capitalistic society. While we’ve seen an influx of funding and developers in the blockchain space, privacy-focused projects have been undervalued and underfunded in comparison. This is changing — developer tools are reaching maturity, making it easier than ever to build apps leveraging Zero-Knowledge.
Dive deeper into the topic of privacy
- Understanding Penumbra with Henry de Valence
- Zero-Knowledge Smart Contracts with Alex Pruden of Aleo
- Interchain Privacy with Adrian Brink of Anoma
Native Stablecoins
Native stablecoins come to the Interchain, allowing new liquidity (and users) to flow into the ecosystem
When UST collapsed, this left a vacuum in the Cosmos ecosystem. As the most liquid USD-pegged asset in the Interchain, the departure of Terra left the Cosmos ecosystem without an IBC-native stablecoin.
Thankfully, this is changing. In 2022, the Agoric team launched the Inter Protocol (IST), a fully-collateralized crypto-backed stablecoin designed to maintain parity with the US dollar. IST operates on a similar mechanism to that of Maker DAI, maintaining stability through over-collateralization. Though it is backed primarily with bridged USD stablecoins, support for ATOM and other staple assets of the Cosmos ecosystem is coming soon.
Circle is also planning to issue native USDC on the Noble appchain (also referred to as a “generic asset issuance” chain), which the Cosmos Hub will secure via Interchain Security. This will enable Circle to mint institutional-grade assets that will be transferrable over IBC to the rest of the Interchain.
Currently, $12 million in wrapped USDC is sitting in Osmosis liquidity pools. By leveraging IBC, native USDC eliminates bridge risk, making it fungible with the native versions of that asset living in other ecosystems like Ethereum, Avalanche, and Solana. As the largest consumer of USDC in the crypto market, the arrival of dYdX as a Cosmos chain will bring even more USD liquidity to the ecosystem. Their presence in the IBC network will create more organic demand for stablecoins in Cosmos.
Stablecoin liquidity is an essential pillar of any crypto ecosystem. Growing the offering of IBC-native stablecoins is an important legitimizing factor for the Interchain and will attract investors, entrepreneurs, future institutional asset issuers, and builders to Cosmos.
Dive deeper into the topic of IBC native stablecoins
Liquid Staking Protocols
Liquid staking is a powerful primitive that unlocks capital currently staked on the Cosmos Hub and other IBC-connected chains
While liquid staking has been live in Ethereum for several years, with protocols like Lido holding the majority of staked ETH, liquid staking in Cosmos is now taking off.
Liquid staking on monolithic chains Ethereum and Solana implies a single liquid staked asset (ETH and SOL), and those protocols don’t support on-chain governance. In Cosmos, each chain’s staked native token could potentially be made liquid and should retain the interoperability qualities enabled by IBC. The vibrant validator ecosystem in Cosmos, their engagement in community governance, and their relationship with delegators, who often hold their validators highly accountable, is another crucial point of differentiation that has significant implications in protocol and mechanism design.
Therefore, liquid staking protocols in Cosmos must be cross-chain, consider user preferences regarding validators, and allow users to retain governance rights on chains for which they hold liquid-staked assets. The complexity of this problem is enormous.
In the last year, two next-generation liquid staking protocols have come online. The first was Stride, which currently offers liquid staking for ATOM, OSMO, STARS, and JUNO. Soon after, Quicksilver launched its mainnet with a user-focused approach where delegators retain ultimate control over validators with which assets are staked, as well as governance votes.
As these and other protocols mature and attract more stake, this will create more liquidity in Cosmos DeFi. At the time of writing, about 60% of ATOM tokens remain staked, with a small percentage of those in liquid staking. And, of course, there are the 60-or-so Cosmos-SDK chains representing potentially several billion dollars in assets that could move into liquid staking protocols. The influx in DeFi liquidity, as a result, could be enormous.
As more users turn to liquid staking, we’re also excited about the prospect of novel DeFi applications enabled by this liquidity, such as stablecoins, self-relaying loans, and validator indices.
Dive deeper into the topic of liquid staking
- Liquid Staking in Comos with Roea Mortaki & VishModali of Quicksilver
- Interchain MEV with Brapse of MekaTek
CosmWasm Smart Contracts
The secure-by-design smart contract VM is quickly gaining traction in the Cosmos ecosystem and beyond, attracting new developers
CosmWasm was created at HackAtom Berlin in 2019 and has since become the de facto smart contract VM used by Cosmos-SDK chains. At its core, CosmWasm is a Wasm implementation as a Cosmos-SDK module, meaning any Cosmos chain can enable robust smart contracts written in Rust.
Wasm is a highly-optimized virtual machine with little overhead. This makes it a logical choice for blockchains where computing constraints are high. Polkadot implements a Wasm-based VM for its Substrate framework, and for a brief moment, there were discussions in the Ethereum community about Ethereum-flavored WebAssembly.
Though Solidity is truly a success story in terms of adoption and value created, it carries issues inherent to the language and the construction of the EVM. From a security perspective, CosmWasm eliminates reentrancy attacks, which have been responsible for billions in lost funds — notably, The DAO and the Parity Multisig hacks.
As contracts are written in Rust, a statically and strongly typed systems programming language with an industry-leading testing suite and robust tooling, it provides a solid testing framework for critical business logic. In other words, Rust’s development environment dramatically reduces the risk of bugs and common vulnerabilities being compiled.
Another powerful feature of CosmWasm is contract upgradability. The migrate functionality allows for an optional admin key capable of upgrading contracts. Coupled with a multisig account, contract upgrades can be made subject to community vote or n-of-m agreements. In contrast, EVM-based dapps must implement sub-optimal proxy and library contracts to deal with upgrades.
One of CosmWasm’s biggest strengths is that it was designed to be IBC-enabled, meaning it can send and receive assets and messages to and from other chains and CosmWasm contracts. These powerful features enable new forms of cross-chain composability accessible to any CosmWasm developer.
The true power of CosmWasm lies in its ability to serve as the platform for innovation in the Cosmos ecosystem. Deploying CosmWasm allows teams to rapidly prototype and implement new features in hours or days, rather than weeks or months, compared to building custom Cosmos-SDK modules. Several chains have added governance-gated CosmWasm, relying only on SDK modules for low-level functions like token transfer, governance, and staking. Osmosis, Stargaze, and Ki are chains that heavily use CosmWasm in this configuration.
To push things further in the direction of rapid prototyping and ease of development, a fully CosmWasm-based SDK is in the early phases of development. Although it’s still far from production readiness, cw-sdk would entirely replace the need for the Cosmos-SDK.
Several community-owned CosmWasm chains also exist. Juno has attracted a community of hundreds of developers and dozens of teams building innovative decentralized applications with CosmWasm. Notably, DAO DAO, built on Juno, is becoming the de facto DAO tooling suite for the Interchain and is rapidly growing in features and adoption. Archway is a CosmWasm chain exploring novel designs in protocol economics such that application developers generate revenues on-chain.
In the last two years, more than twenty Cosmos chains have implemented CosmWasm. Projects are also porting it to other ecosystems — Composable Finance is building the first generalized CosmWasm VM outside Cosmos. The number of CosmWasm-themed hackathons is also growing, with at least three taking place in 2022 and more planned for 2023, including Nebular Summit, HackAtom, AwesomWasm, and HackWasm. CosmWasm Academy, a free educational platform provided by the key maintainers of the project, is also attracting new smart contract developers and is entering its third cohort.
The speed of development, security, ease of maintenance, and modern design, combined with the quality and breadth of Rust learning materials, are solid arguments for developers to adopt CosmWasm. As more liquidity enters the Interchain, we’re confident the number of CosmWasm developers will continue to grow, inspiring a new wave of innovative decentralized applications.
Dive deeper into the topic of CosmWasm
- The Smart Contracting Platform for Cosmos with Ethan Fray of CosmWasm
- Understanding CosmWasm SDK with Larry Engineer
- Rewarding Web3 Developers with Griffin Anderson of Archway
DAO Tooling
Mature DAO tooling allows new forms of collaborations and gives developers incredible technical ability to build decentralization into their projects
When it comes to Cosmos DAO tooling, there’s only one game in town, DAO DAO. The project built on Juno is growing at an impressive pace and creating a robust set of developer tools.
DAO DAO is building some of the best tools for Decentralized Autonomous Organizations and collaboration in the crypto ecosystem. Written for CosmWasm, it offers features not possible for EVM-based DAOs.
For instance, in contrast with Solidity smart contracts, CosmWasm contracts can specify an administrator capable of upgrading the contract code. In the case of WYND, its community DAO acts as an administrator and is the ultimate arbiter in contract upgrades.
Another power use case is DAO-managed validators, where a DAO controls a validator’s operator key. Thus, its members decide through governance how the validator votes in on-chain proposals and rewards flow directly to DAO treasuries.
But DAO DAO goes beyond the Juno chain. Being IBC compatible means other chains can leverage these tools to manage their community treasuries, as is the case for Chihuahua’s CommunityDAO, which pays developer salaries from its community pool. IBC support also means DAOs can hold any Cosmos token (fungible or non-fungible), allowing companies and investment funds to use these tools for internal treasury or asset management.
One of the powerful features of DAO DAO is the ability to create SubDAOs. In this configuration, DAOs can control unlimited DAOs in an Inception-like DOAs-all-the-way-down structure. The Juno chain uses SubDAOs to manage its delegation program, and other chains have explored this concept for treasury management.
While DAO DAO version 2 is still in development, v3 is already in the works, which is expected to include privacy features and new voting mechanisms.
As the foundation for decentralized collaboration at scale, DAOs will continue to play an important role in project funding and community decision-making. We’re keeping a close eye on the development of DAO DAO and the ecosystem of projects which leverage this powerful technology.
Dive deeper into the topic of DAO Tooling
- Better Governance With SubDAOs with Andrea Di Michele of Juno
- NFT Interoperability with Shane Vitarana of Stargaze
- Managing the Cosmic Commons with Parks H Feierbach of Figment
Wallets & Custody
Seed phrase wallets move out of style in favor of more user-friendly custody solutions leveraging MPC and account abstraction
Part of the ethos of blockchains is self-sovereignty (not your keys, not your crypto). Yet, tens of billions have been lost due to bad private key management. While initially conceived for hardware wallets (where private keys are never meant to touch an internet-connected computer), most desktop and mobile wallets generate seed phrases, leaving the user with the burden of secure storage. Custody on centralized exchanges is equally bad. Countless billions of dollars in user funds have been lost in exchange hacks, mismanagement, and fraud.
The future of digital asset custody lies in a hybrid approach. Advancements in cryptography, namely Multi-Party Computation (MPC) leveraging threshold signatures and on-chain solutions, like smart contract wallets and account abstraction, enable a best-of-both-worlds scenario where self-custody can be secure and user-friendly.
ZenGo is the best example of an MCP-based wallet for everyone, offering an easy onboarding experience requiring only an email address and secure account recovery if a device is lost or stolen. The user’s account is secured using liveness-detecting biometric scanning that encrypts an MPC share which can be safely backed up locally or in the cloud.
Better developer tooling empowers builders to leverage this approach. Web3Auth and Dfns provide infrastructure and API to build custody solutions leveraging single-sign-on (SSO) and social logins while providing easy recovery. Both are improving support for Cosmos ecosystem assets.
As far as platforms go, Odsy Network is a genuinely novel idea that could radically change the concept of custody. Their blockchain is akin to a decentralized Fireblocks where the chain enforces account permissions. Wallets become completely abstracted, existing as quasi-non-fungible assets capable of changing hands.
We expect to see more large tech firms adopt MPC as well. Google announced its Confidential Space product, leveraging MPC to securely manage digital assets. Strangelove Labs, a core contributor to Cosmos, is working with Google to build key management integrations.
Argent pioneered the smart contract wallet where users can define trusted friends and family members able to initiate recovery and enforce spending limits. We already see the bricks necessary to create similar experiences in Cosmos. The combination of mature DAO tooling and Interchain Accounts could create interesting account permissioning systems for companies and individuals.
The on-chain and MPC approaches have trade-offs, but we’re excited to see more wallets embrace hybrid custody. E-commerce could have never taken off without the invention of SSL — the same is true for data privacy and asset custody in crypto.
Dive deeper into the topic of wallets and custody
About the author
Sebastien Couture is a General Partner at Interop, an early-stage venture fund supporting protocols and primitives embracing the vision of sovereign, interoperable, proof-of-stake blockchains. He hosts The Interop and Epicenter podcasts and is an organizer of Nebular Summit, an Interchain developer conference dedicated to the Cosmos technology stack.
If you’re a developer or a team building on the Interchain, please reach out.
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Acknowledgments
Many thanks to Ekram Ahmed, Jelena Djuric, Mia Grodsky, Jake Hartnell, Ismail Khoffi, Albert Le Batteux, Xave Meegan, Roea Mortaki, Ouriel Ohayon, Patrick Perlmutter, Misang Ryu, Clement Simon, Spaydh & Shane Vitarana for their input and feedback on this article.
