Tagged: Smart Contracts

What is a Crypto Liquidity Pool?

A liquidity pool is a crowdsourced pool of tokens locked in a smart contract that offer liquidity in decentralized exchanges (DEXs) in an effort to mitigate the difficulties created by illiquidity in such systems.

Instead of traditional buyer-and-seller markets, many decentralized finance (DeFi) systems employ automated market makers (AMMs), which allow digital assets to be exchanged automatically and without authorization via liquidity pools.

Because each liquidity pool is made up of two tokens, they are also known as pairs.

A liquidity pool is a smart contract in which tokens are locked in order to provide liquidity.

How do liquidity pools work?

A liquidity pool, at its heart, is a smart contract that regulates the supply of two crypto assets, like USDC and ETH. This type of smart contract is known as an automated market maker (AMM).

Anyone who utilizes the above-mentioned pool to exchange ETH for USDC or vice versa is a member of this pool. When someone makes a deal, regardless of how much or how little they exchange, they pay a fixed cost.

To make this model function, the pool must have a constant supply of USDC and ETH, which is where liquidity providers come in.

A liquidity provider must deposit the same amount of USDC and ETH. We may imagine that many other liquidity providers are doing the same thing so that when someone wants to trade a token, they can do so easily.

When the liquidity provider adds their tokens to the pool, the underlying smart contract will return a “liquidity pool token” representing their stake. They also earn a part of the fees paid by traders who utilize the pool, which is proportionate to the amount of liquidity pledged.

The AMM smart contract that underpins the liquidity pool is constantly rebalancing, quoting prices based on supply and demand.

Liquidity pools seek to address the issue of illiquid markets by motivating users to supply crypto liquidity in exchange for a part of trading costs.

Why Are Crypto Liquidity Pools Important?

Any seasoned trader in traditional or crypto markets will warn you about the risks of investing in a market with minimal liquidity. Slippage will be an issue when attempting to enter — or leave — any deal, whether it is a low-cap cryptocurrency or a penny stock.

The discrepancy between the projected price of a trade and the price at which it is performed is referred to as slippage. Slippage is most prevalent during moments of extreme volatility, but it can also happen when a large order is completed but there is not enough activity at the targeted price to keep the bid-ask spread constant.

The bid-ask spread of the order book for a specific trading pair determines the market order price that is employed in times of high volatility or low activity in a typical order book model. This implies it is the price at which sellers are willing to sell the item and the price at which buyers are willing to acquire it.

Low liquidity, on the other hand, might result in increased slippage, and the executed trading price can greatly surpass the initial market order price, depending on the bid-ask spread for the asset at the moment.

Liquidity pools seek to address the issue of illiquid markets by motivating users to supply crypto liquidity in exchange for a part of trading costs.

Trading utilizing liquidity pool protocols does not need buyer and seller matching. This implies that users may easily trade their tokens and assets utilizing liquidity offered by users and transacted using smart contracts.

Uses of Crypto Liquidity Pools

  • Token Distribution: Liquidity mining is also a viable technique for distributing fresh tokens to the correct individuals in various crypto initiatives.
    Better efficiency is provided by the algorithmic distribution of tokens to users who have placed their tokens in the liquidity pool.
    Following that, the freshly produced tokens are allocated based on each user’s part in the liquidity pool.
  • Yield Farming: A way of earning tokens from your crypto holdings. It is been compared to farming since it is a novel approach to “produce your own cryptocurrency.” The procedure entails leasing crypto assets to DeFi in exchange for interest.
    The money in the liquidity pool are used to give liquidity to a DeFi protocol, which is used to allow trading, lending, and borrowing.
    The platform makes fees by providing liquidity, which are distributed to investors based on their part of the liquidity pool.
    Yield farming is often referred to as liquidity mining.
  • Governance:  The best liquidity pools could also serve as helpful instruments in governance. You could discover a potentially higher threshold of token votes required for establishing a formal proposal for governance. However, pooling funds together as an alternative could help participants rally behind a common cause perceived as significant for protocol. 

Advantages

The benefit of employing liquidity pools is that it eliminates the need for a buyer and a seller to agree to swap two assets for a defined price, instead leveraging a pre-funded liquidity pool.

As long as there is a large enough liquidity pool, transactions can take place with little slippage even for the most illiquid trading pairs.

Other users contribute the funds kept in the liquidity pools, and they receive passive income on their deposits through trading fees based on the percentage of the liquidity pool that they provide.

Risks

Impermanent losses are one of the most serious dangers associated with the liquidity pool.

Because of the volatility in a trading pair, liquidity pooling causes a temporary loss of cash for the liquidity providers.

The trading activity of the pool has a significant influence on the asset’s pricing.

Arbitrage traders might benefit from a fluctuation in the asset’s price in relation to the worldwide market price.

Furthermore, pricing algorithms in liquidity pooling may cause slippage difficulties for smaller pools.

Final Thoughts

Liquidity pools are the most current inventive technical intervention in the crypto sector.

They are critical to the viability of the present DeFi technology stack.

Liquidity pools may boost access and yield farming opportunities while also opening up new pathways in DeFi use cases.

On the other hand, they pose various hazards, such as temporary loss and over-reliance on smart contracts.

What is a Decentralized Crypto Exchange (DEX)?

What is a Decentralized Crypto Exchange?

Every person on the planet has heard about cryptocurrencies in recent years.

With the growing popularity of cryptocurrencies comes an increased interest in other digital financial transactions.

But, if you want to buy or sell cryptocurrencies, you will need a exchange.

A decentralized exchange, or DEX, is a peer-to-peer marketplace where cryptocurrency traders may conduct transactions without entrusting their assets to an intermediary or custodian.

To understand decentralized exchanges, first you should familiarize yourself with centralized exchanges. 

A centralized exchange is a platform where anyone may buy, sell, or trade cryptocurrencies that are listed on that exchange.

Assume you wish to acquire some Bitcoin.

You may visit an exchange, join up by supplying banking and identification information, and deposit some cash.
The exchange will tell you the price based on a “order book” of individuals buying and selling at various quantities, and you can then complete the transaction.

So, what comes next?

The exchange will display those Bitcoins in your account, and you may trade them for other tokens. But you do not truly own them since you are relying on the exchange to serve as a custodian on your behalf.

Any trade you perform, like as exchanging Bitcoin for Ethereum, takes place within the exchange’s database rather than on a blockchain.

The user’s coins are pooled into exchange-controlled wallets.

The exchange is in charge of your private keys

DEX supporters argue that the attractiveness of decentralized exchanges is security.

A centralized exchange can restrict your access to your cryptocurrency, limit or prevent your ability to trade it, and potentially leave you susceptible to hackers.

Centralized exchanges, on the other hand, are often considerably easier to use for newbies, and they may sometimes offer quick trading since they are not bound by blockchain technology.

How do DEXs work?

DEXs are constructed on top of blockchain networks and employ smart contracts to enable trade between individuals while retaining ownership of their currency.

Along with the trading cost, each deal incurs a processing fee.

Decentralized exchanges are classified into three types:

  • Automated market makers
  • Order books DEXs
  • DEX aggregators

Automated market makers (AMMs):

AMMs rely on blockchain-based services called blockchain oracles, which supply information from exchanges and other platforms to fix the price of traded assets.

Instead of matching buy and sell orders, these DEX’s smart contracts employ pre-funded asset pools known as liquidity pools.

Other users finance the pools, and they are then entitled to the transaction fees levied by the protocol for executing transactions on that pair.

To earn income on their cryptocurrency holdings, these liquidity providers must deposit an equivalent amount of each asset in the trading pair, a process known as liquidity mining.

If they try to deposit more of one asset than the other, the pool’s smart contract invalidates the transaction.

Traders can utilize liquidity pools to execute orders or earn interest in a permissionless and trustless manner.

These exchanges are frequently graded based on the amount of cash locked in their smart contracts, known as total value locked (TVL).

Order book DEXs

Order books compile records of all open orders to buy and sell assets for specific asset pairs. The spread between these prices determines the depth of the order book and the market price on the exchange.

There are two kinds of order book DEXs:

  1. on-chain
  2. off-chain

Every transaction in an on-chain order book is recorded to a blockchain.

That includes not only the transaction itself, but also the request to purchase or cancel an order.

It is the pinnacle of decentralization, but the requirement to place everything on a blockchain can make it more expensive and slower.

With off-chain order books, all of this happens elsewhere, with only the final transaction settled on the blockchain. Since orders aren’t stored on-chain, this method can run into some of the security issues of centralized exchanges but isn’t as slow or costly as on-chain order books.

It is vital to note that order book DEXs frequently have liquidity concerns.

Traders typically prefer centralized platforms since they are effectively competing with centralized exchanges and pay more costs as a result of what is paid to transact on-chain.

While DEXs with off-chain order books decrease these expenses, smart contract risks exist due to the requirement to deposit cash in them.

DEX aggregators

To overcome liquidity issues, DEX aggregators employ a variety of protocols and techniques.

These platforms effectively combine liquidity from many DEXs in order to minimize slippage on big orders, optimize swap costs and token prices, and provide traders with the best price in the shortest amount of time.

Another important purpose of DEX aggregators is to protect consumers from the price effect and to reduce the risk of unsuccessful transactions. Some DEX aggregators additionally employ liquidity from centralized platforms to give a better experience for consumers, all while staying non-custodial through interaction with certain centralized exchanges.

Why should you opt for DEXs?

Trading on decentralized exchanges may be costly, particularly if network transaction fees are high at the time the deals are made.

However, there are significant benefits to adopting DEX platforms.

  • Privacy: Because DEXs are anonymous, they should be your first choice if you desire total anonymity.
    Centralized crypto exchanges may request know-your-customer information, whereas DEXs operate on the premise of anonymity.
  • Token availability: Before listing tokens on centralized exchanges, they must be independently vetted to verify they conform with local rules.
    Decentralized exchanges may incorporate any token generated on the blockchain around which they are constructed, implying that new projects will likely list on these exchanges before their centralized equivalents.
  • Reduced security risks: Because all the funds in a DEX trade are housed on the traders’ own wallets, they are less vulnerable to a hack.

What are some potential downsides?

  • Requirement of specific knowledge: Users should be familiar with security principles in order to protect their cash in a DEX crypto exchange. Furthermore, you must have special expertise on the choosing of wallets as well as the funding of the wallet with appropriate tokens.
  • No customer service: Centralized exchanges function similarly to banks.
    They have consumers that they mostly wish to keep satisfied. However, there is no actor on the opposite end of a genuinely decentralized exchange.
    The protocol’s creators do not have the same connection with users. While there are entire communities of DEX users, you are alone responsible for your own finances.
  • Smart contract risks: Exploitable defects in smart contracts may evade extensive audits and detailed code reviews, causing more harm.
  • Unverified token listings: On DEXs, anybody can create a new token with the purpose of increasing liquidity. However, for investors, this may result in rug pull scams. As a result, traders must exercise extreme caution while validating tokens before to investing in them.

Final Thoughts

The first decentralized exchanges appeared in 2014, and their popularity grew in tandem with the rising popularity of DeFi.

DEXs have moved beyond their traditional order book model shortcomings thanks to the capabilities of the Automated Market Maker technology.

Decentralized crypto exchanges, on the other hand, have proven to be crucial venues for users to borrow cash for leveraging their holdings or give liquidity in return for trading fees.

DEXs have also allowed users to generate passive income from their cryptocurrency holdings by depositing them in liquidity pools.

On the contrary, the usage of smart contracts in DEXs continues to introduce dangers.

What is ERC20?

What is ERC-20?

Prior to the advent of Ethereum, every new coin required its own blockchain.

This put a lot of pressure on developers, who required time and money to build a network that could support their coin or fork an existing blockchain.

The introduction of Ethereum altered that, as it was the first project to operate as a development platform. This opened up a slew of new opportunities for blockchain technology and digital currencies alike.

Ethereum evolved into a platform for the creation of decentralized apps (dApps), smart contracts, and new coins. Soon after, a variety of token formats evolved, with ERC20 being the most popular and dominating.

ERC20 is an acronym that stands for Ethereum Request for Comment (ERC), with the 20 denoting a proposal identification on the blockchain. The proposal ID number specifies the collection of rules that must be followed in order for tokens with that ID to be generated, shared, or transferred, with the ERC20 list being the most extensively used set of protocols.

ERC20 was proposed in November 2015 by Ethereum developer
Fabian Vogelsteller

The standard specifies a set of criteria that must be fulfilled in order for a token to function effectively inside the Ethereum ecosystem. As a result, ERC20 should not be regarded as a piece of code or software. It is more accurately defined as a technical guideline or specification.

In other words, the ERC20 provides developers with a set of standards to follow, allowing for flawless operation inside the wider Ethereum ecosystem. ERC20 tokens are supported by a large number of decentralized apps and services, making it simpler for community members and companies to accept and utilize them on a wide range of applications (such as cryptocurrency wallets, decentralized exchanges, games, and so forth).

ERC20 is one of the most significant Ethereum tokens

What does ERC20 do?

ERC20 defines the functionality and protocols for coins created within its framework.

By describing how they must function, new tokens may be produced very quickly. In comparison to developing them on your own blockchain, it instills consumer confidence in the security of that token. According to Etherscan, around 470,000 token contracts exist under the ERC20 framework at the time this post is being written, owing to their relative simplicity of deployment.

ERC20 Standard Rules

If a smart contract want to use the ERC20 token, it must adhere to certain criteria called ERC standards. In other circumstances, if you do not follow the guidelines, it will not be appropriate to call it an ERC 20 token. There are now nine rules, six of which are necessary and three of which are optional.

The Mandatory Standards

  • totalSupply: specifies the total quantity of ERC20 tokens you intend to produce. To begin creating the token, you must first establish the entire supply of this token. You cannot, under any circumstances, create your own token on the fly since this will have a major impact on the value of these tokens.
  • allowance: The most significant function is the allowance function. In reality, when the contract wishes to carry out a transaction, it has to check the balance of the Ethereum smart contract to determine if the user has the required minimum amount. Using the allowance function, the contract can carry through or cancel the transaction.
  • transfer: The owner can use this function to transmit tokens to another address after determining whether the user has enough tokens to transfer. Furthermore, this behaves similarly to a conventional crypto transaction on other blockchain systems.
  • transferFrom: This function is mostly used to automate specific transactions.
    For example, maybe you have to pay someone the same amount every month, or maybe you have to pay rent and expenses. As a result, you may utilize transferFrom to schedule these payments for a certain day and time.
  • balanceOf: This function’s sole purpose is to return the total quantity of tokens held by any address. In reality, it serves as user information, so if you produced some tokens and sent them to other addresses, you can use this to see how many tokens you have left.
  • approve: The approve function aids in the elimination of token counterfeiting. Once the contract owner has checked the amount, he or she can approve the contract in order to receive the money. This approve function will also check to see whether the number is right in relation to the total quantity of tokens. As a result, counterfeiting tokens is impossible. If this function discovers any discriminates among the numbers, it will reject both the payment and the smart contract.

The Optional Standards

  • Token name: It is critical that the token be connected with a name or identity. Yet, you are not need to name them; however, associating identification with any token is beneficial when utilizing it within a community.
  • Decimal (Max: 18): It is actually pretty significant since it ensures the lowest possible value for your token. If the divisibility is zero, the lowest value is one; if it is two, the lowest value is 0.01. You can go up to 18 decimal places in this case.
  • Symbol: It is mostly used to create brand value via the use of catchy symbols, however you may not necessarily require a symbol for your coin.

ERC20 Advantages

The ERC20 standard has several advantages. It enables developers to create dApps on the Ethereum network. It also aids in the streamlining of the entire standardized procedure. Let us go over the advantages one by one to gain a clearer picture.

  • There is a standard protocol to maintain and follow.
  • Token implementation becomes easy for blockchain developers.
  • ERC20 tokens offer high liquidity.
  • Smart contracts ensure that transactions are risk-free.

ERC20 Disadvantages

  • Transfer function bug: Contract accounts and externally owned accounts are the two types of accounts in Ethereum. When attempting to engage with another externally owned account, just utilize the transfer function to transmit tokens.
    However, when its contract account is used, the transfer feature does not operate well, and you are likely to lose money.  But how exactly? When you use this blockchain technology to transmit money to a contract, the receiver is not alerted. As a result, they will not recognize it, and the token will be trapped within the contract, unable to be used. This is why you must utilize the approval + transferFrom functions. However, using these two might result in double-spending.
  • Low Entry Point: These standards, on the other hand, may be used by anybody to create tokens. There are no restrictions on who may and cannot attend. As a result, many people are producing unnecessary tokens that are flooding the market and, in many cases, creating fraudulent tokens to raise money.

The Takeaway

ERC20 is one of the most effective blockchain protocols. It is in charge of hundreds of tokens on the Ethereum network. It is also developer-friendly.

An ERC20 token may be created and released on the blockchain by anybody. ERC20 may also be used to create utility tokens for a dApp.

What is a Stablecoin?

What is a stablecoin?

A stablecoin is a digital asset that is linked to a physical asset or fiat money. As a result, it is less volatile than other cryptocurrencies such as Bitcoin and Ethereum. The bulk of the 4000+ cryptocurrencies in existence in 2021 are not stable. This implies that they can change dependent on their market capitalization, the number of coins in circulation, the number of individuals investing, and other factors. Stablecoins originated in response to a market requirement for stability. They still use the same blockchain technology as other cryptocurrencies, but they have been designed so that their value does not fluctuate as much.

Types

There is some attraction to fiat currencies, which are backed by the full confidence and credit of the government that issued them. Fiat currencies benefit from some price stability because of this.

This, however, implies that many fiat currencies are essentially controlled by their central banks. Stablecoins are an attempt to bridge the gap between fiat currency and cryptocurrency. Stablecoins are classified into three types based on their operating processes.

  • Fiat-Collateralized: Fiat-collateralized stablecoins keep a fiat currency reserve, such as the US dollar, as collateral in order to issue a sufficient amount of crypto coins. Other kinds of collateral can include precious metals like as gold or silver, as well as commodities such as oil, however most fiat-collateralized stablecoins nowadays employ dollar reserves. Such reserves are managed by independent custodians and are audited on a regular basis to ensure compliance. Tether and TrueUSD are popular crypto currencies with a value equal to one US dollar and are backed by dollar deposits.

Pros:
– Stable price
– Not prone to hack

Cons:
– Needs an auditor to make sure transparency is maintained
– Slow liquidation to fiat

  • Crypto-Collateralized: Stablecoins that are crypto-collateralized are backed by other cryptocurrencies. Because the reserve cryptocurrency may be volatile, such stablecoins are over-collateralized — that is, a higher number of cryptocurrency tokens are kept as a reserve for releasing a smaller number of stablecoins.

Pros:
– More decentralized
– Quick and cheap liquidation — smart contracts

Cons:
– Not as price stable as the fiat baked stable coins
– Tied to the health of a particular crypto currency
– High complexity

  • Non-Collateralized (Algorithmic): Non-collateralized stablecoins do not employ reserves but do feature a functional mechanism, like that of a central bank, to maintain a stable price. For example, the dollar-pegged basecoin employs a consensus process to increase or reduce token supply based on demand. Such operations are analogous to a central bank producing banknotes to sustain fiat currency values. It is possible to do this by deploying a smart contract on a decentralized platform that can run autonomously.

Pros:
– No collateral required
– Most decentralized and independent
– Not tied to any crypto or fiat

Cons:
– Complex to implement as deeper understanding of finance, economics, technology and cryptography knowledge is required to think along these lines.

Advantages

Stablecoins are gaining popularity due to their promise of a more stable cryptocurrency choice. These are the crypto market’s safe bets, with support that prevents them from plunging overnight. But that’s not the only advantage of stablecoins; they also have a broader appeal, which means they’re more likely to get ingrained in society. As a result, it’s less of a risk for investors and early adopters, who can reasonably trust that the money they put into the currency isn’t going to vanish.

When the general public hears about a certain stablecoin, it is simpler to disseminate it and its effect since it is backed by a physical asset. The normal user is more likely to believe a currency that is the digital equal of a dollar than some transitory digital coin.

The presence of this anchoring feature elevates stablecoins from a mysterious new technology to something that even your grandmother could use. This has the potential to dampen the euphoria a little, because few young tech disruptors will be keen to share their preferred money with the older generation, because that’s just not hip enough. But, let’s be honest, hype hasn’t been doing a great job of keeping other cryptos afloat thus far.

Furthermore, stablecoins are a better choice for speedy transactions than options like Bitcoin and its rivals. The consistent pricing, quick turnaround, and accelerated processing make it suitable for paying for groceries or ordering pizza. The key method of grabbing market attention is to embed stablecoins in daily life and make them function for the user, which has shown to be effective so far.

Problems

Stablecoin, although being a hopeful development in the crypto industry, is not without its drawbacks. There’s no getting around the reality that many of the best stablecoins forego decentralization in favor of the same stability that makes people want them. This, in and of itself, contradicts the original ideology of cryptocurrencies and puts the market at risk of monopolization or cornering.

To be sure, some solutions advocate for decentralization while still attempting to retain the objectives of crypto’s creators. Those, however, confront the challenge of obtaining adequate funding. Essentially, if you rely on a bank to handle collateralization, you may anticipate value stability but at the expense of decentralization. Similarly, crypto-backed stablecoins are decentralized, but they must make certain concessions in terms of stability.

It’s always a balancing act, and not every business can pull it off.

Last but not least, while a crash in the underlying currency or asset is less likely than one in the crypto market, it is nevertheless possible. Stablecoins are not immune to nationwide currency value drops, which have historically occurred all over the world, thus they are not immune .However, if you have analytics on your side, you can generally detect this type of disaster well in advance. Just keep in mind that stablecoins aren’t magically guaranteed to remain stable indefinitely, and you’ll be OK.

Wrap up

Stablecoins are similar to traditional currencies, with the exception that they do not have any centralized qualities and instead utilize smart contracts and blockchain, which are written in computer code, to replace the functions of traditional investment and currency platforms. Finally, stablecoins provide greater benefits in terms of hedging the value as well as many methods to invest in DeFi-based smart contracts. Stablecoins eliminate centralization and become the bridge between the real economy and the encrypted economy, allowing users to focus solely on their earning strategy and never worry about the fluctuation in the crypto world.

What is a dApp?

What is a dApp?

A dApp, or decentralized application, is a software program similar to any other software application. It might be a website or a mobile app, but the essential distinction is that they are based on a decentralized network, such as blockchain. This means that no single entity has control over the network.

A smart contract and a frontend user interface are combined in dApps.

For instance, when you write a smart contract on Ethereum, you are really creating backend code for your dApp, and while your dApp will have a user interface like a regular app, either all or part of the backend is built on top of Ethereum.

dApp = frontend + smart contract backend

Advantages

Many of the exciting aspects are center around ability to safeguard user privacy.

  • Censorship-resistant: It is extremely difficult for governments or powerful individuals to manage the network since there is no single point of failure. Proponents of free expression point out that dApps can be created as alternatives to social media sites. Because no single member on the blockchain can remove or stop messages from being uploaded, a decentralized social media network would be impervious to censorship.-
  • No downtime: Using a peer-to-peer approach ensures that the dApps continue to function even if individual machines or sections of the network fail.
  • Open source: This encourages the widespread development of the dApp ecosystem enabling developers to build better dApps with more useful of interesting functions.

Disadvantages

While dApps promise to address many of the major issues that plague traditional programs, they do have certain drawbacks.

  • Early stages: The use of dApps is currently experimental and subject to several challenges and unknowns.
  • Hackers: As many are run on open-source smart contracts, it allows hackers the rare opportunity to probe the networks looking for weaknesses.
  • Usability: The ability to develop a user-friendly interface is another concern. A lot of dApps have poor user-interfaces.
  • Update: Another restriction of dApps is the difficulty of modifying code. Once launched, a dApp will almost certainly require continuing updates to provide additions or to repair bugs or security threats. According to Ethereum, developers may find it difficult to make necessary upgrades to dApps since the data and code broadcast to the blockchain are difficult to edit.

Closing Thoughts

The “cryptoverse” has expanded dramatically since the birth of Bitcoin, the first cryptocurrency. The ability to store data in a decentralized manner was a crucial prelude to the decentralization of code execution. With Ethereum, smart contracts may now be deployed all around the world to power the backend of present and future dApps. And as more dApps are released, we’ll move closer to a more free, fair, and accessible internet.

What is a Smart Contract?

What is a Smart Contract?

Smart contracts are essentially programs, recorded on a blockchain, that run when certain criteria are satisfied. They are often used to automate the implementation of an agreement so that all participants are instantly confident of the outcome, without the participation of an intermediary or the waste of time.

Smart contracts allow trustworthy transactions and agreements to be carried out between disparate, anonymous individuals without the requirement for a centralized authority, legal system, or external enforcement mechanism.

While blockchain technology has come to be thought of primarily as the foundation for Bitcoin​, it has evolved far beyond underpinning the virtual currency.

Origin

Smart contracts were first proposed in 1994 by Nick Szabo, a computer scientist who invented a virtual currency called “Bit Gold” in 1998. Szabo defined smart contracts as computerized transaction protocols that execute terms of a contract. He wanted to extend the functionality of electronic transaction methods, such as point of sale (POS), to the digital realm.

Many of Szabo’s predictions in the paper came true in ways preceding blockchain technology. For example, derivatives trading is now mostly conducted through computer networks using complex term structures.

How smart contracts work?

Smart contracts operate by executing basic “if/when…then…” statements typed into code on a blockchain. When preset circumstances are met and validated, a network of computers conducts the activities. These activities might include transferring payments to the proper parties, registering a vehicle, providing alerts, or issuing a ticket. When the transaction is completed, the blockchain is updated. This implies that the transaction cannot be modified, and the results are only visible to persons who have been granted permission.

Participants must agree on the “if/when…then…” rules that govern those transactions, investigate any conceivable exceptions, and create a framework for resolving disputes in order to set the terms.

Finally the smart contract can be coded by a developer; however, firms that use blockchain for business are increasingly providing templates, web interfaces, and other online tools to facilitate smart contract construction.

Advantages of Smart contracts

  • Speed, efficiency and accuracy: When a condition is satisfied, the contract is instantly executed. Because smart contracts are digital and automated, there is no paperwork to handle, and no time wasted correcting errors that frequently occur when filling out forms manually.
  • Security: Blockchain transaction records are encrypted, making them extremely difficult to hack. Furthermore, because each record on a distributed ledger is linked to the preceding and subsequent entries, hackers would have to modify the entire chain to change a single record.
  • Trust and transparency: There is no need to question if information has been manipulated for personal gain because there is no third party engaged and encrypted records of transactions are transmitted between participants.
  • Savings: Smart contracts eliminate the need for middlemen to conduct transactions, as well as the time delays and fees that come with them.

Future

For the time being, the most significant hurdle to widespread smart contract use is scalability. Processing data for thousands of internet firms would need a substantial amount of processing power. And capacity and speed are restricted on Ethereum. However, the future of blockchain is only around the corner. Capacity and speed appear to be no longer a problem as initiatives like the Internet of Things (IOTA) and the Internet of Services (IOST) show promising outcomes. This might imply that whole decentralized businesses function on smart contract technology, processing payments, moving assets, and managing day-to-day operations in a safe and distributed manner. Gartner, a research firm, definitely believes so. According to their annual report, smart contracts will be employed in more than 25% of worldwide businesses by 2022. It might be time to start thinking about how smart contracts could help your company.

What is Ethereum?

What is Ethereum?

Ethereum is an open-source decentralized blockchain-based platform that allows individuals to conduct transactions and draw up contracts.

It has its own cryptocurrency, called Ether, and its own programming language, called Solidity.

As a blockchain network, Ethereum is a decentralized public ledger for verifying and recording transactions. The network’s users can create, publish, monetize, and use applications on the platform.

The most fascinating aspect of Ethereum is that the code published on its blockchain cannot be changed, modified, or hacked.

It is a decentralized programmable blockchain-based software platform, not simply a blockchain.

Ethereum was established in the summer of 2015 with the goal of broadening the spectrum of blockchain and cryptocurrency applications beyond Bitcoin’s initial scope, including permissionless financial services, crowdfunding, and new organizational structures.

Origin

Ethereum was initially described in a white paper by Vitalik Buterin, a programmer, in late 2013 with a goal of building decentralized applications.

Buterin argued to the bitcoin core developers that Bitcoin and blockchain technology could benefit from applications other than money, and that a more robust language for application development was needed, which could lead to the blockchain being used to store real-world assets like stocks and property. He recommended the construction of a new platform with a more sophisticated programming language, which would later become Ethereum, after failing to reach agreement on how the project should proceed.

Formal development of the software began in early 2014 through a Swiss company. The basic idea of putting executable smart contracts in the blockchain needed to be specified before the software could be implemented.

Several codenamed prototypes of Ethereum were developed over 18 months in 2014 and 2015 by the Ethereum Foundation as part of their proof-of-concept series.

In July 2015, “Frontier” marked the official launch of the Ethereum platform as Ethereum created its “genesis block.”

Since the initial launch, Ethereum has undergone several planned protocol upgrades, which are important changes affecting the underlying functionality and/or incentive structures of the platform.

After the Constantinople upgrade on 28 February 2019, there were two network upgrades made within a month late in the year: Istanbul on 8 December 2019 and Muir Glacier on 2 January 2020.

There have been two network upgrades in 2021. The first was the Berlin upgrade, implemented on 14 April 2021. The second was London, which took effect on 5 August. The London upgrade included Ethereum Improvement Proposal (“EIP”) 1559, which introduced a mechanism for reducing transaction fee volatility. The mechanism causes a portion of the Ether paid in transaction fees each block to be destroyed rather than given to the miner, reducing the inflation rate of Ether and potentially resulting in periods of deflation.

How does Ethereum work?

You might have heard that the Bitcoin blockchain is a lot like a bank’s ledger, or even a checkbook. It’s a running tally of every transaction made on the network going back to the very beginning — and all the computers on the network contribute their computing power towards the work of ensuring that the tally is accurate and secure.

The Ethereum blockchain, on the other hand, is more like a computer: while it also does the work of documenting and securing transactions, it’s much more flexible than the Bitcoin blockchain. Developers can use the Ethereum blockchain to build a huge variety of tools — everything from logistics management software to games to the entire universe of decentralized applications (which span lending, borrowing, trading, and more).

Ethereum uses a virtual machine to achieve all this, which is like a giant, global computer made up of many individual computers running the Ethereum software. Keeping all of those computers running involves investment in both hardware and electricity by participants. To cover those costs, the network uses its own cryptocurrency, Ether (or, more commonly, ETH).

ETH keeps the whole thing running. You interact with the Ethereum network by using ETH to pay the network to execute smart contracts. As a result, the fees paid in ETH are called “gas”.

Use cases

  • Decentralized finance (DeFi): An open and global financial system built for the internet age — an alternative to a system that’s opaque, tightly controlled, and held together by decades-old infrastructure and processes. It gives you control and visibility over your money. It gives you exposure to global markets and alternatives to your local currency or banking options. DeFi products open up financial services to anyone with an internet connection and they’re largely owned and maintained by their users. So far tens of billions of dollars worth of crypto has flowed through DeFi applications and it’s growing every day.
  • Non-fungible tokens (NFTs): Tokens that we can use to represent ownership of unique items. They let us tokenise things like art, collectibles, even real estate. They can only have one official owner at a time and they’re secured by the Ethereum blockchain — no one can modify the record of ownership or copy/paste a new NFT into existence. NFTs and Ethereum solve some of the problems that exist in the internet today. As everything becomes more digital, there’s a need to replicate the properties of physical items like scarcity, uniqueness, and proof of ownership. Not to mention that digital items often only work in the context of their product.
  • Decentralized autonomous organisations (DAOs): Think of them like an internet-native business that’s collectively owned and managed by its members. They have built-in treasuries that no one has the authority to access without the approval of the group. Decisions are governed by proposals and voting to ensure everyone in the organization has a voice. There’s no CEO who can authorize spending based on their own whims and no chance of a dodgy CFO manipulating the books. Everything is out in the open and the rules around spending are baked into the DAO via its code.

Advantages of Ethereum

Aside from decentralization and anonymity, Ethereum also has various other benefits, such as a lack of censorship. For example, if someone tweets something offensive, Twitter can choose to take it down and punish that user. However, on an Ethereum-based social media platform, that can only happen if the community votes to do it. That way, users with different viewpoints can discuss as they see fit, and the people can decide what should and shouldn’t be said.

Community requirements also prevent bad actors from taking over. Someone with ill intentions would need to control 51% of the network to make a change, which is nearly impossible in most cases. It’s much safer than a simple server that can be broken into.

It’s also getting easier than ever before to acquire Ether. Companies like PayPal and its Venmo subsidiary support purchasing crypto with fiat currency right within the application. Considering the millions of customers on each platform, they’re bound to get involved sooner rather than later.

Disadvantages of Ethereum

While it sounds like the perfect platform, Ethereum has a few key issues that need to be worked out.

The first is scalability. Buterin envisioned Ethereum the way the web is now, with millions of users interacting at once. Due to the PoW consensus algorithm, however, such interaction is limited by block validation times and gas fees. Furthermore, decentralization is a hindrance. A central entity, like Visa, manages everything and has perfected the transaction process.

Second, there is accessibility. As of the time of writing, Ethereum is expensive to develop on and challenging to interact with for users unfamiliar with its technology. Some platforms require specific wallets, which means that one must move ETH from their current wallet to the required wallet. That’s an unnecessary step for users ingrained in our current financial ecosystem and not beginner-friendly in the slightest.

Sure, PayPal is adding crypto support, but users can’t do much aside from holding it there. The platform needs to integrate with DeFi and DApps to increase accessibility in a meaningful way.

The platform does have some well-written documentation on the matter — another key way to bring in more users. But the act of actually using Ethereum needs streamlining. Learning about blockchain is very different from using it.

Patricio Aguirre
Proactive Computer Engineer - Blockchain Enthusiast & Crypto Learner