Although they grabbed less media attention than the collapse of centralized organizations, the so-called bridge exploit incidents in 2022 again proved that the decentralized finance (defi) ecosystem still lacks sufficiently secure solutions, Hugo Philion, the co-founder and CEO of Flare, has argued. Philion insists that the lack of such secure solutions has constrained the growth and use of defi products.
Lack of Communication Between Chains
In written responses sent to Bitcoin.com News, Philion claimed that the large-scale, cross-chain experimentation primarily seen in 2020 and 2021 potentially explains why more than $2 billion has been lost via the so-called bridge exploits of the past 12 months. However, according to the Flare CEO, while it may not be possible to completely eliminate risks for users, bridges could “be made substantially safer.”
Besides addressing security-related issues, Philion also offered his thoughts on many other issues that range from the possible use of non-smart contract digital assets in defi and Web3, to insuring digital assets when they are moved across chains.
Below are Philion’s responses to the questions sent.
Bitcoin.com News (BCN): Can you explain why no one has been able to securely unify the ecosystem yet?
Hugo Philion (HP): Blockchains have historically been designed as distributed ledgers processing native transactions, i.e. for bitcoin, the movement of the native asset bitcoin from address A to address B. They haven’t been designed to relay information between themselves, i.e., the Bitcoin chain cannot tell you what happened on the Ethereum chain at block #1083483. This creates a communication problem: how can information about different chains be reliably gathered and validated with decentralization analogues to the chains themselves? Furthermore, how can this be achieved while accounting for the risk of chain rollback?
To date, sufficiently secure and decentralized mechanisms to acquire and confirm state between disparate blockchains, apart from rollups, have not been built. A single solution likely does not exist. Instead, potentially multiple, different solutions will suit different use cases.
BCN: How does the lack of efficient communication mechanisms between chains affect dapp (decentralized app) developers?
HP: Today the biggest use case in the blockchain is decentralized finance (Defi). The lack of adequate cross-chain communication has constrained the size, participation, and efficiency of the Defi market. Not only have existing designs resulted in the loss of billions of dollars of capital, but they are also hard to use, limiting participation to more sophisticated users. As a result, market size, liquidity, and returns have been constrained.
Furthermore, use cases leveraging communication that could drive adoption have remained undiscovered. A simple example could be assets purchased or traded on a smart contract chain with direct payment in bitcoin. For blockchain engineers, this could enable a number of protocols that could ultimately revolutionize the digital ticketing market, gaming, or payment gateway technologies, for example. With high-integrity communication between chains, this simple example is just the starting point.
BCN: Do cross-chain activities pose systemic risks to the industry? And if so, how?
HP: Yes. A case in point is how a cross-chain communication failure can wreak havoc on an entire downstream blockchain ecosystem. We have seen this recently with multiple bridge exploits. Without sufficiently secure and decentralized mechanisms for acquiring and reliably moving data between siloed blockchains, false information can be reported and relied upon to inform the movement of assets. If information is revealed to be incorrect after transactions have been validated and assets have subsequently been reallocated to more established chains, the risk is introduced to the entire system.
BCN: What do you think made cross-chain bridges quite notorious in 2022 and are there any innovations that could help restore users’ faith in bridges? Also, can bridging solutions give users a fair degree of protection against the risk of losing their assets?
HP: [The years] 2021 and 2022 have witnessed large-scale cross-chain experimentation. As a result, cross-chain bridges received their first real stress tests. Ultimately, many performed abysmally with more than $2 billion of funds exploited in the last 12 months. The general inability to safely move assets across chains has likely hampered development in the space.
I believe that by integrating suitably decentralized cross-chain communication akin to the underlying blockchain consensus mechanisms themselves, bridges could be made substantially safer. Furthermore, if assets are insured at the protocol level as they move across chains, additional risk can be mitigated.
Protection is thus a two-step process. First, risk must be minimized at the protocol level. Second, where possible, usage should be insured. In any complex financial system, risk will likely never be zero, but users must be protected where possible.
BCN: How can the non-smart contract chains be connected with one another and is it possible to upgrade or to make crypto assets like bitcoin compatible with the defi world?
HP: Blockchains are siloed public databases that cannot natively read or report external transactions. At Flare, we are working on two general models to upgrade non-smart contract chains: payment triggers and bridging.
A payment trigger involves a smart contract function being triggered on one chain by a transaction on another chain. This delivers simple and useful functionality, such as paying for a collectable on a smart-contract platform with bitcoin or any other token. To do this well, a sufficiently decentralized data acquisition protocol requiring a number of participating validators to prove a transaction on a specific chain is required. At this point, data can be queried, acquired and securely reported to another chain. Then, other blockchain events can be triggered. Such a mechanism can be implemented for multiple non-smart contract chains so they can be referenced and connected.
In contrast, bridging brings full smart-contract features to a token such as bitcoin. With secure data acquisition and natively-available on-chain decentralized prices, it then becomes possible to create synthetic versions of these assets on a smart-contract chain. Crucially, in Flare’s proposed model, unlike previous synthetic models, the user is only required to provide the underlying token itself, such as bitcoin. This removes the over-collateralization requirements and eliminates the direct market risk from the user, meaning that they do not need to actively manage the position. These 1:1 representations of assets like bitcoin can then be deployed in Defi and other decentralized applications.
BCN: So what novel opportunities and use cases do you foresee if non-smart contract assets can be used for defi and Web3 activities?
HP: Approximately 70% of the total market capitalization of digital assets is composed of bitcoin, XRP, and dogecoin. Wide-scale usage of non-smart contract assets in Defi would mean greater liquidity for the market and reduced reliance on centralized services for users.
For creators, there would be a larger available market and for token holders, decentralized access to this market. Additionally, on-ramping non-smart contract tokens onto a scalable chain also enables an alternative payment rail beyond efforts like Lightning. We also believe that Web3 needs greater scope, utility and consumer appeal through sufficiently decentralized and reliable communication protocols between blockchains and non-blockchain networks. We want to enable tokens like bitcoin to be used with these applications.
BCN: In very simple terms, can you explain what native interoperability protocols are all about?
HP: Flare has two unique protocols built natively into the network: the State Connector and the Flare Time Series Oracle. They are native because they are built directly into the blockchain using the FLR token to incentivize data provision, and they use the network itself to secure accurate data provision.
In simpler terms, for an actual five-year-old, these protocols are Flare’s sensors, allowing it to reliably “see” what is taking place across other blockchains, make a note of it for future reference, and base decisions upon it. This is similar to how our senses allow us to see what’s going on around us and interact with the world.
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