Today, paying for
purchases in cryptocurrencies no longer seems like something out of the
ordinary. Many online stores accept Bitcoin (BTC)
and other coins along with traditional currencies, while in some cafes,
cryptocurrency holders can even pay using point-of-sale terminals.

However,
there is one thing that distinguishes traditional financial systems
from cryptocurrencies: advanced interoperability. Thanks to
interoperability, cardholders can make payments anywhere in the world
without worrying about device compatibility and currency conversion.

Crypto interoperability

An
owner of a crypto wallet can only dream of this, but a sign hanging on
the door of a restaurant that says “Cryptocurrency accepted here” does
not guarantee that patrons will be able to pay for their dessert with
Ether (ETH). Instead, a server with a surprised look on their face will say that the restaurant’s terminals work only with Bitcoin.

However,
if the visitor’s blockchain wallet and the restaurant terminal were
compatible, the client would not have to remember what crypto they have
on balance. The only thing that would be needed is to simply scan a QR
code, and the system would convert the currency into the one accepted.

In
order for users to pay with ETH in stores that accept BTC, their
blockchain systems must be cross-chain interoperable. The question
remains: Why, even 11 years after the first decentralized systems appeared, is this still a problem?
The fact is that until recently, each type of blockchain was built as a
separate independent ecosystem, and the developers seemed to be
preoccupied more with competing with each other rather than working on
things like compatibility.

However, with the growing popularity of
decentralized finance in 2020, the issue of cryptocurrency
compatibility is getting more relevant than ever. The thing is that the
DeFi industry itself was conceived as a single financial ecosystem, the
products of which could be compatible with each other. Jonathan
Schemoul, the founder of decentralized application network Aleph.im,
told Cointelegraph: “By nature, smart contracts are composable, small
building blocks that can be combined to abstract away complexity and
deliver a smoother experience to the customer.”

Today, DeFi is a market with a volume of locked funds of over $10 billion,
which is becoming an alternative to banking services for thousands of
users due to attractive rates for loans and deposits offered by DeFi
products. An important factor contributing to this sector’s popularity
is the successful attempt of DeFi developers to partially solve the
compatibility problem. As a result, users can seamlessly exchange
different tokens or refinance a loan from one asset to another.

However,
despite such grand ambitions, the DeFi sector still lacks bank card
compatibility. While fiat currencies can be exchanged anywhere, it’s
still harder to bridge crypto to fiat and even harder to bridge crypto
to crypto. To evaluate the progress being made by industry players in
this direction, it’s important to understand how the concept of
interoperability has evolved from the first attempts to bridge the gap
between two blockchains to today’s cross-chain DeFi transfers.

2012 to present time

Few people know, but the first attempt to make cryptocurrencies interoperable was made
back in 2012 by Joseph Chow. The developer created the BTC-Relay system
with the purpose of obtaining information from the Bitcoin chain and
using it in Ethereum smart contracts. Funds sent in BTC to an ETH
address through a special smart contract that received information on
the Bitcoin blockchain would then be transferred to Ethereum as soon as
the transaction was confirmed.

In 2017, the first-ever atomic swap
took place between the Decred, Litecoin and Bitcoin networks. In the
same year, blockchain company Lightning Labs successfully completed an atomic swap between the Bitcoin and Litecoin test networks
without registering a transaction on both blockchains. Atomic swaps
allow the exchange of cryptocurrencies from different blockchains
without involving third parties and underlie peer-to-peer trading on
today’s decentralized exchanges. However, not every network can work
with this solution. For cross-platform payments, the network must
support the Lightning Network and Segregated Witness.

The next big step toward the interoperability of crypto was taken by Bancor
in 2018 with the BancorX solution, which allows conversions between any
Ethereum-based asset and EOS without the need to deposit funds to the
exchange and the need to reconcile orders between buyers and sellers.
Any Ethereum-based token can be converted to other EOS-based tokens in
one click without conversion fees.

More recently, Javascript creator Brendan Eich has combined several intermediate tokens that can correlate with BTC, Litecoin (LTC),
ETH and any other asset in a single Universal Protocol platform.
Notably, these tokens are not native to a particular blockchain and can
be created on any distributed ledger protocol.

In 2020, technology
companies repeatedly noted the importance of combining the efforts of
large blockchain platforms, which, until recently, were created
autonomously from one another. This year, NEO, Ontology and Switcheo
have launched a joint project called Poly Network
— a heterogeneous interoperability protocol alliance aimed at
seamlessly integrating the Ethereum, Cosmos and NEO blockchains into the
larger cross-chain ecosystem.

Is DeFi a breakthrough in cross-chain interaction?

Now
getting back to that cafe where a customer wanted to pay with crypto.
It doesn’t matter what tokens the customer holds since the establishment
of supports systems, such as Wanchain, provides
“cross-chain asset transfers,” allows to connect to all the major
blockchain platforms like Bitcoin, Ethereum and EOS, and provides asset
conversion without the need to change any of the original properties or
by a bridging chain.

The emergence of decentralized finance can
significantly narrow the gap between crypto and the traditional
financial system. Moreover, according to experts, DeFi solutions are
able to solve the issue of integrating cryptocurrency into the financial
world even faster than the payment industry leaders such as PayPal or
Coinbase.

Speaking
at Ethereal Summit, Antonio Juliano, the founder of margin lending
platform dYdX and, previously, a software engineer at Coinbase, shared
his observations on how much effort Coinbase made on traditional
financial integrations versus decentralized alternatives: “About
75% of the company’s effort goes to dealing with the traditional
payment side. And a very small proportion of that […] is actually
integrating directly with the crypto side.” Juliano also added that it
would be much easier to build these new financial products in DeFi.

Reflecting
on whether cryptocurrencies can achieve the same level of fungibility
and user experience as traditional payment systems, Peter Mauric, the
head of public affairs at blockchain infrastructure firm Parity
Technologies, told Cointelegraph that while the decentralized fintech
sector is gaining popularity, digital payment applications are simple to
implement on scalable, interoperable, crypto-economic networks: “As
distrust between users and the traditional financial systems grows, I
predict we will start to see blockchain-based payment, lending, saving
and banking apps gain in popularity.”

Some cases show that DeFi
solutions are already winning this competition. For example, Curve
provides efficient interoperability among stablecoins that exceeds what
is currently offered by centralized finance.

In less than a year,
DeFi projects have reached the level of some banking services, and to
some extent, they’ve managed to do what banks have not been able to do
so far — to launch cryptocurrency lending and deposit services. Many of
these platforms have made significant strides in internal
interoperability. For example, Instadapp has created a single point of access to several platforms at once,
such as MakerDAO, Aave, Compound and Curve, for users to take loans or
make deposits and made it possible to refinance debt from one chain to
another.

Better scalability with fast latency blockchains is
already making things look similar to credit cards in terms of
transaction processing times and fees, according to Sandeep Nailwal,
co-founder and chief operations officer at blockchain scalability
platform Matic Network. The platform’s sidechains support two-second
block times with extremely low transaction fees, making the payment
experience look more like a bank card transaction.

But what’s more
important is that DeFi solutions enable the transfers of all types of
assets, and not only cryptocurrency. Polkadot, for instance, created one gateway to bridge any type of blockchain through so-called parallel chains.

However,
the opposite side of the increased functionality such cross-chain
solutions provide can be decreased network security when foreign tokens
are transferred to proof-of-stake blockchains. This is especially
applicable to staking, which is what Polkadot is based on. If the amount
of tokens deposited is greater than the value of tokens at stake, then
validators have incentives to misbehave.

One possible solution to this problem was proposed
by KIRA Network, which made it possible for any deposited token to be
staked so there are no limitations in terms of how much can be
transferred cross-chain or used on the platform safely. The developers
also brought the cross-chain interoperability to the next level,
allowing for cross-chain transfers across almost any network, whether
it’s proof-of-stake or proof-of-work, as long as they have finality or
probabilistic finality.

Overall, it seems that DeFi developers
have made great progress in making cross-chain transactions possible.
However, there is still much work to be done to bring this
interoperability to that next level. Some believe that insufficient
scalability, high fees and regulation among the main hurdles for
reaching the same level of interoperability.

External interoperability is still under question

While
emerging DeFi systems offer easy and low-cost conversions across
various cryptocurrencies, even those considered today to be inexpensive
carry very high fees when used for typical purchase-sized conversions.
This is because any merchant who works with crypto sooner or later will
need to convert it into fiat. While this is where higher fees are
hidden, according to Mike Toutonghi, the lead developer at Verus — a
zero-knowledge technology and privacy-oriented project — the total
combined value of these fees may exceed the cost of debit or credit card
transaction processing. He told Cointelegraph:

“All
these fees together inevitably make up the total fee overhead for both
merchant and customer. While it may seem that the 0.3% fee offered by
Uniswap liquidity pools is only a fourth of the best credit or debit
card fees, one must consider Ethereum or other network fees, and unless
the merchants start accepting native cryptocurrency more broadly, these
fees and the delays associated with conversion are in addition to,
rather than in lieu of the total fees paid by fiat users.”

Interoperability
can still remain internal until cryptocurrencies solve the problem of
limited scalability. This limitation is mainly due to Ethereum’s
infrastructure, according to Danial Daychopan, founder of Plutus — a
gateway that connects blockchain technology with the existing
infrastructures. Speaking with Cointelegraph he suggested that this is,
however, just a matter of time: “Smart contracts are still not reliable
or scalable to millions of users but with concepts such as sharding, it
could be possible to greatly increase the number of possible crypto
transactions, making it a feasible alternative to bank card payments.”

Related: Blockchain Interoperability Explained

Others
stress that DeFi protocols need to implement controls for Anti-Money
Laundering that will be acceptable for merchants and payment providers.
Michael Shaulov, the CEO of Fireblocks, told Cointelegraph that some
progress, however, is being made in this direction:

“We
are not there yet, but it is on their [DeFi platforms] roadmap and
technically feasible if we look at how they blocked funds from the
KuCoin hack. At the end of the day, the market eventually finds its way
when a more efficient alternative exists.”

Bridging fiat to crypto is the next step

Although,
in theory, it’s possible to pay with Ether in every cafe where only
Bitcoin is accepted, such practice is not common yet. However, the big
steps that have recently been taken to unify the efforts of blockchain
systems make it possible to believe that interoperability will soon
cease to be a problem for cryptocurrencies.

Related: Blockchain interoperability: The big picture

This
suggests that reaching the next level of interoperability — external
this time — is just around the corner. And big steps are being made to
create free space where digital money will be compatible with fiat. For
instance, Ripple is working on the Interledger Protocol that allows for carrying out transactions between blockchain and non-blockchain platforms. 

source link : https://cointelegraph.com/news/crypto-interoperability-evolves-from-blockchain-bridges-to-defi-transfers