What Does Oracle-Free Really Mean?

The Frankencoin is a collateralized, oracle-free stablecoin that tracks the value of the Swiss franc. But what does oracle-free mean? This article explains the concept and value of this innovation.

What are Oracles?

To understand what oracle-free means, it is important to understand what oracles are. As the name suggests, oracles provide information. They act as a bridge between a blockchain and the “outside world”. There is no way for a blockchain to know the price of a token – a blockchain is a closed system and does not track prices. For example, while Bitcoin or Ethereum tokens have a market price, the blockchain itself does not know what that price is. 

This is where oracles come in: They transfer off-chain data onto the blockchain, which allows dApps to use external information, such as the price of a token. The most common oracle provider is Chainlink, which uses multiple sources and feeds data into smart contracts. 

The Risks of Oracles 

While oracles have advantages, they also introduce new risks. While Chainlink is widely considered to be safe, it still introduces additional risk. If an oracle feeds wrong data into a smart contract, it could have devastating consequences for stablecoins or other financial ecosystems that need precise and correct data to operate correctly.

Users mint new ZCHF by over-collateralizing their positions. If the value of the collateral falls, the system automatically adjusts by incentivizing liquidations, during which the collateral is sold to maintain the peg. If an oracle were to malfunction, positions could be challenged immediately. A malfunctioning oracle could, for example, provide a Bitcoin price of 6 000 ZCHF, while it really is at 60 000 ZCHF. This type of failure would undermine the stability of the entire system. 

Without a price oracle, the Frankencoin community is taking over this role. Successful challenges award a certain fee to the challenger, which incentivizes the surveillance of open positions. False challenges have no impact on a well-collateralized position, which ensures that there are no unjustified challenges. If certain positions fall close to or below a 100% collateralization ratio, challenges can be initiated. If there is a fee to earn, there is also going to be a challenger. There is no central authority that is conducting this process: In true decentralized fashion, this is done by participants of the ecosystem. 

This risk that price oracles come with is unacceptable. A truly decentralized system should not rely on external factors in order to work as intended. Even if oracles are decentralized, they still introduce an element of reliance into the system as users must rely on the accuracy of the provided data.

For Frankencoin, the decision to go oracle-free was a strategic one. It aligns with the Frankencoin’s uncompromising decentralization and security. In the Frankencoin system, stability is maintained entirely on-chain.

Looking to the Future

The entire DeFi space continues to grow rapidly. With this growth, innovation is not only wanted, but also needed. The DeFi space has seen a lot of innovation, which helps the space to expand and to mature. 

The oracle-free nature of the Frankencoin may serve as inspiration for further development in this field. Relying on oracles can be dangerous, especially for projects focused on decentralization and security. Frankencoin’s approach could inspire other collateralized stablecoins to follow suit. In fact, there is already another stablecoin project that was inspired by Frankencoin’s unique architecture.

The Frankencoin is completely open source. This means that future collateralized stablecoins have the option to copy the Frankencoin idea as well as the actual code that powers Frankencoin’s oracle-free design.

Frankencoin proves that reliance on price oracles is not a necessity. As the DeFi space continues to mature, the oracle-free model could become a cornerstone of future development.