If you are a blockchain or cryptocurrency fan, you have probably thought about making purchases with your crypto. One of the examples people use as a metric for the success of cryptocurrency is being able to buy a cup of coffee with it. If you can go into your local coffee shop and use Bitcoin or some other cryptocurrency, then it has been adopted by the masses.
Ten years in though, and being able to purchase coffee with your favorite crypto is far from ubiquitous. Only a handful of places accept cryptocurrency and we’re far from a standard acceptance method. The few brick and mortar merchants that do accept crypto as payment do not all accept the same cryptocurrencies. Usually, it’s just a few top cryptocurrencies like Bitcoin and Ethereum.
This is a big problem. Sure, a merchant may have their favorite cryptocurrency that they want to support. But maybe their customers want to use some other currency. Even if consumers are using fiat currencies but are using blockchain tokens like DAI or Tether, there still could be a disconnect.
In design terms, this is called over-coupling. As more and more assets enter the market, this becomes a bigger and bigger issue.
The Problem of Non-Fungibility
Fungibility means that identical denominations of the same currency have the same value. One $50 bill is the same as another $50 bill. Typically good money is considered to need a high degree of fungibility. But in a world with an increasing number of assets available to everyone in the world thanks to blockchain, fungibility is becoming an issue.
Consider a merchant that wants to accept Bitcoin as payment but their customer wants to use Ethereum. First, there needs to be a system or service in place that can exchange Ether and deposit Bitcoin into the merchant’s wallet at the point of sale. There are some centralized services that can do this but usually, their fees for providing this service are greater than traditional payment methods. This isn’t a very attractive system for most businesses, especially brick and mortar shops which often are smaller scale and have tighter profit margins.
Perhaps smart contracts could be used to facilitate the process. This might be feasible for the specific instance of the BTC/ETH pair. But for any other pairs, this will be problematic as there could be a lot less liquidity which will lead to price slippage and lower profits. What about a pair like XLM/BAT?
In a world where cryptocurrency is the defacto payment method, there will surely be many cryptocurrencies that people use. Merchants and customers will likely have arbitrary currencies that they would like to spend. For each cryptocurrency that is on the market, the problem of non-fungibility increases exponentially.
As each new currency hits the market the amount of possible pairs, and therefore mismatches between merchants and consumers multiples. It is N to the power of N pairs. Merchants and consumers should not have to even think about what currency they are paying or receiving. Everything needs to happen on the backend and automatically. People have too many things to think about.
Blockchain interoperability is the first step in solving this problem. Atomic swaps are just one of the ways this can be solved. Atomic swaps work by allowing two parties to make a trade with two assets on separate blockchains without using a centralized exchange. It is a second layer solution. It will allow a customer using Ether to easily settle a payment in Bitcoin (nearly) instantly. With second layer solution like the lightning network combined with good user interfaces in wallets, this can become a cheap and painless process.
Everyone gets to use the currency of their choice.
This is just the first step, however. If the desired payment requires two more obscure pairs there might not be enough liquidity between. This can be solved in most cases if an intermittent currency that has high liquidity between them is used. Such as Bitcoin or Ethereum. Major cryptocurrencies will become crypto economy hubs for payments and asset interoperability.
This payment method would like like this.
Customer sends BAT to a smart interoperable-wallet ->
Wallet exchanges BAT for ETH – >
Wallet then swaps ETH for XLM ->
The merchant receives their preferred currency (XLM).
There are several projects in the space working on creating cross-blockchain transactions. Some of these projects could become key players in the space. The ability to connect blockchains more directly is hugely important and the top projects will surely capture a lot of hidden value in the market. Metcalfe’s law states that the more nodes or agents connected to a network, the more valuable it becomes. By connecting blockchains to each other, it joins them creating one giant blockchain network multiplying the value of those networks.
The ARK blockchain uses a method called a smart bridge for communication between blockchains. It works by inserting some code into the blockchain which then allows ARK to interact with it. If you hold ARK tokens and want to execute a smart contract on Ethereum, you can send the transaction on ARK. The code on the Ethereum blockchain is always listening for operations on the ARK smartbridge. This makes it possible to interact with Ethereum from the ARK blockchain or on some other blockchain that’s also connected to ARK.
Cosmos blockchain is a cross-chain smart contract platform which allows for atomics swaps to happen trustlessly. It adds to the functionality of blockchains like Ethereum and provides extra scaleability as well.
Polkadot enables cross-blockchain transfers of any type of data or asset on blockchains not just tokens. This is hugely innovative and important for non-fungible assets like tokens of ownership.
Tezos is a blockchain with a unique on-chain governance protocol focused on giving power to the stakeholders of the project. Like the other projects they are developing the ability of cross-blockchain transactions as well.
Why is asset interoperability important?
Aside from the scenarios outlined above, blockchain is quite important for the adoption of blockchain. With so many assets now at the availability for everyone it will become a key technology for blockchain adoption. Whether someone is using cryptocurrencies, fiat currencies or other asset-backed tokens. It will give people the option to use almost any currency for almost any purpose. Even if you are a crypto maximalist it will still be beneficial for the ecosystem as a whole since most of these tokens will be on the most popular blockchains for tokens like Ethereum, Stellar, and Waves. It will require gas in the native blockchain tokens for transaction fees. This will tap the market share of people who prefer other currencies and assets who otherwise would continue using traditional payment systems.
New kinds of money
Asset agnosticism will open completely new forms of commerce on a massive scale. One example of this is commodity money. With commodity money, if you don’t like the volatility of Ethereum, you could choose to hold and transact with Digix Gold backed tokens. Oil, sugar, or any tokenized asset are also possibilities. You will only be limited to what is available on the market.