With many new terms in the crypto world, questions about their meanings arise, one of which is: what is an oracle in crypto?

Blockchain’s initial goal was to be a part of the broader economy. Even though crypto challenges many segments of traditional finance, if blockchain couldn’t interact with the outside world, its use cases would be substantially limited.

Yet, how can off-chain data be imported without sacrificing the blockchain’s decentralization? That’s where blockchain oracles step in. Keep reading to learn more.

What Is an Oracle in Crypto?

Oracles offer external data to smart contracts that use blockchain technology. They represent a method of communication between the outside world and the blockchain.

Since blockchains and smart contracts are closed systems with strict processes for connecting to external data sources, oracles can securely offer off-chain data to the on-chain environment of a blockchain network.

What is a blockchain oracle’s role? Let’s take an example:

Imagine that Sara and Sam want to bet on who will win the next big basketball match. Sara thinks it will be Team X, whereas Sam bets on Team Y. They send ETH to a smart contract created to pay the funds to the winner once the match ends.

With no oracle, the smart contract wouldn’t be able to execute since there wouldn’t be any way to know what happened during the match. Still, if Sara and Sam’s smart contract is created to interfere with a sports website to discover the winner, it can successfully execute the payout. That’s how oracles help.

Types of Blockchain Oracles

Let’s learn more about the oracle types:

  • Inbound and outbound oracles: The former usually deliver off-chain (real-world) data to the blockchain, with the imported data representing anything from meteorological conditions to asset price shifts. A typical use case might involve programming to execute a buy order when an asset reaches a specific price. The latter deliver blockchain data to the outside world, notifying it of an event that happened on-chain.
  • Centralized and decentralized oracles: A single entity manages centralized oracles, which are the smart contract’s only data source. Since the contract’s efficiency only depends on the entity controlling the oracle, using one data source is dangerous, making the contracts more vulnerable to attacks. Then again, decentralized oracles minimize counterparty risk. As they don’t depend on a single source of truth, they make the data delivered to smart contracts more reliable. The smart contract consults many oracles to evaluate the data’s accuracy.
  • Hardware and software oracles: The former deliver data from the physical world. For instance, they can provide information from radio frequency identification or camera motion sensors. The latter delivers digital source data, like servers, databases, and websites. They can also provide real-time data, like price variations, exchange rates, and travel information.
  • Compute-enabled oracles: These are pretty new oracles dedicated to transmitting complex off-chain computations to execute many functions on-chain. The computations handled by compute-enabled oracles can often be too complicated to manage on the chosen blockchain. This is where the distinction between Layer 1 and Layer 2 comes into play: while numerous layer-two scaling solutions use such oracles, they can provide advanced commands and analysis for layer-one blockchains.
  • Human oracles: People can deliver information feeds to a blockchain oracle. For example, if meteorologists want to submit weather predictions, they can input this data into a smart contract. Such oracles usually use a progressive verification system to check the sender’s identity.
  • Contract-specific oracles: This implies the oracle has only a one-time use case. After its smart contract parameters are met, its job is done. However, these types of oracles aren’t worth the time and effort required to keep them up to date and should only be used in specific circumstances.

How Do Oracles Gather Data?

Gathering data depends on the type of information a developer needs to input. The data feeds can come from hardware or software sources. If an oracle’s only purpose is to track web information, it may pull data from APIs on CEXs. At the same time, hardware oracles can gather data from physical devices like a QR scanner or a thermostat.

Decentralized crypto oracles have the unique feature of relying on more node operators to validate, query, and transmit data. Their decentralized structure helps ensure that the on-chain or off-chain data is valid. Mistakes are avoided, as each data point has to pass through many validators.

Then, this information is relayed to the connected smart contract in a coded message. If the smart contract reads the data successfully, it will be verified on the blockchain.

But what is the oracle problem? The oracle problem refers to the inability to confirm the accuracy of the data collected by oracles.

Blockchain Oracle Use Cases

What is an oracle in blockchain used for? Let’s discuss oracles’ use cases:

  • NFTs: Blockchain oracles enable artists to be even more creative when minting non-fungible tokens. Rather than producing static NFT images, they can create dynamic NFTs that can automatically change their appearance in response to external events. This can also be a great feature for blockchain-based films, game items, and audio files.
  • DeFi: Generating accurate price feeds on DEXs would be impossible without blockchain oracles. A DeFi oracle also helps keep track of crypto collateral and loans and automate buy/sell orders.
  • Insurance: Blockchain oracles may start automating the insurance industry soon. Using data from satellites, weather records, or even car monitors would enable insurance companies to process claims through the blockchain. Moreover, they may be able to provide output oracles on smart contracts that pay out claims automatically.
  • Voting: Activists hope that blockchain oracles can help make democratic elections transparent. These oracles can record and transmit voting information to tamper-proof smart contracts, guaranteeing vote count transparency.
  • Tokenized real estate: Soon, people may be able to buy a home on the blockchain. Oracles allow sellers and buyers to submit legal documents to a smart contract. Deed NFTs can serve as proof of property ownership in the physical world. Moreover, developers are already experimenting with tokenized real-estate investing platforms using blockchain oracles for price feeds.
  • Gambling: Blockchain oracles can bring data to blockchain gaming platforms. Despite the legality of DeFi gambling being a gray area, it’s still a potential use case for blockchain oracles.
  • Customer loyalty rewards programs: Blockchain oracles enable organizations to track consumer activity and reward customers with NFTs or crypto stored in smart contracts.
  • Environmentalism: Some companies have started using Web3 tools to stimulate people to focus on the environment. Blockchain oracles may enable tracking and rewarding people for eco-friendly actions, potentially reducing carbon emissions.

Conclusion

So, what is an oracle in crypto? Blockchain oracles represent a method of communication between the blockchain and the outside world, offering external data to smart contracts that use blockchain technology.

Types of blockchain oracles include software and hardware oracles, inbound and outbound oracles, centralized and decentralized oracles, compute-enabled oracles, human oracles, and contract-specific oracles.

They can be used in DeFi, NFTs, voting, insurance, tokenized real estate, gambling, environmentalism, and customer loyalty rewards programs.

FAQs

What is a crypto price oracle?

What is the difference between oracle and blockchain?