Interoperability between public blockchains and the digital real (Brazil´s CBDC)

Author: Edmilson Rodrigues do Nascimento Junior, MsC. (CIn/ufpe), ernj@cin.ufpe.br

1. Introduction. 2. Interoperability on Blockchains. 3. Blockchain Interoperability Framework. 4. The future is Omnichain. 5. Real Digital and Considerations for its Interoperability with Public Blockchains. 6. Conclusion

Summary

This work addresses the issue of interoperability in blockchains and the main challenges for it to exist between Real Digital and public blockchains. The work presents the Blockchain Interoperability Framework, which characterizes the different approaches for interoperability in blockchains. It then introduces the interoperability trilemma and the protocol that claims to have solved it, Layer Zero. Finally, the work analyzes the recent announcements about Real Digital and lists the main challenges for the Brazilian CBDC ledger to have interoperability with public blockchains and with other CBDCs. The article concludes with some questions that need to be answered in order to promote interoperability between Real Digital and public blockchains or other CBDCs.

Keywords: Interoperability, Blockchain, Real Digital, CBDC, DLT

Introduction

By March 2023, the Coin Market Cap website estimates that there are 168 public (non-permissioned) blockchains that are programmable and of greater relevance, which collectively have a Total Value Locked (TVL) of $71.34 Billion. In first place is Ethereum with 69.87% of the market. In second place is Binance Smart Chain with 7.79% of the market. And in third place the Tron network with 6.58% of the market. All these blockchains have the need to be interoperable with each other, for the exchange of data, tokens or smart contracts between them.

Figure 1: Coin Market Cap screenshot

In addition, CBDCs (Central Bank Digital Currencies) that are under consideration by governments around the world will also need to be interoperable with each other and with public blockchains. Because interoperability promotes competition, reduces costs and increases convenience and access to services by users.

The present work aims to present an overview of the interoperability between blockchains and to situate the main challenges of achieving interoperability between public blockchains and Real Digital, the Brazilian CBDC.

For that, Chapter 2 presents the concept of interoperability in blockchains. Then, Chapter 3 introduces the Blockchain Interoperability Framework and mentions the main categories of interoperability projects. Then, Chapter 4 discusses the interoperability trilemma and a solution to resolve it. Then, chapter 5 addresses what has been decided about Real Digital to date and its main challenges to be overcome in order to have interoperability with public blockchains. Finally, the last chapter concludes with a vision for the future of interoperability: to beOmnichain (from any blockchain to any blockchain).

Blockchain interoperability

When it comes to blockchain systems, interoperability is defined by the European Blockchain Observatory as “the ability to exchange data with other platforms, including other types of blockchain and with the Off-chain world” (European Forum, 2019). Promoting interoperability is important as it promotes competition, reduces costs, allows for economies of scale and increases convenience for users.

There are several ways to interoperate between blockchains. Pillai et al (2022) presents a framework for decision-making on the best design for interoperability. The framework consists of 5 steps, which consist of: (1) Identifying the type of value/asset that will be used in the application; (2) Identify the purpose of the integration; (3) Select the approach, whether centralized or decentralized; (4) Choose the integration mode and (5) choose the integration protocol.

Additionally, an important part of interoperability in blockchains concerns oracles. In blockchain systems, Oracles are technological infrastructures provided by centralized and trusted parties to be the interface between the programs that run on blockchains and the “real world”. For example, data such as the quotation between currencies, the temperature of environments, the quotation of shares, events on other blockchains and other information are usually provided by oracles. (Caldarelli, 2020)

The academic literature and the history of public blockchains show that problems associated with oracles can occur and that can lead to security flaws for smart contracts or the impossibility of executing projects. Some of the risks associated with oracles are: (a) Information security risk (inaccurate or false information), (b) risk of low latency (updating) of data, (c) risk of compromising the reputation of the entity that maintains the oracle , between others. (Caldarelli, 2020)

Blockchain interoperability framework

Belchior et al (2021) carried out a systematic review of the literature and show that interest in the subject of interoperability in blockchains has been growing in academia in recent years. The authors analyzed 404 documents, 284 papers and 120 documents from the gray (non-academic) literature. So they created the , which classifies approaches to interoperability in blockchains into three categories: (a) Public Connectors, (b) Blockchain of Blockchains, and (c) Hybrid Connectors.

Figura 2: Mind Map do Blockchain Interoperability Framework

(a) Public Connectors:They are infrastructures for interoperability that reside on public blockchains in the form of smart contracts. These are divided into (A1) Sidechains, (A2) Notary Schemes and (A3) Hashed Time Locked Contracts (HTLCs).

A1) SideChains or Satellite Chains or Daughter Chains are a mechanism that allows two existing blockchains to be interoperable, as a kind of “second layer” with specific abilities, and which then port state and transactions to the first. For example, we say that the Optimism network is a Layer 2 of Ethereum.

A2) Notary Schemes are solutions that monitor multiple networks and trigger events in smart contracts in the destination network after a monitored event in the sending network. In practice, they function as Centralized Exchanges (CEX) or Decentralized Exchanges (DEX). Some examples of interoperability through notary schemes are major centralized exchanges (Binance, Coinbase and Mercado Bitcoin) or decentralized exchanges such as the Uniswap and 0x protocols.

A3) Hashed Time Locked Contracts (HTLCs) are smart contracts that reside in the source and destination networks and allow atomic exchanges between the two networks. It is said “Atomic” exchanges, as they have only two possible outcomes, 0 or 1, or the exchange of assets happens and both participants receive the exchanged assets or it does not happen and both receive the original assets. The “Hashed Time Locked Contracts” method (Rueegger and Machado, 2020) consists of both participants (Alice and Bob) having different assets and wanting to make an exchange (t0). So Alice sends the token to the smart contract at t1. Contracts are protected by Hashing a randomly generated number (hence the term Hashed) and have a maximum expiration date (hence the term “Time Locked”). So, there are only two possible outcomes at t2: Either Bob also sends his token to the smart contract and Alice releases the Hash to release his token to Bob, or Bob doesn't send the token to the contract, time expires and Alice receives from returns your tokens to the source address.

Figure 3: HTLC operation

(b) Blockchains de Blockchains: These are frameworks that allow the reuse of data, network, incentives and contracts residing on a main blockchain to create domain-specific blockchains that have the ability to interoperate with each other. Some blockchain examples of blockchains are thePolka dotIt isCosmos. This type of approach is limited because they can only interoperate natively with blockchains of the same type (example: Which are also part of the Cosmos network), and to interoperate with blockchains of different types it is necessary to build public or hybrid connectors.

(c) Hybrid Connectors:These are the interoperability solutions that are neither public connectors nor Blockchain of blockchains. They are currently used for both public blockchains (Ethereum, Celo, Solana and others) and permissioned blockchains. They are divided into (C1) Trusted Relay, (B2) Blockchain-Agnostic Protocols and (C2) Blockchain Migrators.

C1) Trusted Relays are infrastructures created by trusted parties that redirect transactions from a source blockchain to a target blockchain. An example of a trusted relay is theHyperledger Cactus, which uses a network of interop validators and a separate part likeescrow. Another example of a network of Trusted Relays that adopt a decentralized architecture is theAxelar Network (https://axelar.network/).

C2) Blockchain-Agnostic Protocols enable cross-chain communication between any type of Decentralized Ledger technology by providing a “blockchain abstraction layer”. An example of an agnostic Blockchain protocol is theInterledger Protocol (ILP).

C3) Blockchain Migrators they allow a user to migrate the state of one blockchain to another and are useful to respond to a need for prevention or recovery organizations in case of disasters or performance problems.

The future is omnichain

Among the different methods presented, it was observed the existence of atrilemma for interoperability in blockchains(Zarick, accessed in 2023), in which, historically, developers of interoperability solutions have necessarily had to choose two and give up one of the following characteristics in interoperable blockchains: (1) Instant and guaranteed Purpose, (2) Unified Liquidity and (3) native coin transactions.

Figure 4: The interoperability trilemma

A (1) instant and guaranteed finality concerns the guarantee that any transaction made on the initial blockchain will have its counterpart carried out on the destination blockchain. Most implementations of interop achieve instant and guaranteed finality by doing lock/unlock or burn/mint mechanisms. already the(2) Unified Liquidity concerns the possibility of the token being part of the same liquidity pool, even if it is on multiple blockchains. If liquidity is not unified, it is split into several pairs of pools. Finally, the(3) transaction of native coins concerns the possibility of transacting the native coins of a blockchain (for example, Ether on Ethereum).

Until the interoperability trilemma is resolved, it is not possible to create a fully Omnichain (any blockchain to any blockchain) interoperability experience.

But Zarick, Pellegrino and Banister (2021) claim to have solved the interoperability trilemma through the Layer Zero protocol, which has its main application in production through the DEX (Decentralized Exchange) called Stargate (DEX Stargate, 2023) .

Layer Zero does not use the concept of bridges, but anew communication primitive between blockchains which defines as “Valid Delivery” . It is based on the following premise:

Each message (m) sent on blockchain A is done together with a transaction (t) on the sending blockchain.
The message (m) is only delivered to the recipient on blockchain B if the transaction (t) is valid and successfully delivered on blockchain A.

So, the Layer Zero protocol guarantees the validity of Cross-chain communication by requiring that two independent entities, theOracle and theRelay, attest that the transaction took place on the source blockchain.

Figure 5: Layer Zero protocol diagram

According to its authors, among the advantages of Layer Zero are the Unified Liquidity, the instantaneous and guaranteed finality and the transaction of native coins. Therefore, it solves the interoperability trilemma.

The image below shows how unified liquidity works on DEX Stargate. Unlike other DEX with a traditional approach, in which Liquidity Pools are given in pairs (USDT-USDC on the Ethereum network, for example). Pools at Stargate are unified, which eliminates liquidity splitting. Stargate also allows for cross-chain transactions from one blockchain to another.

Figure 6: Unified Liquidity Pools at Stargate

Therefore, by solving the interoperability trilemma and taking an innovative approach to interoperability, Layer Zero contributes to the future beingOmniChain, connecting any type of blockchain to any type of blockchain and giving rise to an “internet of blockchains”.

The digital real and considerations for its interoperability with public blockchains

Real Digital is making great strides and in March 2023, its pilot was announced (Banco Central do Brasil, 2023) which is developing it. The pilot will take place over 12 months and will have the support of 7 to 15 Brazilian Financial Institutions for its execution.

For the pilot, the Central Bank team chose to use Hyperledger Besu technology because it has the characteristics of being open source, being permissioned, being based on EVM (Ethereum Virtual Machine) and also supporting transaction privacy.

The adoption of this technology was celebrated by the developer community, as many of the innovations that happen on public blockchains will be able to be copied to Real Digital, and the Ethereum blockchain that runs EVM is the largest public blockchain and has the most projects and developers. .

However, the Real Digital blockchain will be permissioned and only Brazilian financial or payment institutions will be able to initiate transactions. These same financial or payment institutions are required by law to KYC (Know your Customer) of their users and respect the LGPD (General Data Protection Law). Thus, a requirement for any interoperability solution developed between public blockchains and Real Digital is that every transaction made to and from Real Digital's Ledger be made by someone who has the KYC/AML process ("Know Your Customer" and “Anti Money Laundering”) approved and whose data is treated in compliance with the LGPD (General Data Protection Law).

Also, the Layer Zero protocol and other interoperability protocols rely on Oracles and/or Relayers, which are external infrastructures to the blockchains that keep monitoring them to detect the transactions of certain portfolios. To date, it is uncertain how the team developing Real Digital will handle ensuring transaction privacy. But, depending on the form, this can interfere with the functioning of Oracles and Relayers of message protocols between blockchains such as Layer Zero.

Therefore, any solution that aims to create interoperability between Real Digital and public blockchains or other CBDCs needs to solve the following challenges: (a) KYC of users, (b) adaptation to LGPD and (c) adaptation of oracles and/or relayers to the particularities of Real Digital.

Conclusion

Imagine you are in 2030 and there are many CBDCs and many blockchains in operation. People and organizations will need to move value and/or data between them quickly, without friction and at low cost. Therefore, it will be necessary for the future to beOmnichain and that there is a“Internet of Blockchains”, in which people, organizations, DAOs (Decentralized and Autonomous Organizations) and smart contracts can move values and information from one blockchain to another smoothly and at low cost.

Therefore, part of this infrastructure still needs to be developed. Some of the associated challenges are:

How to perform user KYC and GDPR compliance of transactions to/from public blockchains?
How to adapt infrastructures such as Relayers and Oracles that were developed for public blockchains in the Real Digital ledger?
How to interoperate Real Digital with other CBDCs?

Therefore, throughout the development of the Real Digital pilot over the next 12 months, as announced by the Central Bank team, it is essential to create favorable conditions for the Brazilian CBDC to have high interoperability with public blockchains and other CBDCs. This will contribute to several factors on the BC# agenda, such as lower cost of financial services, greater competition between players, greater inclusion of low-income users and greater sustainability.

References

Brazilian central bank. BC announces the guidelines for the Real Digital pilot project.Site do Banco Central, Brasilia, March 8, 2023. Available at:https://www.bcb.gov.br/detalhenoticia/667/noticia. Accessed on: 03/17/2023

BELCHIOR, Rafael et al.A survey on blockchain interoperability: Past, present, and future trends. ACM Computing Surveys (CSUR), v. 54, n. 8, p. 1-41, 2021.

Caldarelli, Julius (2020). "Understanding the Blockchain Oracle Problem: A Call for Action" Information 11, no. 11: 509. https://doi.org/10.3390/info11110509

DEX Stargate. Official site of Stargate, Vancouver, March 17, 2023. Available at:https://stargate.finance/ . Accessed on: 03/17/2023

European Blockchain Observatory and Forum (2019): “Scalability, Interoperability and Sustainability of Blockchains”, a Thematic Report, Available at:https://www.eublockchainforum.eu/sites/default/files/reports/report_scalaibility_06_03_2019.pdf . Accessed on October 8, 2022.

B. Pillai, K. Biswas, Z. Hóu and V. Muthukkumarasamy, "Cross-Blockchain Technology: Integration Framework and Security Assumptions," in IEEE Access, vol. 10, pp. 41239-41259, 2022, doi: 10.1109/ACCESS.2022.3167172.

Interledger Foundation. Interledger Protocol. Available in:https://interledger.org/ . Accessed on March 17, 2023.

J. Rueegger and G. S. Machado, "Rational Exchange: Incentives in Atomic Cross Chain Swaps," 2020 IEEE International Conference on Blockchain and Cryptocurrency (ICBC), 2020, pp. 1-3, doi: 10.1109/ICBC48266.2020.9169408.

Zarick, R., Pellegrino, B. e Banister, C. LayerZero: Trustless Omnichain Interoperability Protocol . Available in:https://layerzero.network/pdf/LayerZero_Whitepaper_Release.pdf . Accessed on 02/27/2023

ZARICK, Ryan. The bridging trilemma. Stargate Official Blog, Vancouver, October 29, 2021. Available :https://medium.com/stargate-official/the-bridging-trilemma-d80788cce4ef . Accessed on: 03/17/2023

Interoperability between public blockchains and the digital real (Brazil´s CBDC)

Interoperability between public blockchains and the digital real (Brazil´s CBDC)

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