Blockchain technology broke barriers by providing internet users with a secure, peer-to-peer (P2P) platform for transferring digital assets. However, each blockchain uses distinct algorithms to enforce its rules and has ironically "created" its own set of barriers in the decentralized web.
Getting different blockchain networks to communicate has become a major friction point for the development of the Web3 ecosystem. Without secure, cross-chain communication pathways, it’s impossible for users to seamlessly send their digital assets, stalling growth and collaboration.
As more programmers recognize crypto’s communication breakdown, the concept of blockchain interoperability becomes an increasingly popular topic in development circles. Let’s discover what blockchain interoperability is and how it can make navigating decentralized applications (dApps) easier.
What is blockchain interoperability?
Blockchain interoperability refers to tools, protocols, or communication pathways that help traders transfer digital data across separate decentralized networks. Put simply, interoperability solutions help blockchains "talk" to each other. Think of it as a "web" that connects disparate blockchains and allows users to send virtual currencies between linked protocols.
Like transferring cryptocurrencies within a native blockchain ecosystem (e.g., ETH on the Ethereum blockchain), these cross-chain transfers are P2P and recorded on transparent and immutable payment ledgers. Many specific technologies and strategies help with interoperability, but all aim to make it easier for Web3 users to send virtual assets to other chains without interfering with each network’s internal consensus mechanics.
Importance of interoperable blockchains
Without mainstream interoperability solutions, the experience of using Web3 feels fragmented.
The current crypto environment forces dApp developers to commit to one blockchain, arguably promoting competition and tribalism between networks. Interoperability creates a healthier sense of cooperation and inspires creativity as traders and developers have greater flexibility to build and send digital assets.
- Ensures cross-chain compatibility: Interoperability connects decentralized systems, making sending P2P digital data anywhere in Web3 easy. The composability that cross-chain communication brings to Web3 helps developers build projects on diverse platforms, encouraging traders to explore new networks without worrying about integration challenges.
- Encourages cross-chain collaboration: Besides ensuring compatibility, interoperability promotes a culture of shared innovation and collaboration. Developers and traders have more ways to share resources across multiple networks and leverage the strengths of each blockchain for different purposes.
- Helps with scalability and network efficiency: By connecting different blockchain networks, interoperability provides multiple alternative routes for traders to complete their transactions. By spreading transaction activity across numerous chains, there’s a lower risk of congestion and high gas fees on any single network during times of heightened demand.
- Enhances user experience: The increased network efficiency from interoperability facilitates a more intuitive and flexible Web3 experience. The smoother and simpler interoperability makes navigating Web3, the more likely it is for dApps to reach a mainstream audience.
- Increases liquidity across Web3: Interoperability connects communities and dApps on established blockchains—including the value already locked on these networks—to smaller protocols in the Web3 ecosystem. An interconnected Web3 opens new trading and passive income opportunities for decentralized finance (DeFi) users, making it simpler to attract funding for cutting-edge start-up protocols.
Types of blockchain interoperability solutions
Crypto enthusiasts agree interoperability is excellent news for Web3’s future, but not everyone shares the same opinions on how to make cross-chain communication a reality. Currently, dozens of different tools and technologies promise to create an interoperable blockchain infrastructure. Here are a few:
1. Cross-chain bridges
A cross-chain bridge is a protocol that serves as a go-between when transferring cryptocurrencies from one blockchain to a non-native network. Typically, they issue a synthetic version of whichever cryptocurrency a trader deposits with compatible coding standards for the destination blockchain. Once a trader has the new crypto asset in their wallet, they can use this virtual currency on the new chain and return the synthetic token to the bridge when they want the original cryptocurrency back.
Due to their accessibility and ease of use, bridges have become one of the most popular ways for crypto traders to send virtual currencies across blockchains, but they also introduce a significant vulnerability into Web3. However, since bridges hold user deposits, they’re prime targets for hackers, with almost 50% of all DeFi exploits taking place on bridges over 2020–2022.
2. Atomic swaps
Atomic swap protocols use smart contracts to set a trade’s parameters and ensure everyone involved meets their prearranged conditions before approving a P2P transfer. The atomic in atomic swaps refers to no middle-ground for these transactions—either they happen or the smart contract cancels the transfer. Although atomic swaps can’t bridge digital assets to non-native blockchains, they make it easier for traders to swap between different blockchain ecosystems without leaving Web3.
Unlike cross-chain bridges, atomic swaps let traders exchange one cryptocurrency for another crypto asset on a different blockchain without an intermediary. For example, Litecoin’s founder Charlie Lee swapped 10 Litecoin (LTC) for 0.1137 Bitcoin (BTC) between crypto wallets using an atomic swap in 2017.
3. The Ethereum Virtual Machine (EVM)
The EVM is the software infrastructure that allows nodes on Ethereum to recognize state changes, agree on transaction data, and post transfer history to ETH’s distributed ledger. Although the EVM powers the Ethereum blockchain, many other blockchains incorporate its coding standards into their systems for enhanced interoperability.
EVM-compatible blockchains like Avalanche (AVAX), Polygon (MATIC), and Arbitrum (ARB) seamlessly communicate with the Ethereum network, enabling ETH developers to port their dApps to other chains and traders to take advantage of the value propositions on other networks. Since Ethereum has one of the largest developer communities and the highest total value locked (TVL) in its DeFi protocols, growth in the EVM standard plays a major role in connecting Web3 applications.
4. Layer-zero blockchain infrastructures
Layer-zero protocols use the same decentralized communities of nodes found on layer-1 or layer-2 chains, but they function as a foundational layer for countless sovereign blockchains rather than stand-alone cryptocurrency networks.
For example, the Cosmos (ATOM) blockchain allows developers to create distinct chains that connect to the Cosmos ecosystem by linking to the central Cosmos Hub and using a specialized infrastructure called the Inter-Blockchain Communication (IBC) protocol.
Polkadot (DOT) is another example of a layer-zero chain where prospective blockchain projects bid for slots called parachains, each of which relies on Polkadot’s Relay Chain for security and cross-chain communication.
These innovative layer-zero projects provide a secure environment for interoperability and scalability while respecting each blockchain’s unique consensus algorithms, use cases, and tokenomics.
5. Wrapped tokens
Wrapped tokens are like cross-chain bridges because they allow traders to transfer synthetic versions of virtual currencies to non-native blockchains. To wrap a cryptocurrency, traders typically deposit a digital asset into a smart contract to receive an equivalent amount of the original cryptocurrency with coding standards for another blockchain.
For example, Wrapped Bitcoin (wBTC) mimics the value of Bitcoin (BTC) on the Ethereum blockchain, allowing traders to use their BTC holdings on ETH-based dApps for staking, lending, or borrowing.
Wrapping protocols hold the deposited cryptocurrency in smart contract protocols until traders transfer their wrapped tokens for a withdrawal. To ensure there’s always a 1:1 value between the native cryptocurrency and the wrapped crypto assets, issuers only mint new wrapped tokens when they receive the native cryptocurrency and immediately burn every wrapped token they receive.
Enjoy interoperability versatility on dYdX Chain
A major reason dYdX chose to build dYdX Chain on Cosmos is to take advantage of this blockchain’s innovative solution to the interoperability dilemma. Thanks to the Inter-Blockchain Communication Protocol (IBC), eligible traders can enjoy seamless, secure, and low-fee transfers across the Cosmos ecosystem, with deep liquidity for DeFi derivatives trading.
To learn more about dYdX Chain and other products and features on dYdX, check out our official blog. Also, visit dYdX Academy for more detailed articles on the latest decentralized technologies, and start trading on dYdX today.
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