Price Oracles in DeFi Explained

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In the world of DeFi (decentralized finance), oracles play a crucial role in ensuring the accuracy and reliability of data – especially pricing data – used within various protocols and platforms.

What are price oracles

A price oracle is a specific type of oracle that provides off-chain (external) price information to on-chain (blockchain) smart contracts.

Given the isolated nature of blockchains, smart contracts cannot access external information directly, and oracles serve as a bridge to bring this external data onto the blockchain.

Why price oracles are so important in DeFi

Price oracles are widely spread in DeFi. They are a core element of many crypto projects.

Lending protocols determine with oracles the correct collateralization levels and initiate liquidations when necessary. Algorithmic stablecoins maintain their peg to external assets.

Synthetic assets track prices of RWAs (real-world assets) to manage synthetic versions on the blockchain.

Any project that uses asset prices needs some kind of price oracle.

As oracles are widely used in crypto projects and almost always play a crucial part in them, oracle attacks have become one of the most popular types of attacks on crypto projects.

Types of prices oracles, their advantages, disadvantages and security issues

Chainlink price oracle

Arguably the most well-known oracle provider, the solution consists of a network of oracles (data feeds) that convey data into the blockchain.

Overview

A group of independent operators updates each data feed. Subsequently, a smart contract validates and aggregates data from these operators.

Operators are rewarded for their data-publishing activities.

Each data feed has its specific parameters, such as the minimum number of oracles, the minimum number of oracles required to update the price and the frequency of updates.

Data aggregation

Given that the data is supplied by various operators, a crucial step involves amalgamating them into a single value.

This process unfolds in two steps – initially, operators utilize off-chain reporting, and then the data is supplied to the aggregator contract.

Off-chain reporting embodies a P2P (peer-to-peer) network of operators consisting of multiple nodes.

Every node signs and submits its price, and via a consensus mechanism, an aggregate transaction is crafted.

This transaction includes operators’ signatures and submitted prices and is subsequently validated…