Article by Onodu Michael Edited by Tomahawk Cover Art by Dippudo

Since the launch of Bitcoin in 2009, hundreds of blockchain networks with diverse architectures and functions have graced the crypto scene. Ethereum led the way with smart contracts, NFTs, and decentralised applications (dApps), while competing layer one blockchains like Solana and Avalanche stepped up the user experience a notch in terms of speed, scalability, and low transaction fees. So far, these diverse blockchains have existed like remote islands. If you live in one ecosystem, you have neither boat nor bridge to simply access another. Even the most bankless among us have to visit a centralised exchange to move our assets to a different base network.

For the crypto economy to maximise its efficiency, blockchains could establish a more symbiotic relationship with each other — one where each can operate in their unique functionalities, but also communicate with other chains in a standardised way. In other words — interoperability. In this way, blockchain specialisation is encouraged, and similar functions and interactions can be grouped together, which should allow them to be more easily managed.

As it relates to blockchain technology, true interoperability is rare. For different blockchains to connect and communicate efficiently, they would need these functions to be designed into the protocol.

Centralised exchanges often warn us about blockchain incompatibilities. If one mistakenly transfers tokens to the wrong blockchain, their funds are almost certainly lost. This is because layer one blockchains are designed with different standards, and in general, they don’t talk to one another.

This general state of incompatibility across the cryptosphere helps the largest blockchains attract the most value and users since they typically have larger moats and more to offer (like a wider variety of applications and stronger network effects). If one has to keep resources on a single blockchain, a larger one will provide more utility. In a Darwinian sense, smaller blockchains with potentially useful tech might be left behind, since most of the growth and economic activity will accrue to the chains that are large, secure, and decentralised.

In this article, we will be exploring one of the crypto projects tackling the interoperability problem head-on: Polkadot.

Polkadot was founded in 2016 by Dr. Gavin Wood, along with a team of people from Web3 Foundation and Parity Technologies. Arguably one of the top builders in the crypto space, he co-founded Ethereum in 2013 and went ahead to invent the Solidity programming language. Wood describes Polkadot as the first “layer zero” protocol. What he means by layer zero is that it is a mother chain where multiple layer one blockchains and their apps can live, communicate freely, and flourish: a blockchain of blockchains, where interaction is possible.

The key components in the Polkadot network structure are Parachains, the Relay Chain, Parathreads, and Bridges.

Each blockchain on the Polkadot network is known as a “parachain”, so-called because they are parallelised blockchains. Parachains are built using a framework known as Substrate. All substrate-based blockchains are seamlessly compatible with Polkadot.

There are unhindered possibilities as to the type of projects or functionalities that can be built on the Polkadot network. For example, one parachain could focus entirely on DeFi, while another could focus solely on gaming and NFTs. These parachains benefit from the security and upgradeability features provided by the relay chain. There are a limited number of parachain slots on the relay chain. Currently, the figure is pegged at 100. Some popular parachains which have already been added to the network are Acala, Efinity, and Moonbeam.

Projects wishing to secure a parachain slot have to participate in a parachain auction, and winners of the auction will have the opportunity to claim use of the parachain for a maximum duration of two years by bonding their bid in Polkadot’s native currency, DOT. In other words, these parachains slots are leased.

This is the principal blockchain, which not only syncs with parachains but also provides them with shared security. Transactions from the parachains are validated and posted here for final settlement. The relay chain is limited in its functionality. It is purely a settlement layer, without the computational requirements of smart contracts. This efficiency enables it to focus on performance and the security of the ecosystem, seamlessly coordinating the Polkadot network as a whole.

Securing a full parachain slot is fairly expensive, and not all projects can manage this. If a project wishes to utilise the network’s shared security and interoperability but doesn’t have the required initial investment to win a parachain auction — it can participate in the network via parathreads. The idea behind parathreads is that multiple projects without the resources for a full parachain can share the interoperability and security resources of a single parachain.

Parathreads are very similar to parachains in terms of development. They do however differ in terms of economics. While parachains are registered through parachain auctions, parathreads are registered through fixed fee payments. This fixed fee might be as low as 50 DOT (as opposed to over 20,000 DOT as seen in parachain auctions).

In order to get their transactions posted to the relay chain and settled, parathreads have to participate in an auction prior to each and every block. The winners get to have their blocks validated. This is why parathreads have been referred to as pay-as-you-go parachains.

This model is especially convenient for projects that don’t require a high degree of interactivity or fast settlement, or for those that intend to exist in the ecosystem for just a limited amount of time. Newer or smaller projects can opt to run on a parathread at first while bootstrapping their user community. Depending on how demand scales and the capacity needed, a new application could start out parathreading with a relatively small investment and potentially grow enough to fill a whole parachain with activity. This seems compelling, from a builder’s standpoint.

True interoperability wouldn’t be complete if parachains could only communicate with other parachains. At some point, there may be a need to interact with the other leading blockchain ecosystems like Bitcoin and Ethereum. Linking the Polkadot network with external blockchains is done via bridges. Bridges are indispensable in realising the envisioned utopia of interoperability.

The designs for bridges can be divided into two categories:

1. Centralised bridges that rely on trust or a third party to operate.

2. Trustless bridges that are more decentralised.

Of the two, trustless bridges are preferred within the Polkadot ecosystem, which is no surprise given Polkadot’s stance on promoting the decentralised web. Polkadot’s foremost investor, Web3 Foundation, has shown a strong preference for trustless bridging solutions. A major trustless bridge in the Polkadot ecosystem is the Darwinia Network, which facilitates communication between Polkadot, Ethereum, Polygon, and Binance Smart Chain.

The DOT token is the network’s native token. Polkadot’s first initial coin offering (ICO) was held in October of 2017, at a price of $0.29, with 2.24 million tokens offered. The second ICO was held in July of 2020, and the Polkadot offer price was $1.25, with 342,080 DOT tokens sold. There are currently 1.10 billion DOT in circulation.

According to Messari, 30% of the initial DOT tokens was allocated to insiders, which includes the founders and developing teams. 58.4% was allocated to investors while 11.6% was allocated for airdrops and rewards.

DOT is utilised for governance, transaction fees, parachain auctions, and parathread payments.

In order to nominate validators, holders may stake DOT on the behest of a trusted validator. This allows the DOT holder to earn newly minted tokens as staking rewards. Stakers delegate their tokens to these validators for use in protocol voting.

The Polkadot Council is an elected body of token holders that are intended to represent the passive stakeholders of Polkadot. Currently the council is composed of thirteen (13) members with significant on-chain stakes. This body controls the Polkadot treasury, and serves three main functions, “proposing sensible referenda, cancelling uncontroversially dangerous or malicious referenda, and electing the technical committee” (TC), which is a council-elected body of experts who have successfully implemented a Polkadot host or runtime. The TC is intended “to safeguard against malicious referenda, implement bug fixes, reverse faulty runtime updates, or add new but battle-tested features”.

As the native governance token, DOT is used for electing nominees into the council, and for voting on all proposals. DOT tokens are bonded when a candidate runs for council, and losing candidates forfeit their bond.

Fees incurred during transactions between two parachains or external chains are paid for in DOT. Within a parachain or parathread, native protocol tokens may be used, but all transactions for interoperability and security, including any interactions with the relay chain, require fees in DOT.

Parachain slots are highly valuable, since it allows for a project to access the relay chain each and every block. For a project to secure one, it has to participate in a parachain auction where it might have to raise over 20,000 DOT tokens via public or VC funding. Projects that are successful in the auction get to lease these parachain slots.

There is a maximum lease duration of two years, and this lease period is divided into 8 three-month periods. In essence, a project that wishes to lease a parachain slot for the maximum duration of two years must bid for all eight lease periods at once. A project can also decide to bid for as little as one three-month period.

The auction algorithm is designed to favour projects with a higher aggregate number of tokens bonded over a longer lease period. For example, a project that bids 10,000 DOTs for each three-month period in two years would take precedence over a project that bids 20,000 DOTs for just one three-month period. Auction winners are entitled to lease their parachain slot for the periods won, during which time their DOT tokens remain bonded. Once the duration has elapsed, the bonds become liquid again and tokens are returned. In the case of publicly funded ‘crowd-loans’, projects can solicit bids from their communities or investors to commit DOT for parachain auction purposes. Often, those who put up their DOT in support will be airdropped the native token of the successful parachain. And when the bonding period is over, they receive their initial DOT investment back.

Polkadot reserves some parachain capacity specifically for pools of parathreads, but not all can participate in the same relay block. Essentially it’s an auction process for each block. In order to access the relay chain, parathread pool participants place bids in DOT for having their transactions accepted. Validators choose which transactions to accept, capturing as much bid revenue as possible to fill the available blockspace.

A blockchain’s consensus mechanism is essentially the protocol for selecting who gets to validate transactions on a blockchain. Polkadot uses the NPoS (nominated proof-of-stake) mechanism where dot holders themselves get to stake DOT on behalf of a trusted entity in order to become validators.

1. Collators: they snoop around in search of transactions going on parachains and send proof of these transactions to the validators.

2. Validators: they receive proof of transactions from collators in blocks. These new transactions are validated to confirm their legitimacy and subsequently added to the relay chain. Validators receive rewards for verifying and adding new blocks to the blockchain.

3. Nominators: Nominators are responsible for picking validators. In order to become a validator, token holders would have to stake DOTs on your behest. Not everyone can become a validator, as DOT holders will typically stake tokens with those who are well known and have good credibility in the community. In return for staking, nominators partake in some of the rewards received by validators. Staking occurs in the Polkadot-Substrate Portal.

4. Fishermen: They report strange (or fishy) behaviour from the network to the validators.

Most of us are familiar with the scalability trilemma for decentralised blockchain networks. To summarise, it is difficult for blockchains to scale to a high transaction rate without compromising either their decentralisation or their security. Let’s see how Polkadot fares in addressing the trilemma.

Scalability here refers to the ability of a blockchain to support high transactional throughput and future growth. Usually, every validator on the blockchain is required to keep a copy of the history of all transactions, as well as validate transactions on chain. As the blockchains grow, their storage costs become non-negligible, and validation of transactions can bog down performance.

Polkadot addresses this issue by assigning a smaller set of validators to each parachain. These validators exclusively handle the computational needs of the parachains to which they have been assigned. Essentially, a validator only concerns itself with the workload of a parachain rather than that of the whole Polkadot blockchain. This parallelisation of the blockchain design is referred to as sharding.

Each parachain (or, more generally, shard chain) belonging to the ecosystem processes transactions simultaneously with others, improving general throughput. This enables Polkadot to operate on the scale of mass global commerce. In theory we are talking about a rate of over 166,000 transactions per second, which is more than double the Visa network’s 65,000.

Parachains benefit from shared security provided by the relay chain. This distinguishes Polkadot from other interoperability solution chains like Cosmos Network, where individual chains have to rely on self-provided security.

On a comparative basis, the security provided by Polkadot’s NPoS consensus mechanism boasts certain advantages over that found in the proof-of-work consensus mechanism. In proof-of-work, the biggest winners are those who have the most computational power on the network. Such networks are at risk of key players who dominate the market due to their size and access to extremely large computational resources, measured in ‘hashrate’.

It has long been speculated that groups of large miners might try to dominate the Bitcoin network and manipulate transactions for their own gain. So far, it has been diverse and decentralised enough that attacks have not been successful, but other proof-of-work chains that operate on cheaper hardware and with lower miner participation, such as Ethereum Classic, have been successfully attacked.

The Polkadot network’s NPoS consensus mechanism, on the other hand, relies on validators who have to stake huge amounts of DOT to secure validator status. They are painstakingly selected through voting and are closely monitored for unscrupulous behaviours. Any validator found engaging in illegal activity would have their stake slashed to a degree proportional to the number of tokens staked for them. This slashing highly disincentivises validators from manipulation or malicious behaviour, since the penalty puts their stake on the network at risk.

Considering the staking and bonding culture that has developed in Polkadot, which constantly reduces the DOT in circulation, it would be extremely difficult for an attacker to amass the requisite amount of DOT to overwhelm the network. Currently the amount of DOT staked is 51.5% of the total supply.

Network decentralisation is valuable, since it seeks to do away with central figures calling the shots, who might rig the game to their advantage. Polkadot manages decentralisation generally by involving the relevant community in running the affairs of the network, such as transaction validation and governance systems.

On the relay chain, transactions are validated by validators who are elected by DOT token holders. There are over 230 of these validators and the number is set to increase with the onboarding of more parachains.

Usually, the more decentralised a blockchain’s validators are, the slower it is for a transaction to be validated. This is because it is easier for a few validators to compute and reach a consensus than it is for a thousand validators to do the same. With Polkadot’s sharding design however, a validator only has to reach consensus with the subset of validators assigned to the same parachain for that particular block. This makes for faster transactions.

As a result, each parachain really only utilises a subset of the total number of validators. This really decreases the level of decentralisation, and could make it easier for malicious validators to corrupt data in a parachain.

To prevent creating an adverse incentive for smaller subsets of validators to collude and corrupt the parachain, validators are randomly rotated amongst parachains after each block. This way, it is much harder for a malicious node to coordinate an attack, since it has no way of keeping colluding validators on the specific parachain that is being compromised.

In this way, we can see that what the Polkadot network gives up for the added performance of sharding is the decentralisation of its parachains. However, it has devised an elegant mechanism to mitigate this and achieve increased protection against potential censoring or altering of data.

Polkadot’s governance system also provides for a degree of decentralisation. A main purpose of governance in any crypto project is to stipulate binding procedures before certain changes to the system (including the base code) can be implemented. Similar to validator decentralisation, the larger and more inclusive the governance participation, the slower and more deliberate the actions must be. Polkadot has kept governance relatively tight in the early years in order to achieve its early goals, but now the ecosystem is looking to decentralise its governance further.

The governance system is spread out into three arms: the council, the technical committee, and the community.

The Council: The council consists of 6–24 members who are elected by the community to represent their interests and steer the network towards progress. The council has the power to elect members of the technical committees.

Technical Committee: The technical committees are tasked with the smooth running of the network. This would include implementing bug fixes, reversing faulty runtime updates or adding new tested features.

Community: Polkadot’s governance system revolves around DOT holders. It’s the DOT holders who get to vote for these council members. They can equally vote against harmful proposals by the council or community members. Each voting cycle lasts for 28 days. Voting takes place in the Polkadot-JS Apps Dashboard.

The Polkadot community, however, does not think the above structure is decentralised enough. Gavin Wood announced in June 2022 plans to overhaul the existing governance framework in favour of a Governorship version 2 or ‘Gov2’. The argument has been made that the current governance system has elements of centralisation. For example, the Polkadot Council has sole control over certain decision-making processes, including how the network’s treasury is spent.

The new development seeks to replace the existing governance infrastructure with a framework in the form of a referendum, such that anyone can submit proposals and have them approved. In other words, they are moving away from the governance council having the sole authority to make proposals.

The technical committee is also to be replaced with something called the Polkadot Fellowship. This new system would feature more numbers in terms of members and fewer barriers to entry. It is designed to accommodate up to tens of thousands of members.

This governance system would first be launched on a Kusama test network before being launched on Polkadot.

Polkadot does not enjoy a monopoly on interoperability solutions. Key players include projects like THORChain, NEAR Protocol, and Cosmos. However, Polkadot and Cosmos are the two biggest interoperability projects in terms of total market cap. It is no surprise that they are often compared with each other. Thus, a brief comparison is in order.

Just like Polkadot, Cosmos is a decentralised network of independent parallel blockchains. They have many similarities. Some of the differences, however, are noteworthy.

The Polkadot ecosystem has a principal chain (the relay chain) which parachains rely on for security. This relay chain is equally responsible for interoperability functions between parachains. The Cosmos network, on the other hand, does not feature shared security. Instead, it employs specialised blockchains called ‘hubs’ to simply facilitate interoperability functions between native blockchains.

In order to achieve interoperability between external chains like Bitcoin or Ethereum, Cosmos relies on specialised chains called ‘Peg Zones’. Polkadot achieves the same through bridges.

While blockchains (parachains) on Polkadot benefit from shared security provided by the network, individual blockchains (or zones) on Cosmos are required to secure their own transactions. Small projects may be unable to fulfill this requirement sufficiently, depending on resources.

To launch a Parachain on Polkadot, large amounts of DOT would first have to be staked in an auction, unlike Cosmos, where anyone can build a blockchain on the network. Since it does not need to secure its shard chains, there are no limits to the number of blockchains that can be built on the Cosmos ecosystem, whereas Polkadot is limited to 100 parachains.

Polkadot has a unified governance approach. This means that there are rules that each parachain and validator must conform to. In Cosmos, each blockchain has its own governance mechanism, ensuring faster decision-making.

Parachains are built with the substrate framework while blockchains in Cosmos are built with the Cosmos SDK framework, the native development framework for Cosmos. It has been used in building blockchains like Binance Dex, Terra, and Kava.

Both Polkadot and Cosmos use the delegated proof-of-stake consensus mechanism. DOTs are staked to secure validator status. Similarly, the ATOM token (the Cosmos network’s native token) is staked for the same purposes.

Polkadot’s push towards interoperability solutions is potentially a major advance in realising a truly decentralised web. As stated, most crypto projects and their dApps have existed like islands without access to each other. With the efforts of projects like Polkadot, this lack of interoperability could one day be a thing of the past. The dApps which would exist on the various parachains might be equipped with the resources to not just facilitate interactions with each other but with external dApps too!

So far over 24 parachains have been onboarded into the Polkadot blockchain, where they benefit from the network’s shared security. As a result, they don’t have to expend resources on security, and can focus instead on executing their project roadmap and specialising in what they do best. For instance, The Acala network solely concerns itself with the rendering of decentralised finance (DeFi) services for both the Polkadot and Ethereum blockchains. Despite a recent exploit, it might someday become a one-stop DeFi hub for the general crypto space. Moonbeam, another live parachain, provides a platform with web3 compatible APIs where developers can build Ethereum-compatible dApps. Bridging projects have similarly found their way into the Polkadot ecosystem, notable mentions include Darwinia and Bifrost.

By prioritising interoperability, decentralisation, and global commercial scalability, Polkadot has captured the attention of the general crypto community. It is no surprise that DOT is ranked among the top ten (non-stablecoin) cryptocurrencies by market cap despite having been launched just in 2020. And there are no signs of slowing down. In June 2022, Polkadot reported 1400 active developers representing a 75% increase from the year prior. Only the Ethereum blockchain can boast of higher developer numbers.

Despite all of the activity and hype, Polkadot is still in its infancy and has not yet attained its proposed structure. As of the time of writing, parathreads are yet to be launched. There is no specific launch date, but available resources point towards the near future. In parallel, several other post-launch upgrades to Polkadot are under development. These include:

• Release of Polkadot’s standard format for multi-chain interactions otherwise known as ‘Cross-Consensus Messaging (XCM)’. This is a format for interactions with external chains like Ethereum.

• Upgrades to Cross Chain Message Passing (XCMP): This is poised to be Polkadot’s next inter-parachain interaction protocol. It is a set of rules and procedures by which parachains interact with each other. Currently, Polkadot uses a protocol called Horizontal Relay-Routed Message Passing (HRMP). When compared to XCMP, HRMP consumes more storage space on the relay chain, so the upgrade should improve performance.

• Governance improvements as explained under Governance seek to usher in a more decentralised Polkadot ecosystem.

With Polkadot, the crypto community can dare to be optimistic about a seamlessly interoperable future. If the platform is able to execute on its goals and roadmap, the Polkadot ecosystem could very well be a vital piece of infrastructure for web3 beyond Ethereum.

Author:

Onodu Michael is a writer on varying interests who believes in making every positive obsession count. In the web3 space, he exerts this mindset through writing and researching on worthwhile projects.

Editor:

Tomahawk has been writing and editing at BanklessDAO from inception, and entered the crypto space as an investor in 2017. He’s a big believer in the power of tokenized mission-aligned communities and the massive potential Ethereum offers to solve humanity’s most pressing coordination failures.

BanklessDAO is an education and media engine dedicated to helping individuals achieve financial independence.

Bankless Publishing is always accepting submissions for publication. We’d love to read your work, so please submit your article here!

This post does not contain financial advice, only educational information. By reading this article, you agree and affirm the above, as well as that you are not being solicited to make a financial decision, and that you in no way are receiving any fiduciary projection, promise, or tacit inference of your ability to achieve financial gains.

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