Last week, it was announced that Bitcoin exchange BTSE will be launching the first token issued on Blockstream’s Liquid sidechain network for Bitcoin. There is a lot to unpack here both on the technical and the social fronts.

Sidechains

Sidechains are an interesting concept to enhancing the functionality of a slow moving and conservative beast like Bitcoin. What they aim to achieve is the functionality we see in alt-coins with additional features like privacy, token issuance, application layers and smart contracts but utilising Bitcoin as the native currency. The concept is to expand Bitcoin’s feature set without risking the base protocol but preventing the multi-coin world which adds friction.

 

A sidechain is basically a parallel blockchain. It requires it’s own security model and consensus layer and thus requires additional infrastructure. The Liquid sidechain is an example of a federated sidechain that is closer to a Libra style model where a number of ‘trusted’ parties host nodes that facilitate consensus. It is not as permission-less and trustless as the Bitcoin base layer but is more permission-less than the current financial system.

 

The value add from sidechains is that it allows innovation and iteration without the baggage of needing to find consensus. New features can be built, tested and adopted by users whilst isolating any potential failure mechanism to only the sidechain. Once a feature is proven to be secure, useful and has high adoption, it can reasonably be developed into the base layer as a new consensus change. Using pegging systems, it also becomes possible to move BTC between the main-chain and sidechains to facilitate a single currency across the ecosystem.

How sidechains work

There are two systems at play, the parent chain (Bitcoin) and the sidechain (Liquid). In order to move coins from the parent to the sidechain, a special transaction is built that contains a unique hash and script to lock the coins until a return signal is received.

 

The parent chain now sees coins sent to an address with particular conditions that must be met to move them again. Once this transaction is confirmed on the parent chain, the assets can be created on the sidechain by referencing the unique hash.

 

There are a few confirmation periods that need to be observed during this process.

 

* Extended confirmation period on parent chain. This is longer than the actual confirmation and is intended to ensure that the special locking transaction is buried under a sufficient amount of work as to prevent a double spend. This could be 1-2 days.

 

* Contest confirmation period on the sidechain. This is to ensure that the sidechain transaction which refers to the unique parent chain hash is in sync with the network and that no competing transaction arises. In essence, this is to prevent a double spend by someone else creating the assets on the sidechain if they have access to the unique hash.

 

To redeem the coins on the parent chain, the sidechain creates an proof hash that the new owner holed the sidechain BTC and includes their on-chain address. When the transaction is broadcast, the coins are burned on the sidechain and may be unlocked on the parent chain by whoever the new owner is.

 

Interoperability

One of the cool features of sidechains is that assets can be exchanged between other sidechains to create an interoperability layer. The protocols use a two-way-peg where assets have a defined exchange rate between sidechains.

 

In theory, this could be a deterministic one (for example 1x BTC on parent = 1x LBTC on Liquid) or could be set by an oracle system if there is an atomic swap mechanism or a market at play. Oracles tend to introduce complexity and trust and are less likely to be utilised at a large scale for this reason.

 

A quick definition of the term SPV = Simple Payment Verification. This is the system utilised by mobile or light wallets to reduce the data requirements of a full node. The best explainer is imagine you are moving house and you out all your items into packing boxes (blocks). If you need to find a particular book but can’t remember where you packed it, a fully validating node would rummage through every single box in order of how you packed it until it finds the book.

 

An SPV node however will just look at the labels you put on the box (Kitchen, Lounge Room etc) which are equivalent to the block headers. Once the node sees that it is most likely to be inside that block, it will download it and check inside. This simplifies the process and  reduces data footprint.

 

For sidechains, there are two types of systems that enable this interoperable functionality depending on the configuration of the sidechain nodes (full validating or SPV):

 

Symmetric Sidechain: Sidechain nodes are SPV level validators of the parent chain. That means that they must trust the block headers being served to them from fully validating nodes and thus has a lower security level. However it facilitates faster propagation of information and has the advantage that the parent and the sidechain are isolated. A failure in the sidechain is contained there and a reorg of the parent chain will not necessarily reog the sidechain.

 

Asymmetric Sidechain: Sidechain nodes are fully validating nodes of both the parent and the sidechain. This results in higher assurances and security but has additional overhead in  terms of node infrastructure and also means that a reog of the parent chain will also reorg the sidechain. This makes the sidechain non-isolated and there are greater complexities in terms of overall security and attack vectors (sidechain makes parent chain top heavy).

The tradeoffs

Complexity – Increasing protocol numbers and operations is inherently more risky than not. This requires proofs, node infrastructure and confirmation periods to counterbalance.

 

Double spends – In the event of reorganizations when an asset has been transferred from one sidechain to another, it could be possible to double spend or even create inflation. This is unlikely to affect the Bitcoin parent chain but could result in inflation of tokens issued on the sidechain. Dynamic confirmation periods are required based on the finality and security of each sidechain.

 

Centralisation of Miners – Dual mining a sidechain requires increase expertise and infrastructure. As such, it would likely have the added benefit to larger players who can accommodate this additional expense for additional income. Thus it is likely to further centralise mining parties as smaller miners get priced out.

 

Are Blockstream hypocrites?

Now for the social part of this problem. Blockstream who are the dominant party responsible for building Bitcoin critical infrastructure have developed Liquid and sidechain tech. They are also the loudest and most aggressive Bitcoin maximalists and the biggest opponents of Ethereum.

 

If I was to hazard a guess, the proportion of Tweet activity coming out of Blockstream that is productive and focused on Bictoin vs inflammatory and aggressive against Ethereum, its 30%:70%. They spend more time sledging the competition than they do having useful conversations.

 

Now why might that be? It’s the exact same reason Decred exists. Blockstream (who pay/are the majority of Bitcoin Core devs) rejected the btcsuite alternate full node implementation of Bitcoin by Company 0. They are threats to Blockstreams revenue stream and company. They are Bitcoins central planning committee and they have VC backed interests.

 

The recent issuance of the BTSE token (which is just as scammy as Binance Coin btw) is the latest in the drama. BTSE has connections to Blockstream in that there is a personal/romantic relationship between two of the employees, not really relevant in depth but clearly a merging of conflicted interests here.

 

So I put out a poll:

Seems like a yes to me. Blockstream loves to push the Ethereum is a scam narrative. It’s because Ethereum is direct competition to their sidechain product. Check out the website for Liquid where they show the comparison table between competitors. A very selective set of criteria that is outright lies in some areas. They also deliberately miss criteria that Ethereum has that Liquid does not (like users! Like applications! Line network effects!).

Closing thoughts

As always, nothing is simple. Sidechains are cool tech and I do see them gaining traction long term. It is an interesting way to innovate and experiment without breaking Bitcoin consensus. Are they adopting Bitcoin level security? Absolutely not, they are whole new blockchains and must be secured as such. They have reduced security but greater functionality. Always take Blockstream commentary with a pinch of salt. Likewise for any opinion but this highlights what competition and vested interests look like in the context of Bitcoin development.