Decentralisation is the prime reason for the global success of crypto technology. With this unique quality, blockchain-based solutions offer customers complete privacy, letting them avoid intrusive third parties in their digital transactions and other activities. However, some level of centralisation has crept back into the crypto landscape due to security, stability, and convenience issues.
In response, creators are developing innovative ways to decentralise the blockchain without sacrificing functionality. Cross-chain atomic swaps enable users to transfer crypto funds between different blockchain platforms without third parties.
This article will explore how atomic swaps work and why they are a watershed moment in the crypto timeline.
What are Atomic Swaps?
Atomic swap is a decentralised methodology that enables two parties to exchange digital assets across blockchain platforms without centralised intermediaries. The name is borrowed from physics, describing the atomic state, which is an absolute state of matter. In simple terms, the atomic state happens completely or doesn't transpire.
Atomic swaps operate with the same core principle. Transactions conducted with atomic swaps have only two possible outcomes – they either happen or they don't. Atomic swaps rely on self-executing smart contract functionalities with predetermined conditions.
Once all conditions are met, smart contracts process a two-party transaction without supervision or monitoring. Thus, the atomic swap process completely lacks additional parties, letting users transact with complete discretion and anonymity.
The Genesis of Atomic Swap Technology
Atomic swaps were created to offset a concerning centralisation trend in the cryptocurrency landscape. As of 2017, there were numerous exchanges with a central authority monitoring the transactions and having access to the user's private keys. Two of the biggest crypto exchanges in the world, Binance and Coinbase, are both centralised.
The decision to construct centralised exchanges was made to simplify the complex crypto transactions. It is important to remember that crypto technology is highly complex and intricate, requiring specialised knowledge to conduct even the simplest operations. Due to the steep technical requirements, the general public was quite slow to adopt crypto transactions since the barriers to entry were overwhelmingly high without creator support.
Therefore, exchange platforms like Binance and Coinbase sacrificed complete decentralisation in favour of accessibility and convenience. As a result, users can enjoy much more welcoming exchange environments that closely resemble conventional fiat exchange platforms.
Platform users can swiftly access and utilise centralised crypto exchanges in various trading activities. However, the cost to pay in this case was the increased oversight and control from a centralised entity. After all, platform operators must have complete access to customer profiles to simplify the exchange process at a consumer level.
Atomic swaps were created to combat the increased centralisation factor, letting users trade across blockchain networks without involving third parties. Several decentralised exchanges emerged with atomic swap technology, enabling users to enjoy full decentralisation once again. In 2023, atomic swap methodology is the go-to option for blockchain platforms, exchanges and applications that aim to provide complete decentralisation without compromise.
How Does Atomic Swapping Work and Why Is It Integral to the Crypto Market?
As discussed above, atomic swaps enable users to sidestep third-party interventions and independently conduct transactions across different networks. To further visualise the significance of atomic swaps, let us imagine an example of a trader X trying to exchange Bitcoin for Ethereum. With a centralised exchange, trader X must register on the platform, connect its digital wallet and let the central authority take over its profile to execute the transaction flawlessly.
While this process seems trivial and relatively swift to an untrained eye, several complications and concerns are involved. First of all, centralised exchanges demand fees for their rendered services. Sometimes, transaction fees might be quite steep for smaller transaction quantities. Secondly, the entire transaction processing must be carried out by a central exchange protocol, which requires access to the private user keys.
Therefore, the central authority possesses limitless access to private accounts. On the one hand, the exchange platform might not be reputable or trustworthy, manipulating customers to sign up and utilising their private data in their interests. On the other hand, even if the exchange platform is reputable and transparent, it could be susceptible to security breaches.
If a cyber breach penetrates the centralised exchange infrastructure, it can effectively steal or corrupt all active profiles on the platform. Finally, if the exchange platform is subject to disciplinary action from regulators, the user accounts could become frozen for indefinite periods. Thus, it is only logical that numerous crypto users desire decentralised exchange alternatives, and the atomic swaps are here to deliver just that.
Now, let’s examine the scenario with trader X wanting to exchange Bitcoin for Ethereum using the atomic swap approach. Trader X has to find a decentralised exchange platform and go through similar account creation and transaction processing steps.
While the decentralised exchange alternative might prove more technically challenging, it eliminates the security concerns, excessive fees and needless intrusion of central authorities. With atomic swaps, trader X can conduct its crypto business anonymously, not disclosing its private information to any counterparty, including its trading partners.
But how does the atomic swap method ensure that both parties honour their parts of the transaction without central supervision? The answer is quite simple – atomic swaps are based on smart contracts, which allow creators to specify pre-conditions to exchange transactions. In simple terms, smart contracts require both parties to deposit their exchange amounts in a secure account.
Both amounts will be locked until the smart contract confirms that all transaction requirements have been met. After that, the transaction is automatically executed, and both parties receive their desired cryptocurrencies. Smart contracts utilise a cryptographic hash function to achieve the deposit locks and ensure the security of traders' funds until the transfer is completed.
Pros and Cons of the Atomic Swap
Atomic swaps are the much-needed return to the blockchain roots, ensuring decentralisation for crypto transactions. Atomic swap methodology has numerous advantages over the centralised exchange models, including complete anonymity, airtight security and flexibility.
However, these critical features come at a considerable cost of complexity and problems with transferring cryptos. Thus, atomic swaps are not a marked Pareto improvement over the centralised exchange alternatives. Let's explore further:
Complete Decentralisation
As outlined above, atomic swaps can accommodate complete decentralisation and anonymity for traders who wish to transact privately. Self-executing smart contracts allow atomic swaps to be processed and executed without outside interference or monitoring requirements. This core feature is difficult to overstate, as it grants crypto users unprecedented freedom and global outreach.
With atomic swaps, trading parties are not bound by governmental restrictions, geographical limitations and arbitrary rules regarding counterparties. Moreover, the absence of central authorities will significantly decrease the commission charges and the processing time of transactions. Finally, with layer-2 methodology entering the crypto market, developers are constructing off-chain atomic swaps to process transactions outside the base blockchain layers. This technological shift will make atomic swaps even faster without sacrificing anonymity and freedom.
Air-Tight Security
The atomic swap model utilises two native blockchain mechanisms that ensure complete security — hashlock and timelock functions. Hashlock protocol effectively locks out the deposited funds from both exchange parties, ensuring that both parties receive their desired funds, or neither does. The timelock function ensures that the transaction period is feasible and that both trading parties honour their ends of the deal in a timely manner.
With a combination of these two protocols and the immutability of smart contracts, atomic swaps offer a Pareto improvement in the security department. There is little to no wiggle room for manipulating the atomic swap transactions. Since the atomic swap system has no room for interpretation, users can only deposit their funds and wait for the transaction.
If any pre-conditions are not met, the smart contract reverses the transaction without any chance of loss or displacement. While cyber threats are prevalent in almost any digital sector, atomic swaps are the safest bet to conduct transactions securely and efficiently.
Atomic Cross-Chain Trading Flexibility
Most centralised exchanges do not permit users to exchange crypto coins across blockchain platforms. After all, centralised exchanges are private companies with exclusive partnerships, deals and other ties to other private entities. Therefore, CEX entities have limited exchange pair offerings for various altcoins.
This is not the case with atomic swaps, as the decentralised exchanges permit virtually any currency exchange as long as the trading parties agree. Thus, atomic swaps altogether remove the private interests of central entities from transactions, prioritising the needs of the individual traders over the profits of an exchange entity itself.
The Technical Complexity
Although atomic swaps present many essential features for crypto purists, they are technically complex and demanding, especially for users unfamiliar with crypto technology. Users that wish to exchange funds with atomic swaps must agree and set up several trade conditions – the amount, the timelock, the hash and the exchanged data.
While this information exchange process is getting more straightforward, it is still far from ideal, as average users find it difficult and time-consuming to carry out atomic swap procedures. Several DEX platforms that support atomic swaps are trying to replicate the convenience of CEX platforms, but there's still a long way to go.
Currently, atomic swaps take time and require technical skills that a fraction of the target audience possesses. Thus, even though numerous customers seek the privileges of decentralisation and anonymity, few of them know how to operate atomic swaps properly. This issue will doubtlessly be polished soon, but the current complexity of atomic swaps keeps them from reaching their full potential.
The Inability to Swap Crypto-Fiat Currencies
As of 2023, exchanging crypto funds into standard currencies is practically impossible using the atomic swap principle. The DEX platforms with atomic swaps have yet to offer a technology to accommodate this functionality. This limitation is quite a significant constraint, as cryptocurrencies have inherent liquidity problems, and atomic swaps complicate the issue even further.
Exchanging crypto into fiat is an essential feature that helps investors execute strategies related to damage control. After all, any crypto asset could drop in price without any warning signals, and it is imperative to have the ability to liquidate digital assets at your convenience.
Much like the technical complexity of atomic swaps, the crypto-fiat problem will be fixed down the road. Still, as things stand, this limitation is another roadblock for potential investors.
Atomic Swaps Vs. Cross-Chain Bridges
While atomic swaps are great for exchanging crypto assets without undesired instructions, they also have a limitation that restricts users from changing cryptos with different hash algorithms. While this is not a huge concern in most cases, it is still a considerable restriction.
On the other hand, cross-chain bridges do not have this particular limitation, as they can connect any two blockchain networks, regardless of their structure and protocols. Cross-chain bridges also enhance the security levels, as they employ the help of validators on every transaction. They are also much more straightforward and accessible for the average user.
However, cross-chain bridges have scalability, security, liquidity, and complexity issues. They are difficult to scale with large transaction volumes due to the limitations of the underlying technology. Cross-chain bridges are also vulnerable to 51% attacks or other types of cyber threats absent from the atomic swap approach. Liquidity is another concern since blockchain networks with different hash algorithms might have completely different liquidity structures, which could affect the transaction values.
Thus, atomic swaps and cross-chain bridges have distinct advantages compared to each other, but they also have considerable drawbacks. So, it will be up to users to determine which technology works best for their specific needs.
Final Takeaways
Atomic swap is an ingenious model of conducting crypto transactions, allowing users to execute peer-to-peer transactions without outside involvement. They offer decentralisation, anonymity, low transaction fees and fast processing times.
However, atomic swaps demand in-depth knowledge of blockchain technology and present limitations with crypto-fiat exchange capabilities. While the atomic swap technology is groundbreaking, it still has much ground to cover to reach its full potential.
