If you’ve been laying around the Web3 field for a while, you’ve probably heard of the words on-chain and off-chain. These two words signify a form of blockchain-related transactions. Transactions that are carried out on the blockchain are referred to as on-chain transactions which in most cases include high fees and slow processing time. On the other hand, off-chain transactions are the ones that carry out outside of the blockchain, often being a cheaper and faster solution. So, which one is the better option? Fret no more, we have the ultimate explanation for the on-chain vs. off-chain debacle.
What is a Blockchain?
Before we dwell on the on-chain vs. off-chain crypto battle, let us first refresh our minds about how blockchain transaction work.
First, the blockchain is famous for its use in cryptocurrency systems. It is a public immutable ledger that maintains a secure and decentralized record of transactions. Think of it as a bank, but only not as centralized. The blockchain’s innovation is that it cuts all intermediaries and third parties during transactions while keeping them safe and secure.
In a distributed ledger, transaction data is organized into “blocks” which are “chained” together to create a blockchain. This chain of blocks allows anyone to see the history of transactions and validate it. A network of participants called miners or validators conducts the validation of a transaction. Thus, the blockchain operates on a peer-to-peer system making it decentralized.
Transactions that exist on the blockchain go by the name of on-chain transactions. Before any transactions get into the blockchain first it has to go through several steps of verification. When trading cryptocurrencies or NFTs or when any type of digital transaction occurs, the data will be time-stamped on a block and will be sent to the network for validation.
A number of blockchain miners will then conduct the process of validating the transaction. This process could occur depending on the consensus mechanism applied. For instance, a proof-of-work consensus mechanism rewards miners after competing against each other by solving complex puzzles. The winning miner then gets the right to validate a transaction.
This process, however, requires a HUGE amount of computation power to operate. On the other hand, the less power-consuming proof-of-stake consensus let miners stake their crypto for a chance to be validators for a block of transaction. However, miners request a transaction fee in order to conduct a valid transaction.
The end of the verification process will be when a consensus reaches a conclusion about its validity. After the validation of the transaction, the blockchain will be updated accordingly. In this state, the transaction is irreversible and unchanging. However, the process of verification can take a long time since a large number of miners need to confirm it. Network congestion can also further delay transaction processing. In this case, users that carried out these transactions can pay a higher fee to speed up the process.
Off-chain transactions on the other hand are conducted outside of the blockchain but could be later integrated into the blockchain. These transactions are made when two participants agree on a third party to verify the transaction, thus, negating the need for miners. Subsequently, speeding up the process with a lower transaction fee. However, off-chain transactions do not update the blockchain, thus no one can trace the record of the transaction made.
Like on-chain transactions, there are several off-chain protocols. The most important one is the layer 2 protocol that is built on top of the main blockchain. This protocol allows users to employ limitless transactions fast and with minimal costs.
On-Chain vs. Off-Chain
So, who wins the battle of on-chain vs. off-chain? Well, let’s see each transaction system’s advantages and disadvantages.
- Decentralization: There’s no central authority of governance. Third parties are not part of the transactions.
- Immutability, Security, and Transparency: Changing data encrypted on a block is a very challenging task. This makes on-chain transactions secure from any hacks and attacks. Also, the transparency aspect of on-chain transactions allows users to do independent verifications of a specific transaction.
- Slow Transactions: On-chain transactions are usually slow, especially when there’s network congestion.
- High Transaction Fees: On-chain transactions require high transaction fees and especially if a user wants to speed up the verification process.
- No Privacy: Since all on-chain transactions are public and anyone can trace them to a single ID, it’s easy for other parties to link the ID to the user’s identity.
- Power Consumption: Some blockchains still use the PoW consensus mechanism, which requires a large amount of mining power and therefore can have an impact on the environment.
- Fast Transactions: Since no transaction validation is needed, off-chain transactions are instantaneous.
- Low Transaction Fees: Off-chain transactions usually don’t require a transaction fee since no mining or staking is involved.
- Privacy: Users’ transactions are not publicly visible, thus offering a great sense of anonymity.
- Less Secure: The blockchain is almost impossible to alter or change. Thus, transactions outside it can be susceptible to hacking.
- No Transparency: The lack of transaction transparency can lead to disputes between parties.
- No Consensus: Since no consensus is employed, the verification process is left to be made by intermediaries. Which puts all the trust in third parties instead of the blockchain network as a whole.
Both off-chain and on-chain transactions offer benefits and drawbacks for users. The blockchain has issues that off-chain methods can solve, and vice versa. However, there still are no permanent solutions to on-chain transactions in terms of cost and time. Maybe as the blockchain evolves, applications of the off-chain methods will develop in order to compensate for the on-chain disadvantages.
On-Chain and Off-Chain NFTs
A more specific example of the on-chain vs. off-chain debate is to put it in the scope of NFTs. NFTs are non-fungible digital assets that are recorded as a transaction on the blockchain. On-chain NFTs refer to the token that has its metadata and smart contract written on the blockchain. Whereas off-chain NFTs store their smart contracts on the blockchain and their media off-chain.
On-chain NFTs exist completely on the blockchain. Meaning, all metadata and smart contract is within the blockchain alongside the token. The metadata can include NFTs’ unique traits, descriptions, and where it’s stored.
Furthermore, the media file of the NFT is within the NFT itself. Famous examples that use on-chain NFTs are generative art NFTs. Since generative NFTs consist of a system encoded in the blockchain that generates art based on certain codes, all metadata of the NFTs exists within the on-chain system itself.
While on-chain NFTs are completely on-chain, off-chain NFTs are not. In most cases, the smart contract of an NFT will be inside the blockchain, while media files of the NFT will exist on off-chain platforms in decentralized storage such as IPFS.
Therefore, the NFT will only store the smart contract on-chain with a pointer to an off-chain storage location. This pointer is a link that leads to a server that holds the NFT metadata. However, this method is risky. There is no guarantee that the server storing the metadata wouldn’t be tampered with or shut down. That would result in NFTs with broken links.
The Bottom Line
It’s up to you to decide what type of transaction you want to do, on-chain or off-chain. Both have their pros and cons and you’d have to take into account a number of factors. If you seek security and validity, it’s better to opt for on-chain transactions, sacrificing the cost and time it needs to undergo. However, if you seek a rapid and inexpensive process, off-chain transactions are best for you.