In this article I will go in-depth on the staking mechanism of the Chainlink network and why the LINK token is needed.

Note: If you’re not familiar with Chainlink, make sure to go through my previous article first: “Chainlink: A Fundamental Analysis”.

Before we start, here are some key terms to know:

Blockchains are essentially very secure, distributed, and decentralized databases.

Smart contracts are lines of code that automatically execute a function when given an input — just like a vending machine.

Chainlink is a form of digital infrastructure that secures data transmission.

Smart contracts, such as high-value smart derivatives, need real-world data from off-chain sources in order to execute. They need a software called an oracle to fetch said data, parse it, and feed it to contracts on the blockchain. All oracles are currently centralized, thereby negating all the advantages that come from using a decentralized blockchain. Chainlink is the most decentralized oracle project at the moment, more on why this is can be seen in my other article: “Decentralized Oracle Networks”. The LINK token is ERC-677, giving it the transfer and call functionality which lets the token trigger a contract to behave in a certain way. This was made specifically for Chainlink and makes it the only coin with the utility aspect coded into it.

What is staking and why does it matter for the Chainlink network?

Chainlink nodes on this decentralized oracle network will be rewarded with the LINK token for providing reliable tamper-proof inputs and outputs for complex smart contracts on any blockchain. LINK will be staked in nodes for use as collateral/penalty in case the node feeds a contract bad data. Users of smart contracts that need external data will pay fees to these node operators on the network to receive and verify external data along with sending payment outputs after the completion of the contract. Chainlink oracle node operators are essentially mining inputs and outputs just like miners on the Bitcoin network are mining complex math problems.

Staking matters because in order for the Chainlink network to function, one of the paths of malfeasance has to be blocked by the staking of collateral. Staking can happen in one of two ways: on the node itself (to help set priority) and on prospective contracts/queries. For example, if a client puts out a contract/query for nodes to “bid” on, the nodes then “stake” LINK onto the contract, and then the client chooses which nodes they want. The nodes that lost the bid get their staked LINK back, but the nodes that won the bid have their LINK tied to the contract until it is fulfilled. Once they have fulfilled what they were requested to do, they get their staked LINK back, plus the agreed fee in LINK. However, if that node fails to meet the pre-agreed upon conditions, (e.g. failure to deliver reliable data), they lose the staked collateral and the LINK is then sent to the contract creators.

This is important because the smart contract creators bear no cost if the contract they created ended up failing due to unreliable oracles. The contract creators would simply get their money back in the form of the staked collateral that was forfeited by the unreliable oracle. As a result, this also means that the value of the collateral being staked must be greater than or equal to the value of the assets being transferred in these contracts. Thus, the more the network is used, the higher the value the LINK token will have.

Here is an example of staking being used to make it easier to understand:

Bob wants trustless data for his smart contract, so he chooses to query Chainlink. Bob then requests a certain number of Chainlink nodes using a reputation contract that specifies that they must have at least a certain number of previous transactions, a certain percentage of accuracy, and demand a certain amount of LINK to be staked as a penalty payment from each individual node as a guarantee that they will fulfill their end of the contract. All the Chainlink nodes which met Bob’s specifications now bid to be an oracle of his contract. Bob will then select the oracles that ask for the lowest amount of LINK as a transaction fee. Bob’s selected nodes provide their data and their answers are aggregated by the aggregating contract Bob selected. Bob’s smart contract now gets this data, each node gets paid in LINK, and the penalty payments are given to all the nodes whose data did not disagree with the consensus. The honest and correct nodes now have more LINK, which they can keep for future penalty payments or they can sell it on the market.

However, all of these scenarios are hypothetical because each contract can be customized to fit the needs of the contract creators. For example, there will be contracts that require zero LINK to be staked. Which contracts will or will not require LINK staking, along with how much LINK to be staked as collateral, is all going to be determined by the free market in the Chainlink network.

This will result in a very diverse ecosystem of nodes, with some small bottom feeders that stake zero LINK, to big whale nodes that are in a LINK staking arms race with all the other whale nodes to snatch up the lucrative, high-value contracts from the likes of SWIFT for instance, along with everything in between.

Chainlink Missile Crisis (circa 2062)

What are the factors for ranking a node?

•Availability (uptime)

•Correctness of responses

•Total number of assigned requests

•Total number of completed requests

•Total number of accepted requests

•Average time to respond

•Amount of penalty payments

•Amount of LINK held

All of these factors come into play with Chainlink’s reputation system. The higher a node’s reputation, the more smart contracts are available to it. Have a bad reputation or less available LINK to be staked as collateral? Your node will not be picked over a node operator with a great reputation and/or more LINK.

The LINK token will be used for data request penalty payments to ensure that node operators provide the requested data. Penalty payments are LINK tokens that are required to be held in escrow by the smart contract. They are paid to the smart contract creator in the event that any of the node operators do not meet the required data requests as stated in the pre-settled conditions. This provides an incentive for smart contract creators to trust node operators, knowing that they have a form of financial insurance (the penalty payment) in the event a node (or nodes) fail/s to deliver reliable data.

Wouldn’t holding millions of LINK automatically rank you to the top above the other nodes?

No, holding LINK is just one of the factors when determining a node’s reputation. Having LINK on a node helps get the node started, but there is a point of diminishing returns for how much LINK to hold. Nodes that simply have enough reputation may be eligible for the job. From that, node selection will be random.

How can a smart contract creator trust data inputs for their contracts?

By Chainlinking multiple data inputs to eliminate any single point of failure. Consensus is met by having multiple inputs from different oracle nodes. For example, if there are 10 nodes feeding data to a smart contract on whether it rained on a certain day, and 8 nodes say that it did rain, then the consensus is that it rained that day. The LINK token itself is the entire reason why Sybil attacks are no longer possible: you need to actually put down money to create a node, you can’t just spam them. There can be no decentralization without some kind of incentive; nobody will run a node for free.

Why use a token instead of fiat?

Do you board an airplane with cash or with a plane ticket? The token is an internally recognized medium that holds information and allows for faster processing. The Chainlink network is a standalone network, which needs a proprietary currency to reflect the network’s value and reputation. This eliminates external factors from affecting the price. Furthermore, adapters will be made that allow users to pay in whatever they want, be it Bitcoin or USD, and have it convert into LINK for the nodes to use. End users will have no clue what Chainlink is, much like how most end users have no clue what TCP/IP is, yet can send emails. The tokens simply fuel the network so independent parties have a reason to become nodes.

Isn’t Chainlink dependent on Ethereum?

The traffic of the LINK token will go through Ethereum, but this traffic will only be from staking and node payment. This is inherently low-intensity, even with hundreds of thousands of nodes. The actual oracle and smart contract part is off-chain (ie. node’s hardware) and on-chain on any platform (ie. a blockchain) the smart contract creator wants. Chainlink will not be bound to Ethereum, at all. Eventually, all smart contract platforms will just become databases for the Chainlink network.