Polkadot auction, all you need to know

One of the most anticipated features from Polkadot, the parachain, went live in June 2021.

What is a Parachain?

We are all familiar with blockchains such as EthereumCardano, etc. These blockchains have the main chain where most of the transactions are made. In these blockchains, the mainchain is capable of hosting and running numerous DApps. The disadvantage of having all these high-frequency transactions happening on the main chain is network congestion.

This is where Ethereum’s Layer-2 solutions such as Polygon and ImmutableX come in. However, none of these solutions are at a point where they can handle all the load of the mainchain. That is the reason behind the Ethereum 2.0 upgrade in 2023.

The Polkadot ecosystem aims to achieve this with the Parachain system↗︎. In the Polkadot ecosystem, we have the main chain called the relay chain and several parallel chains that are called the parachain.

The relay chain is responsible for providing security to all the parachains that plug into it. This means that no DApps and Defi applications would run on the main relay chain in the Polkadot ecosystem.

These DApps and other Defi applications are hosted and run on their parachains. These plug into the main relay chain to commit the final result of several transactions. Ethereum 2.0 is also trying to achieve the same thing with sharding into sidechains and offloading transactions.

Why do we need a Parachain?

A parachain is a blockchain whose business logic is aimed at fulfilling one job. So, if a parachain is aimed at acting like a Defi application, its only job is to solve this purpose.

In the end, this would plug into the relay chain to broadcast the result. This prevents any congestion on the main chain. Additionally, there might be another parachain that is responsible for another use case. Since these two chains run independently of each other, the entire ecosystem is extremely fast.

What are Polkadot Parachain Auctions?

All the parachains in the Polkadot ecosystem are written using a framework called the substrate. The parachains can connect to the relay chain using this framework. However, not every parachain that is created would be able to connect to the relay chain.

The number of parachain slots on the relay chain is finite. So, which parachain connects to the relay chain is decided through the Parachain auctions.

Anyone who holds DOT (the native token on Polkadot) can use it to place bids on the parachain that they support. All these bids enjoy the security provided by the relay chain. So, your funds would not be compromised.

If you bid on a parachain project and that does not get a slot on the relay chain, your funds would be transferred back into your wallet.

If the parachain project you bid on does get a parachain slot, your funds would be locked for a certain period, which is called the leasing period. On the Polkadot ecosystem, this is 96 weeks long. In return for funding the parachain, you would also receive the native token of the particular parachain.

This mechanism highlights a very serious flaw in the mechanism. Anyone can swoop in at the end of an auction, place the highest bid, and enjoy the benefits. To combat this, Polkadot follows the candlelight auctions.

What is a Candlelight Auction?

Candlelight auctions are a very old auction technique and have been followed since the 15th century. The main purpose of this type of auction is to prevent auction snipers from swooping in towards the end of an auction.

In a candlelight auction, people would be able to place bids as long as the candle was burning. Since the end time of the auction cannot be determined, it encourages early bidders.

The same concept has been applied in the parachain auctions. Random auction end times can be generated on the smart contract, which encourages bidding from early investors.

Investors who back a particular parachain project would not want to take a risk and guess the end time of an auction. This is why candlelight auctions provide a fair chance for everyone.

Wouldn’t Auctions Need a Lot of Funds?

Yes. Parachain auctions on the Polkadot ecosystem would require a lot of funds. The amount of funds that you would need might be even higher if it is a very popular parachain that everyone likes. This is where crowd loans come in.

Crowd loans are a community of users pooling in their DOT, to a project to participate in the Polkadot parachain auction for a shot at getting the parachain slot on the relay chain. Since the funds of the entire community are used to support a particular project, the entire community enjoys the benefits if that project gets a parachain slot allotted to it.

Several wallets on the Polkadot ecosystem make it extremely easy for users to participate in crowd loans and help projects enter the auction. You would just need to use one of the wallets such as the fearless wallet to support the project that you want. If that project gets a parachain slot allotted to it, your funds would be locked for 96 weeks and you will receive the native token of that chain in the proportion of your locked funds.

Why are the Parachain Auctions Hyped?

There are several reasons why the arrival of parachains is being widely discussed. Some of these reasons are:

1- Fast transactions on the entire network: Since each parachain has its functionality, it does not have to wait for transactions on the other parachains to clear out. This makes all applications fast.

2- Locked up funds increase scarcity of DOT tokens: DOT tokens soared up to $51 as more and more tokens got locked up for 96 weeks. As the supply goes down, and demand keeps going up, the price of DOT will increase.

3- No cost for getting a parachain slot: Project owners would need to lease the DOT tokens if they get a parachain slot allotted. At the end of the period, they can choose to renew or just redeem their locked tokens. This essentially makes the cost for the parachain slot nil.

Future of DOT:

As several Layer-1 blockchains struggle to handle the high frequency of transactions on their blockchain, the Polkadot parachain offers the perfect solution. With low transaction fees and fast transaction confirmations, other blockchains would need to improve their system greatly to compete with Polkadot.

That being said, the number of parachain slots available is finite (to optimise resource utilisation). So, this might mean that the number of DApps would also be limited. It would be interesting to see how the DOT ecosystem evolves as more parachains go live.