On fair designs of cross‐chain exchange for cryptocurrencies via Monte Carlo simulation

Abstract

Cryptocurrency is one of the earliest and the most successful applications of blockchain, and it utilizes the distributed ledger, which is a commonly used technique in blockchain, to make a decentralized transaction within the blockchain of a cryptocurrency. However, how to make a decentralized transaction of cryptocurrencies between parties on different blockchains, that is, the cross‐chain exchange, is not well‐studied. In this paper, we develop a new method to make cross‐chain exchanges based on the classical atomic swap. We first study the optionality embedded into the atomic swap and propose to add a premium into the atomic swap, and then design a new procedure with the premium to guarantee the fairness of the cross‐chain exchange. We also provide an algorithm based on the least‐squares Monte Carlo method to estimate the premium and analyze the convergence of the algorithm. Moreover, we study the cross‐chain exchange with margin trading. We propose an adapted exchange procedure to make a fair cross‐chain exchange and an algorithm to estimate the fair premium under the margin trading. Numerical experiments are provided to show the effectiveness of the algorithms.

Decentralized Finance—A systematic literature review and research directions

“…One area are advancements of the 'atomic cross-chain swap', a solution first discussed by Herlihy (2018). Han et al (2019), Wang et al (2021c), andRueegger andMachado (2020) show that the classic atomic swap is equivalent to a premium-free American call option for the swap issuer (given the optionality to abort the swap within a given time frame) and thus unfair for the participant. Hence, the former two papers design and implement swap solutions which estimate the premium value and price it fairly.…”