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Rainbow Network, a design for an off-chain non-custodial exchange and payment network supporting any liquid asset.
The Rainbow Network allows a user to trade, lend, borrow, send, and receive any liquid asset, entirely off-chain, while having only one on-chain payment channel collateralized by a single asset. The network is composed of Rainbow channels, a variant of payment channels where settlement balances are computed based on the current prices of other assets.
A design for a non-custodial off-chain exchange, built on top of a new primitive called Rainbow channels. Rainbow channels are an extension of payment channels in which the participants can hold synthetic balances in any asset, rather than just the asset that is used as the collateral for the channel. When the channel is closed, the amount sent to each participant is based on the current prices of the synthetic assets in the channel.
A Rainbow channel can support long and short positions in any asset for which the participants can agree on a price oracle, with as much leverage as the participants are willing to accept, entirely collateralized by a single asset on the parent chain. As in any payment channels, payments and trades in Rainbow channels can happen nearly instantaneously and at essentially zero cost.
Users can execute all of their trades in a single bilateral Rainbow channel with one market maker. In order to hedge that trade, that market maker can enter into a offsetting trade in some other Rainbow channel, forming a scalable network of fully-hedged market makers: the Rainbow Network.
We present three constructions of Rainbow channels. In the first, the escrow contract uses a mutually-agreed-upon price oracle to compute the settlement prices. In the second, the contract enforces “physical settlement,” where the underlying crypto asset needs to be provably delivered as part of channel settlement. In the third, the parties continuously cash-settle their balances to the payment channel. The latter two constructions do not require a trusted price oracle, and the third can be implemented on any bidirectional payment channels, such as the Bitcoin payment channels used in the Lightning Network.
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