What is Blockchain and how it works on cryptocurrencies?
A blockchain is an open, distributed database — essentially, a computer file for storing information (data). The name comes from its structure: the file is made up of blocks of data, and each block is linked to the previous block, forming a chain. Each block contains data (such as transaction records), plus a record of when that block was edited or created.
Crucially, unlike, say, a centralised database that’s owned by a company or government agency, a blockchain isn’t controlled by any one person or entity. The data is duplicated (distributed) in its entirety across many computers, meaning any user can view the entire chain from anywhere, and anyone with the right cryptography keys can edit the chain. The fact that it’s a decentralised way of storing and accessing data makes blockchains incredibly secure — because, unlike a centralised database, there’s no one single point of entry for attackers. This makes it particularly useful for recording transactions in a secure manner.
How does blockchain work?
Think of a blockchain as a book containing a list of transactions that all members of a group, or network, need to see. Every member or “node” of the network has their own copy of the book. Each page of the book is a “block” of data. Every page of the book is identified by a unique page number called a “hash,” and the first entry on each page is the “hash” of the previous page. That first entry is the “chain” that links the pages or “blocks” of transactions together.
Bitcoin and blockchain are not the same things. Bitcoin is a type of unregulated digital currency whose transactions ledger is maintained by blockchain technology
Hashing is the glue that holds blocks together. It consists of taking data of any size and passing it through a mathematical function to produce an output (a hash) that’s always the same length.
The hashes used in blockchains are interesting, in that the odds of you finding two pieces of data that give the exact same output are astronomically low. Like our identifiers above, any slight modification of our input data will give a totally different output.
Let’s illustrate with SHA256, a function used extensively in Bitcoin. As you can see, even changing the capitalization of letters is enough to completely scramble the output.
The fact that there aren’t any known SHA256 collisions (i.e., two different inputs that give us the same output) is incredibly valuable in the context of blockchains. It means that each block can point back to the previous one by including its hash, and any attempt to edit older blocks will immediately become apparent.
Mining (Proof of Work)
Appending a block isn’t cheap, however. Proof of Work requires that a miner (the user creating the block) uses up some of their own resources for the privilege. That resource is computing power, which is used to hash the block’s data until a solution to a puzzle is found.
You typically take information on all of the transactions that you want to add and some other important data, then hash it all together. But since your dataset won’t change, you need to add a piece of information that is variable. Otherwise, you would always get the same hash as output. This variable data is what we call a nonce. It’s a number that you’ll change with every attempt, so you’re getting a different hash every time. And this is what we call mining.
If you find a hash that satisfies the conditions set out by the protocol, you get the right to broadcast the new block to the network. At this point, the other participants of the network update their blockchains to include the new block.
As you can imagine, trying to guess massive amounts of hashes can be costly on your computer. You’re wasting computational cycles and electricity. But the protocol will reward you with cryptocurrency if you find a valid hash.
Staking (Proof of Stake)
The Proof of Stake (PoS) concept states that a person can mine or validate block transactions according to how many coins they hold. This means that the more coins owned by a miner, the more mining power they have.
Users who want to participate in the forging process, are required to lock a certain amount of coins into the network as their stake. The size of the stake determines the chances for a node to be selected as the next validator to forge the next block — the bigger the stake, the bigger the chances.
The proof of stake (PoS) seeks to address this issue by attributing mining power to the proportion of coins held by a miner. This way, instead of utilizing energy to answer PoW puzzles, a PoS miner is limited to mining a percentage of transactions that is reflective of their ownership stake.
Why is Blockchain Popular?
Record keeping of data and transactions are a crucial part of the business. Often, this information is handled in house or passed through a third party like brokers, bankers, or lawyers increasing time, cost, or both on the business. Fortunately, Blockchain avoids this long process and facilitates the faster movement of the transaction, thereby saving both time and money.
One key difference between a typical database and a blockchain is the way the data is structured. A blockchain collects information together in groups, also known as blocks, that hold sets of information. Blocks have certain storage capacities and, when filled, are chained onto the previously filled block, forming a chain of data known as the “blockchain.” All new information that follows that freshly added block is compiled into a newly formed block that will then also be added to the chain once filled.
In a blockchain, each node has a full record of the data that has been stored on the blockchain since its inception. For Bitcoin, the data is the entire history of all Bitcoin transactions. If one node has an error in its data it can use the thousands of other nodes as a reference point to correct itself. This way, no one node within the network can alter information held within it. Because of this, the history of transactions in each block that make up Bitcoin’s blockchain is irreversible.
In order to change how that system works, or the information stored within it, a majority of the decentralized network’s computing power would need to agree on said changes. This ensures that whatever changes do occur are in the best interests of the majority.
Because of the decentralized nature of Bitcoin’s blockchain, all transactions can be transparently viewed by either having a personal node or by using blockchain explorers that allow anyone to see transactions occurring live. Each node has its own copy of the chain that gets updated as fresh blocks are confirmed and added. This means that if you wanted to, you could track Bitcoin wherever it goes.
This also means that there is no real authority on who controls Bitcoin’s code or how it is edited. Because of this, anyone can suggest changes or upgrades to the system. If a majority of the network users agree that the new version of the code with the upgrade is sound and worthwhile then Bitcoin can be updated.
Who invented blockchain technology?
In 1991, Dr W. Scott Stornetta and his co-author Dr Stuart Harber published a whitepaper introducing ‘blockchain’, a decentralised, cryptic database where digital transactions are secured.
The first major blockchain innovation came in 2008, when the pseudonymous Satoshi Nakamoto published the bitcoin whitepaper.
Bitcoin’s success means that blockchain is a continually growing platform as it creates real-time transfer of funds and reduces settlement time.
Outside finance, blockchain has many thousands of potential applications across industries as diverse as agriculture, government, sport, real estate and health. The ability to accurately record ownership and transfers without the use of an intermediary or risk of human error offers enormous promise to companies who grasp this technology early.
What are blockchain nodes?
A blockchain exists out of blocks of data. These blocks of data are stored on nodes (compare it to small servers). Nodes can be any kind of device (mostly computers, laptops or even bigger servers). Nodes form the infrastructure of a blockchain. All nodes on a blockchain are connected to each other and they constantly exchange the latest blockchain data with each other so all nodes stay up to date. They store, spread and preserve the blockchain data, so theoretically a blockchain exists on nodes. A full node is basically a device (like a computer) that contains a full copy of the transaction history of the blockchain.
Public vs. private blockchains
As you may know, Bitcoin laid the foundation for the blockchain industry to grow into what it is today. Ever since Bitcoin has started proving itself as a legitimate financial asset, innovators have been thinking about the potential of the underlying technology for other fields. This has resulted in an exploration of blockchain for countless use cases outside of finance.
Bitcoin is what we call a public blockchain. This means that anyone can view the transactions on it, and all it takes to join is an Internet connection and the necessary software. Since there aren’t any other requirements for participation, we may refer to this as a permissionless environment.
In contrast, there are other types of blockchains out there called private blockchains. These systems establish rules regarding who can see and interact with the blockchain. As such, we refer to them as permissioned environments. While private blockchains may seem redundant at first, they do have some important applications — mainly in enterprise settings.
What is blockchain used for?
Blockchain technology can be used for a wide range of use cases. Let’s go through some of them.
Banking and Finance
Financial institutions only operate during business hours, five days a week. That means if you try to deposit a check on Friday at 6 p.m., you will likely have to wait until Monday morning to see that money hit your account. Even if you do make your deposit during business hours, the transaction can still take one to three days to verify due to the sheer volume of transactions that banks need to settle.
By integrating blockchain into banks, consumers can see their transactions processed in as little as 10 minutes,2 basically the time it takes to add a block to the blockchain, regardless of holidays or the time of day or week. With blockchain, banks also have the opportunity to exchange funds between institutions more quickly and securely
A smart contract is a computer code that can be built into the blockchain to facilitate, verify, or negotiate a contract agreement. Smart contracts operate under a set of conditions that users agree to. When those conditions are met, the terms of the agreement are automatically carried out.
They follow only the instructions given to them. The coded assets and contract terms usually put into a Blockchain.
Between the nodes of the platform, the contract is distributed and copied multiple times. The contract is performed in accordance with the contract terms after the trigger happens. The program checks the implementation of the commitments automatically.
Money Laundering Protection
Once again, the encryption that is so integral to blockchain makes it exceedingly helpful in combating money laundering. The underlying technology empowers record keeping, which supports “Know Your Customer (KYC),” the process through which a business identifies and verifies the identities of its clients.
Blockchain’s immutable ledger makes it well suited to tasks such as real-time tracking of goods as they move and change hands throughout the supply chain. Using a blockchain opens up several options for companies transporting these goods.
Entries on a blockchain can be used to queue up events with a supply chain — allocating goods newly arrived at a port to different shipping containers, the food industry is increasingly adopting the use of blockchain to track the path and safety of food throughout the farm-to-user journey.
Once a transaction is recorded, its authenticity must be verified by the blockchain network. Thousands of computers on the blockchain rush to confirm that the details of the purchase are correct. After a computer has validated the transaction, it is added to the blockchain block. Each block on the blockchain contains its own unique hash, along with the unique hash of the block before it. When the information on a block is edited in any way, that block’s hashcode changes — however, the hash code on the block after it would not. This discrepancy makes it extremely difficult for information on the blockchain to be changed without notice.