How does a Blockchain work?

• 20 December 2017 | 2218 Views | By Mint2Save

It is highly unlikely that the tech savvy and finance-phillics are unaware of the term “Blockchain”. This perfectly indexed ledger of records is now been accepted as the future for many new as well as old businesses. Starting from orthodox organisations such as banks and governments to the new age revolutionary startups, everyone seeks to reap out the maximum benefits of the Blockchain technology.

In this article we shall explore Blockchain mainly from the finance point of view and the proceed on to learn the basics of its working.

The hottest topic of discussion everywhere today is “BITCOINS”, and the reason it has gained popular attention is due to the fact that people have earned multifold using arguably the world’s most hyped crypto currency. It was the first currency based on a Blockchain technology.

During the adolescent phases of the internet, Nick Szabo came with a concept called the God Protocol. It was designed in an analogous manner to the Nobel winning concept of the God Particle. 

Nick’s idea behind this protocol was to have a third party that served as an intermediary for every transaction. Based on the inputs, this intermediary would determine suitable output (following the Garbage In Garbage Out theory). Like God is considered to be in ultimate confessional discretion, this intermediary would keep all transactions private and not share that with anybody. After all internet is all about keeping faith. 

It is this idea of Nick which, almost a one and a half decade later, probably would have inspired Satoshi Nakamoto to create the Bitcoin.

Blockchain is basically the mechanism on which crypto currencies operate. Its safe to say that blockchain is the backbone of crypto currency. So, to understand about the mechanism of operating crypto currencies we need to understand about “Blockchain”.

The blockchain is a decentralized disseminated digital ledger collectively maintained by a network of computers, called nodes. Confused? Think of it as a large record book shared among many people. We can understand this concept by relating to our banking transactions, like a bank maintains the record of our transaction in their books, similarly blockchain can be understood as a decentralized network spread amongst a large number of people that allow users to transact directly, peer to peer, without involving a middleman to manage the exchange of funds.

The idea of cryptographically secured chain of blocks dates back to 1991. This was applied in 2009 as an essential component of the now famous “bitcoin”, where it served as the public ledger for all transactions. To keep up the efforts on the blockchain network, people on blockchain were awarded Bitcoins as an incentive.

Now Let Us Understand How a Blockchain Works

Attracted by the idea of eliminating the middlemen and moving towards democratization and decentralization, people are adopting blockchain technology. Any two or more people who wish to transact over the internet or require funds can do so using the blockchain. Let us consider a small example to understand the basics of blockchain. Say there are 10 participants in a blockchain, numbered 1-10. Now say number 2 wants to transfer funds to number 6, thus he will announce the fact that he is carrying out this transaction and all participants in the block i.e. number 1 to 10 will update this transaction in their record.

Thus a blockchain database consists of two kinds of records: transactions and blocks. Each digital record or transaction in the thread is called a block (hence the name of a chain of blocks- blockchain). These transactions are entered between two distinct persons and recorded by all the participants in the blockchain. The blockchain contains an accurate and verifiable proof of each and every transaction ever made in the system. Blockchain databases are administered autonomously to exchange information between any parties; hence there is no need for any administrator or a third person to take care of all the transactions entered.

The blockchain technology uses the cryptographic keys-the private key and public key to secure the data present on the blocks. This is the same technology used in signing using a digital signature. Blocks hold batches of transactions that are hashed and encoded. Hash function is a method of encrypting data to protect the integrity of the data on which such a hash function is applied. Each block is related to a specific participant, that block has an impact on the next block or page through cryptographic hashing. Thus, when a block is complete, it creates a unique secure code, which ties into the next page. Each block contains the hash of the previous block in the blockchain, thus linking the two. The linked blocks form a chain. The information stored in the block can only be updated by consensus between participants in the system. Any data stored in these blocks cannot be erased or modified without the consent of all the participants.

How Secure are Transactions on the Blockchain?

Blockchains are secure to the extent that no data can be modified by any person without everyone else who maintains the records agreeing to the change, which really means that for anyone to breach or “hack” the blockchain, they will have to modify the data present on millions of computer, which obviously is quite not possible. Since, it is a decentralized record hence the record book is not stored in one place ensuring that there is no single point through which records can be tampered with. This makes blockchain virtually unhackable and completely secured.

Key features of Blockchain

• • A distributed database: As all the participants maintain the record, no person can cheat or carry out any fraud.
  • Durability and robustness: Blockchain cannot be controlled by a single user and has no single point of failure
  • Transparent and incorruptible: All data is embedded within network and is available to all the participants thus making the system transparent. Additionally the data cannot be corrupted as it would disturb the hash and thus it can be detected that the integrity of data has been disturbed.
  • Enhanced security: As the data is decentralized and distributed and secured using cryptography, thus it has enhanced security.
  • Openness: Blockchains are more user friendly as they are open to public.
  • Permission less: The greatest advantage of blockchain is that you have a hassle free access to funds cross-border without getting into the problems of taking permissions and approvals.

Not Just a Storehouse of Money

Thanks to massive popularity and rise in the price of cryptocurrencies, blockchain has become synonymous to a storehouse of wealth. It is not just that at all. Here are some interesting facts to support the same:

• Blockchain has been used by the World Bank in order to issue bonds in Kenya.
• The same technology has been used by the Bill and Melinda Gates Foundation to help people open their bank accounts.
• The US government in using this distributed ledger technology in order to award contracts at a faster pace and better judgement.
• Indian banking giant SBI is also set to launch a massive KYC verification and smart contracts using Blockchain

Summary

The marvels that the internet has given us are amazing. It begun from email, world wide web and then proceeded with futuristic approaches such IoT, big data, cloud computing and social media. Blockchain is another feather in the cap.

The need of having trust and faith in the other party has what sustained the internet. The unfortunate intentional attempts of hacking, data leakage, privacy mishandling and piracy have questioned its existence from time to time.

We are habitual in being a party of a three party transaction: sender, receiver and a third party for facilitating the same. A lot of businesses run on this idea. Banks, startups like Uber, Lyft, FoodPanda, websites like Amazon, Ebay etc., all are nothing more than that third party facilitating the transaction.

Enter the Trust via Blockchain technology. Now, we don’t need a third party. Transactions can now happen directly between multiple parties. Earlier, the ultimate aim of these transactions was to create a good profit for the third party (facilitator). Thanks to Blockchain, it would now be the common goal or interest the parties of the transaction are looking for. Yes, we are talking about establishing a 100% trust in the peer to peer transactions. All this without breaching the levels of transparency, data privacy. Are we reaching the final stage of sophistication of the internet?

With the advancement of technology, new doors for investment opportunities are open for the investors. Companies also have become so interested in this technology that many have begun to play around with the idea of creating their own private blockchains. The demand for blockchain is on a high rise, and the technology is maturing and progressing at a speedy pace. Blockchain technology helps to facilitate and generate businesses and operations that are both flexible and safe.

The impending applications for blockchain technology are almost limitless. Many examples of blockchain include Hyperledger, Ethereum, R3 Corda, etc. The blockchain technology can be used in varied sectors like Banking Sector, Insurance Sector, Real Estate Sector, Cloud Storage Companies, Supply Chain Companies, Health care Institutions etc. There are still a lot of potential for businesses to streamline processes and innovate on the backbone of Blockchain and use the technology for their benefit.