Blockchain Fundamentals

Blockchain technology is an exciting innovation that was created by combining “old concepts,” such as cryptography, distributed computing, data structures, and finance in new and innovative ways. It’s possible to imagine a future where blockchain-based tools and technology change the way we organize our society and our economy. To imagine that possible future, you only need to understand the core concepts, blockchain fundamentals, and how it can be used across a vast swath of our society’s most important industries.

Nobody really knows who invented the blockchain because the inventor used a pseudonym and communicated only via email. In 2008, a person or group of people using the name Satoshi Nakamoto published a white paper describing a peer-to-peer payment system and a digital currency called Bitcoin. Shortly after launching the Bitcoin blockchain, Satoshi Nakamoto sent a final email announcing an exit from Bitcoin to pursue new endeavors. Nakamoto has remained silent since that announcement. 

Blockchain Fundamentals 

You can think of the blockchain as a secure, immutable, and distributed ledger or database. A network of computers, also called nodes, work together to maintain the database and guarantee its ongoing security. Inside the database are blocks of data that describe the transactions on the network. Other computers on the network, called miners, validate new transactions, add them to a new block and then send the new block to every other node on the network so that everyone has an identical copy of the full blockchain. There is no single point of failure, as with a centralized database. If someone’s copy of the database gets damaged, it’s easily recreated from the copies that all the other nodes on the network maintain. 

When it’s time to add a new block, miners compete to be the first to solve a cryptographic puzzle and receive a reward in the form of cryptocurrency. The winner adds the block to the database and publishes it to the network. A majority of nodes must agree that the data in the block is valid before it’s permanently added. This prevents any single bad actor from trying to cheat or corrupt the database. Each new block added to the database is linked to the previous block, forming a chain of easily auditable blocks, hence the term blockchain. 

Blockchain Features and Uses 

Every block added to the chain is immutable, meaning it can never be changed or deleted. The hash that uniquely identifies a block is created by combining the data in the block, the hash value of the preceding block, and a timestamp. To change a block in the database would require you to recompute the hash for that block and every subsequent block. If you were to do that, your copy of the blockchain would be different from every other computer’s copy of the database. The other computers would not agree to your changes and they would be rejected. This effectively makes the database tamper-proof.  The Bitcoin blockchain’s history of stability, which stores the keys to access billions of dollars, is a testament to this tamper resistance feature.

One of the best uses of blockchain technology is as a ledger that tracks ownership of something by storing transactions.  This is how Bitcoin works. New bitcoins are created by the blockchain to reward miners. Miners use a cryptocurrency wallet to store the bitcoins, and the blockchain records a new transaction in the database associating the new bitcoins with the address the miner selected. When a bitcoin owner spends a coin, he/she creates another transaction in the database that records a transfer from the old address to the new address, which assigns it to the new owner. Since bitcoins are digital, it’s easy to subdivide them and send a fraction of a bitcoin rather than an entire bitcoin. Bitcoin provides the ability to subdivide a coin into one hundred million pieces, each called a satoshi and worth 0.0000001 bitcoin. 

Blockchain Impact 

The biggest impact of blockchain technology might seem relatively inconsequential at first glance, but it has tremendous implications that could cause considerable changes in the way we conduct business. Today, financial transactions are centralized. Unless you pay cash, you can’t send money to another person or business without relying on a central authority such as a bank or credit card company. Other third parties, usually large companies or governments, play a similar role in different types of transactions. These entities have substantial power and influence because they control the flow of transactions, decide which transactions to complete, determine how long they take to complete, determine who can make transactions and how much they cost. The genius of the blockchain is the ability to make secure, trusted, peer-to-peer transactions, which eliminates the need for a third-party intermediary. 

The net effect of removing the middleman is to convert a centralized process into a decentralized process. The role the third party used to play is fulfilled by automation and the blockchain. The power once bestowed on the go-between-entity remains with the parties making the transaction. The implications of this concept are enormous and profound. 

While Satoshi Nakamoto invented the blockchain as the platform that enables Bitcoin, digital currency is only one example of an application created by applying blockchain technology. There is a countless number of other areas where blockchain technology can be used as a ledger or database to record ownership of an asset, easily subdivide the asset, and decentralize the transactions to buy and sell the asset. Representing physical assets as digital tokens on the blockchain also makes them more liquid by enabling a network of peers that can buy and sell a portion of the digital assets that can’t be split in their physical form. 

While you might hear some people talk about a future without the need for banks or other large third-party intermediaries, the immediate manifestations of blockchain-enabled business probably won’t be so dramatic. Even though the transactional role that intermediaries play today can be replaced by blockchain technology, many third parties provide other types of value that deserve a role, even in a blockchain-enabled process.    

The Future of Blockchain Technology 

The Ethereum blockchain, as well as other blockchain initiatives, were created to expand the functionality of the original Bitcoin blockchain for a more generalized exchange of assets. Whether it’s explicit or implicit, most transactions that exchange value between two or more parties involve a contract. Ethereum provides the ability to digitize a contract by encoding the terms and conditions in a computer program called a “smart contract.” Smart contracts also live on the blockchain and they execute automatically and autonomously to enforce the terms of the contract, including payments. 

For example, suppose you enter into an agreement to provide one bitcoin to a company that will lend the bitcoin and credit your account with 8 percent interest on the first day of each month. You can create that agreement as a smart contract that looks at your account balance and credits you with 8 percent interest on the first day of each month. The smart contract runs automatically, without any human intervention, and makes the entire process not only decentralized, but also automated and efficient. 

Blockchain is one of the most promising recent technological developments, but it is still in its infancy. Nobody knows with any certainty what the future might look like when we’ve fully embraced the technology. Many of the processes we might decentralize have some of the most powerful and influential entities, such as large technology companies, financial institutions and governments, as the third-party intermediaries with the most to lose if they are eliminated. Therefore, in the short-term, the most promising use cases for blockchain are in niche areas or in places where trusted financial and identity infrastructure is not already in place, such as the developing world.