What is Blockchain? A Deep Dive

Blockchain is a decentralized database best known as the underpinning framework for cryptocurrencies. This foundational technology provides the infrastructure for the evolution of digital money and decentralized applications (dApps).

As a secure and transparent distributed ledger technology (DLT), blockchain can revolutionize traditional industries by offering a new perspective on storing, securing, and managing data.

In this article, we break down the basics of blockchain and answer the questions, “What is a blockchain?” and “How does blockchain work?” We’ll also discuss blockchain's advantages and limitations, explore its applications, and speculate on its future prospects.

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The Basics of Blockchain Technology

Blockchain technology is a decentralized digital ledger that facilitates secure record-keeping and management of transactions that are distributed across a network of computers (nodes).

As a distributed ledger, a blockchain is made up of a network of independent interconnected nodes that each maintain a copy of updated transaction records to prevent a single point of failure.

Now that we’ve answered the question, “What is a blockchain?” let’s get into the details.

Blockchain stores data in blocks that are cryptographically chained together. Once a block is created it is linked to the chain’s previous block. All nodes have synchronized updates of the blockchain ledger to reflect the added blocks. The cryptographic linking of data blocks ensures that previous blocks can’t be altered, securing the network against manipulation.

Blockchain is a trustless, decentralized network that transfers control and decision-making from central authorities to the distributed network of nodes. In a decentralized blockchain network, the trust needed between network participants is minimal as control and resources are evenly distributed among the nodes.

Decentralized blockchains use a peer-to-peer (P2P) architecture that allows participants to interact with each other directly without intermediaries. Participants have full control of their digital assets, and records are on a public network that anyone can verify.

To understand what a blockchain does and the underlying technology it uses to execute operations, here are some key terms you need to know:

• Node: A device that runs the blockchain software and participates in the network by validating transactions and securing the network.

• Block: A place where information is stored on a blockchain network.

• Miner: A specialized node that contributes its computing power to verify transactions and create blocks on the network.

• Hash: A unique identifier that serves as a digital fingerprint for each block in the network. Next, you will find the answer to the question, “How does blockchain work?”

How Does Blockchain Work?

In this section, we will uncover how the blockchain works. Blockchain utilizes a peer-to-peer architecture that allows participants to conduct transactions directly with each other without a central server. To perform a successful transaction, you need a cryptocurrency wallet that will generate a cryptographic pair of both public and private keys.

A public key is your wallet address, comprising a string of alphanumeric characters you share publicly to receive cryptocurrency. A private key is a string of characters that unlocks the right of ownership, authorizes spending cryptocurrencies, and is kept confidential, like a credit card PIN.

The process of verifying and recording a transaction on the blockchain begins when you create a transaction in your wallet. You need to indicate the receiver’s address and the amount you want to send and sign the transaction using your private key. Therefore, the information contained in the transaction will include:

• Your public key (sender’s address)

• Amount

• Destination (recipient’s address)

• Signature (sender private key)

• Transaction fee

• Timestamp (provides a record of when the transaction happened)

The transaction is then broadcast to the network for validation.

After a broadcast, nodes on the network receive the transaction to check its legitimacy through a validation process. Since all nodes store a copy of the ledger, they can check if you have enough cryptocurrency to make the transaction, including the transaction fee, and that you adhere to network rules. Nodes also confirm the accuracy of the transaction and ensure signatures are valid to prevent double-spending.

Once the transaction is validated, the nodes relay the information to the miners or validators for verification.

Miners (or validators) group the information into blocks, with other transactions happening around the same time. Different blockchains use different consensus mechanisms, such as proof-of-work (PoW) or proof-of-stake (PoS), to determine who gets to add a new block to the network.

In Proof-of-Work, the miners compete to generate the block hash by solving mathematical equations. The first miner to generate the correct hash is the winner and gets to add the block to the network, subsequently receiving the block reward and the transaction fees contained in the block.

In Proof-of-Stake, transaction verification is tied to how many coins a node is willing to stake. Staking refers to locking cryptocurrency to secure the network and become a block validator. The network selects a winner based on the amount of staked coins, and they get to validate the latest block of transactions.

Each block contains three main components: the previous block’s hash, timestamped batches of recent transactions, and the current block’s hash.

A block is added to the network by cryptographically linking it to the previous block, creating a chain of blocks. The transaction is then confirmed and recorded permanently on the ledger, and the recipient receives the cryptocurrency in their wallet.

Consensus mechanisms are the building blocks of trust and security in a blockchain network that ensure participants agree to a single state of the shared ledger as well as its transaction history. The mechanisms set the rules that govern how transactions are verified and incentivize participants to take part in securing the network. They establish a single version of truth across the network in the absence of a central authority by allowing multiple nodes to verify all transactions and come to an agreement.

Consensus mechanisms maintain the integrity and security of the network by making it almost impossible to alter a block once a consensus is reached, a built-in tolerance against malicious actors. For instance, PoW requires a lot of computational power to add a block to the network, making it impractical for attackers to try to manipulate the blockchain.

There are different types of blockchain, including:

Public Blockchain

A public blockchain is an open network in which anyone can participate in, read, and audit data and validate transactions. It is decentralized, with no governing body controlling the network, and participants communicate directly with each other.

Public blockchains use distributed consensus mechanisms to verify data and keep participants anonymous. Information added to the blockchain is immutable and permanent.

Private Blockchain

A private or permissioned blockchain operates on a closed network where participation is restricted to authorized individuals. Private blockchains are controlled by an organization or group that decides who can access the network and go back to alter the blockchain.

They are less decentralized than public blockchains since they have a single authority maintaining the network. The network is spread among participants known to the controlling body, eliminating anonymity.

Consortium Blockchain

A consortium or federated blockchain is a type of blockchain in which multiple organizations jointly control the network. Access is restricted to pre-authorized users, and consensus is achieved using a pre-selected group of nodes.

Consortium blockchains facilitate interoperability between multiple organizations under the same consortium, allowing them to share data securely and privately. They are customizable to meet the specific needs of the participants, and each node has a copy of the blockchain, promoting trust among the organizations.

Blockchain's Advantages and Limitations

Let’s explore some advantages and limitations of blockchain technology.

Advantages

• Immutability: Once data is added to the blockchain, it can’t be altered or erased easily. Blockchain blocks are securely linked together through cryptographic hashing, creating a chronological data chain resistant to hacking and manipulation.

• Decentralization and P2P: Blockchain's decentralized nature allows participants to interact with each other directly without requiring a third party. The distributed system also prevents a single point of failure, and data is verified by multiple nodes, reducing any risks of fraud.

• Transparency: Blockchain public ledger functionality allows data to be visible to anyone in the network. You can track the transaction history, participate in validation, and audit the data on a public blockchain.

• Security: Blockchain uses advanced security measures such as end-to-end encryption and cryptography to secure the network. The ledger is also distributed across multiple nodes which makes it virtually impossible to hack and may require a lot of computational power or staked coins to succeed.

Limitations

• Scalability: The network’s architecture limits its ability to process large amounts of transaction data in a short span; a low throughput can clog the network and hike transaction fees. For example, the scalability trilemma almost forced traditional blockchains to trade off one of the three attributes of blockchains, scalability, security, or decentralization. This would have impeded adoption of the technology were it not for the rapid emergence of scalability solutions, such as Layer 2 (L2) protocols.

• Energy consumption: Blockchain relies on consensus mechanisms like Proof-of-Work to validate transactions, which requires significant computing power and high energy consumption for mining.

• Regulation: Blockchain’s decentralized nature means there is no central authority to implement regulations. The technology faces regulatory challenges worldwide as different jurisdictions have varying regulations which causes uncertainty.

Blockchain Applications Beyond Cryptocurrency

Blockchain technology can be applied to many industries outside cryptocurrency. Let’s look at how blockchain can positively impact prominent sectors.

Finance

Blockchain technology can play an essential role in the financial industry's future, helping to reduce costs, increase efficiency, and create new digital products and services that can be reached by a broader user base.

For example, blockchain can reduce costs by creating peer-to-peer systems that replace intermediaries with smart contracts to automate transactions. Moreover, distributed ledger records are immutable, making it easier to audit and track suspicious activities, adding more transparency and trust to an often opaque industry.

NASDAQ was one of the first stock exchange firms on Wall Street to explore and adopt blockchain. It introduced Linq, a blockchain-based platform that allows companies to manage private market transactions digitally.

Supply Chain

The supply chain industry involves managing massive amounts of information using centralized systems. The industry uses outdated data storage methods, like paper-based records, which make it hard to trace the flow of goods or mitigate problems before they arise. Blockchains can streamline inventory management by giving stakeholders a transparent, real-time database with updated inventory records, enhancing product traceability.

The ledger also allows stakeholders to detect execution errors and pinpoint their source early enough to develop a proactive risk mitigation plan. Blockchain technology can improve communication and collaboration among stakeholders and establish transparent payment systems in the industry, reducing cases of supplier fraud.

Trust Your Supplier is a procurement company that has partnered with IBM to create a blockchain platform that streamlines its supplier information management. They use a permissioned blockchain where suppliers can create their digital identity and share it with other enterprises simultaneously. It also facilitates quick supplier onboarding and lessens the costs of verification when identifying reliable suppliers.

Healthcare

Blockchain has a wide range of functionalities that could benefit the healthcare system. An immutable ledger can track the supply of medical items from manufacturers, confirming their provenance and authenticity. This transparent system can eradicate the distribution of counterfeit and fabricated drugs, thereby giving patients full visibility of the supply chain for the medical items they are buying.

Another significant challenge faced in the industry is uncoordinated care and miscommunication regarding patient medical histories due to record omissions. Blockchain can record medical histories and give a single unified view of the patient's state. Additionally, the technology can also protect sensitive medical records using cryptography and grant access to authorized personnel only.

Mediledger is a blockchain-based pharmaceutical supply management project that enables companies to streamline drug supply and verify prescription authenticity. The project aims to enhance patient safety and compliance with track-and-trace regulations.

Real Estate

Real estate is one of the largest and oldest industries in the world, but it’s made up of many siloed networks with a high volume of paperwork. The industry uses traditional methods that don't offer transparency and involve several intermediaries in every process.

Blockchain technology can streamline operations in the sector by eliminating intermediaries and replacing them with smart contracts, which are cheaper and faster. The digital ledger can provide an immutable record of ownership, replacing outdated paper deeds and facilitating faster asset transfer.

Blockchain can also facilitate the signing of lease agreements on-chain and remove the need for manual reconciliation of payments by landlords. It can make real estate investment more accessible by tokenizing assets. Tokenization accelerates the exchange of assets by making transactions more efficient and reducing the amount of paperwork involved.

Propy is a real estate marketplace that utilizes blockchain technology to simplify transactions in the industry and streamline buying and selling of properties through smart contracts. It uses blockchain technology to promote transparency and increase efficiency by automating routine tasks and making real estate more accessible.

Real-World Asset Tokenization

Real-world asset (RWA) tokenization involves representing ownership of real assets in digital form by fractionalizing them into distinct pieces and recording them on the blockchain as tokens. Tokens can represent ownership of tangible and intangible real-world assets such as intellectual property, real estate, and equity. Through fractionalization, Tokenized assets are divided into smaller tradeable units to create liquidity for assets in highly illiquid markets and also lower the barrier of entry for retail investors.

Real-world asset tokenization allows fractional ownership of assets like real estate and enables more people to participate in asset investments. Real-world asset tokens are stored on a transparent and immutable blockchain, reducing the chances of fraud in high-stakes investments.

The Future of Blockchain Technology

Blockchain’s trajectory is toward finding sustainable and scalable interoperability solutions and creating a connected ecosystem of collaborating networks.

Blockchain networks are siloed systems with different protocols and consensus models that cannot communicate efficiently or initiate transactions on other networks. Creating an ecosystem where users can easily switch from one platform to another and seamlessly send data across networks can increase blockchain adoption and its integration into traditional industries.

Additionally, blockchain is becoming sustainable by moving to less energy-intensive architecture and utilizing renewable energy sources for operations. For instance, networks like Ethereum have transitioned to more energy-efficient consensus mechanisms, while Bitcoin is shifting toward using more clean and renewable energy to power mining.

The development of hybrid consensus models can mitigate vulnerabilities in traditional mechanisms by leveraging the benefits of multiple systems. Blockchain can achieve optimal performance by employing a consensus mechanism that is scalable, sustainable, and secure without compromising on decentralization.

Conclusion

Blockchain extends beyond cryptocurrency and can disrupt many traditional industries with outdated processing practices. It can foster trust and reshape how we interact with service providers.

Blockchain’s distributed feature eliminates the need for intermediaries, reducing operating costs and giving users control over their data. However, the technology faces challenges, such as scalability and regulatory hurdles, that hinder its mainstream adoption.

That said, blockchain technology has the potential to revolutionize many industries as it continues to evolve and address its challenges.

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Note: Any cited numbers, figures, or illustrations are reported at the time of writing, and are subject to change.