The Ultimate Newbie Guide to Distributed Ledgers
Ledgers are as ancient as currency and writing and form the foundation of accounting. The original medium of ledgers included: clay, stone, papyrus and paper. Fast forward to the digital age with the introduction of computers, paper records became digitized.
Digitization has been applied to the logistics of paper documents but not so much to their creation. Paper-based institutions and ledgers still are the backbone of our society: money, seals, written signatures, certificates, bills, etc.
The development of computing power, cryptography and the discovery of new algorithms paved the path forward for the creation of distributed ledgers.
So what is a distributed ledger?
A distributed ledger is a database that is stored and updated independently by each user (or node) in a large network. The decentralized and distributed nature is what makes it unique. The records in the ledger are not transmitted to various nodes by any single central authority; instead they are independently constructed and held by every single node in the network. Every single user (or node) on the network processes every transaction that occurs. Each node must verify the authenticity of each transaction in order to ensure that the majority (50%) of the nodes on the network agree with the conclusions.
The voting is called the consensus and once a consensus is reached, the distributed ledger is updated and all nodes on the network retain their own identical immutable copy of the ledger. This is a brilliant architecture that allows for dexterity, 100% transparency and enables a trust-less system secured by the entire network.
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Distributed ledgers are dynamic and have properties and capabilities that go far beyond those of traditional static paper-based ledgers. They help us to formalize and secure relationships in the digital world. Normal static ledgers have a high cost to ensure the high standard of trust we expect and require of our notaries, banks, lawyers, governments, etc.
The architecture of distributed ledgers eliminates the centralized authority in favor of the individual nodes within the network itself; thereby eliminating the cost of trust needed to maintain a centralized system.
Distributed ledgers are revolutionizing the way information is stored and communicated. It applies to static data (a registry) and dynamic data (transactions). Instead of worrying on how to maintain a database, a user can fully focus their energy into managing a system of records.
In order to demonstrate the true power of distributed ledgers, here is a citation from the UK Government Chief Scientific Advisor:
“In distributed ledger technology, we may be witnessing one of those potential explosions of creative potential that catalyze exceptional levels of innovation. The technology could prove to have the capacity to deliver a new kind of trust to a wide range of services. As we have seen open data revolutionize the citizen’s relationship with the state, so may the visibility in these technologies reform our financial markets, supply chains, consumer and business-to-business services, and publicly-held registers.”
Distributed ledgers are asset databases that can be shared across a network of multiple sites, institutions or geographies. All users within a network have their own identical copy of the ledger and all changes are reflected and copied within minutes, and even seconds.
The assets can be financial, legal, physical or electronic. The accuracy and security of the assets which are stored in the distributed ledger are maintained cryptographically through the use of ‘keys’ and signatures to control user access within the ledger. Underlying this technology is the ‘blockchain’ technology.
The difference between a distributed ledger and a business ledger
A distributed ledger is a database that is shared, replicated and synchronized between the members of a network. A distributed ledger records the transactions among all participants in the network. All participants in the network govern and agree by consensus on any possible updates to the records in the ledger. There are no third-party mediators (i.e. central authorities like a bank) and thus, it is truly a decentralized and egalitarian system. Every record in the distributed ledger has a timestamp and a unique cryptographic signature which makes the distributed ledger trustworthy, and verified across each node in the network.
With the globalization of the marketplace, business networks are losing boundaries. The usual business ledger consists of producers, suppliers, consumers, partners, and various other stakeholders that can exercise their rights on objects of value known as assets.
Assets can be physical: cars, vegetables, oil or intangible: patents, stock certificates, etc. Owning an asset and transferring it from one individual to another represents a transaction that creates value in a business network. Without distributed ledgers, transactions involve numerous participants: sellers, buyers and intermediates (banks, notaries, etc.). Their agreements and contracts are recorded in static ledgers owned by the central authority. Below is an example of a typical ledger.
The problems with current business ledgers are numerous: they are not efficient, they are not transparent and are subject to fraud and misuse. All of these problems arise because people rely on a centralized third-party system like a financial institution for the single “source of truth”.
These centralized systems lead to slowdowns of transaction settlements, a complete lack of transparency, susceptibility to corruption with endless disputes. Resolving disputes and reversing transactions are costly in time and money. Furthermore, each participant in the traditional network has a business ledger and they are often out-of-sync from one another. This causes poor business decision making due to lack of accurate data creating delays in the business process until different copies of the ledger are synchronized. In business, time is money; delays create a loss of profits.
The Power of Distributed Ledgers
Now that we went through some basics and introduced you with this profound new technology, let’s dive a bit more into its world and possibilities.
Bitcoin transactions are aggregated in ‘blocks’ and added to a ‘chain’ of existing blocks via a cryptographic signature. The Bitcoin distributed ledger is constructed so that anyone can add a block of transactions if they manage to solve a new cryptographic puzzle to add each new block. The incentive for this is a reward of Bitcoins awarded to the one who solves the puzzle. Anyone who has Internet access and the corresponding computing power to solve these cryptographic puzzles can add to the ledger and earn the title of ‘Bitcoin miner’.
Distributed ledger technologies have the possibility to help governments to:
- Collect taxes
- Deliver benefits
- Issue Passports
- Record land registries
- Assure the supply chain of goods and ensure the integrity of government records and services
- To improve health care by improving the delivery of services
- Enable consumers to control access to personal records and to know who accessed them
Distributed ledgers are also more secure against cyber attacks because there are numerous shared copies of the identical database (ledger). This means that a cyber-attack would need to attack all of the copies at the same time in order to be successful. This is essentially impossible as the ledger does not have a single point of failure and thus would require hacking into thousands of different computers at the same time. Since the technology is resistant to malicious tampering and unauthorized changes, a distributed ledger effectively can not get ‘hacked’ since all users in the network will immediately spot a change to one part of the ledger.
Governments are already applying distributed ledger technologies in order to conduct their business. The Estonian government is experimenting by using a distributed ledger technology known as Keyless Signature Infrastructure (KSI). The KSI allows people to verify the integrity of their own records on government databases, ensuring the Estonian citizens data is secure and accurate. The next step was the launch of other digital services like e-Business Register and e-Tax, services that enormously reduced the administrative burden and time required by the government and its citizens. Estonia is a part of the ‘Digital 5’ group of nations with UK, Israel, South Korea, and New Zealand.
Furthermore, distributed ledgers can help in assuring ownership and provenance for intellectual property and goods. Everledger created a distributed ledger that assures the identity of diamonds all the way from mining and cutting to selling. The diamond market has a high level of paper forgery, and Everledger managed to reduce fraud and prevent the notorious ‘blood diamonds’ from entering the market.
Banks are also heavily investing in the technology of distributed ledgers in order to save costs and reduce operational risks. A consulting firm PwC created a new platform called the Vulcan Digital Asset Services in order to ensure banks and governments to explore distributed ledgers and cryptocurrencies. Westpac is trialling Ripple and other distributed ledgers and South Korea, Zimbabwe, Canada, the Bank of England and the People’s Bank of China are all intensively studying the technology.
Vulcan provides a possibility for banks and governments to experiment with distributed ledgers and cryptocurrencies by establishing identity and satisfying the anti-money laundering (AML) and Know-Your-Client (KYC) rules.
At the beginning of May, 2016, in New York was held the CoinDesk’s Consensus 2016 blockchain conference. The biggest moment occurred when the Governor of Delaware announced his plans to incorporate the country into a distributed ledger system. He said:
“Distributed ledger shares hold the promise of immediate clearance, immediate settlement and bring about dramatic increase in efficiency and speed and an increase in commercial transactions of which Delaware is known.”
The distributed ledgers technology is still at its early stages of development so it is vital for it to continue developing in the right direction. Please let me know if you have any questions related to distributed ledgers and read my introduction to blockchain in order to acquire more knowledge. Stay tuned for upcoming newbie guides to Bitcoin and similar technologies and have a great day.
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Glossary
Ledger
Collection of an entire group of similar accounts in double-entry bookkeeping. Also called book of final entry, a ledger records classified and summarized financial information from journals (the ‘books of first entry’) as debits and credits, and shows their current balances. In manual accounting systems, a ledger is usually a loose leaf binder with a separate page for each ledger account. In computerized systems, it consists of interlinked digital files, but follows the same accounting principles as the manual system.
Distributed ledger
Distributed ledgers are asset databases that can be shared across a network of multiple sites, institutions or geographies. All users within a network have their own identical copy of the ledger and any changes are reflected in all copies within minutes, and even seconds. The assets can be financial, legal, physical or electronic. The accuracy and security of the assets which are stored in the distributed ledger are maintained cryptographically through the use of ‘keys’ and signatures to control who can do what within the ledger. Underlying this technology is the ‘blockchain’ technology.
- https://www.coindesk.com/information/what-is-a-distributed-ledger/
- https://www.gov.uk/government/uploads/system/uploads/attachment_data/file/492972/gs-16-1-distributed-ledger-technology.pdf
- https://en.wikipedia.org/wiki/Distributed_ledger
- http://www.afr.com/technology/central-banks-look-to-the-future-of-money-with-blockchain-technology-trial-20161117-gss4nd
- http://www.afr.com/business/banking-and-finance/westpac-says-rbaissued-digital-currency-would-boost-blockchain-20161020-gs6rg1
- http://www.businessdictionary.com/definition/ledger.html
- https://www.gov.uk/government/uploads/system/uploads/attachment_data/file/492972/gs-16-1-distributed-ledger-technology.pdf
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