Confused about blockchain, crypto, NFTs, or Web3? Here’s what you need to know.
Every few years, a new technology emerges that opens up the doors to new opportunities. In the last decade, a new technology called blockchain has emerged and was immediately placed to use as an alternate currency. Blockchain is not a new concept and was first proposed by cryptographer David Chaum in 1982 who later on conceived the first cryptocurrency concept called eCash.
Yet it wasn’t until 2009 that a new currency called Bitcoin emerged and started spreading like a wildfire. There was a great need for an alternative currency.
Why was there a natural need for an alternative currency?
Well, here are a few reasons:
- Digital payments are constantly on the rise, replacing traditional payment methods (checks, cash) and as the world is going digital, more and more people opt to pay digitally. So digital payments are becoming a common and convenient option.
- Current digital payments are mostly based on cards (credit/debit cards) and there are high processing fees on digital payments performed by cards that reach up to %3 for non-point-of-sale payments. Even mobile/digital wallets rely on the cards infrastructure to move money around (since there’s no dominant wallet to move funds between eWallets and people still hold their funds in the traditional banks — the only way to change that is to create a shared protocol between all eWallets and Neobanks for transferring funds with a much lower fee — this would be an all-out war against the credit-cards networks + it is not likely that the fees will drop too much even if such a protocol would be applied)
Below is an example of how processing fees are applied (in the US, eCommerce fees are around %2.7, while POS fees are around %2)
- Privacy — naturally, payments are regulated to prevent fraud, and money laundering and to uphold fair trade, proper accounting, and taxation. Therefore any transaction record must include the payee and payer details. So there’s actually no privacy. Suppose there’s a tough WWF wrestler who secretly loves small teddy bears and buys them online — using today’s payment regulations, anyone doing an audit on transactions will see that he buys cute teddy bears and that may hurt his reputation as a tough wrestler. I think the point is clear, right?
So people were looking for a digital payment method, free of fees that will also guard their privacy (anonymity) and be secure (as far as transaction accountability is concerned) — enter the cryptocurrency Bitcoin!.
Bitcoin, which is based on blockchain technology, enables digital money transfer in a more transparent (accountable and public), fee-free (almost), anonymous and non-centralized manner.
As Bitcoin gained momentum, everyone started talking about Cryptocurrencies (today there are hundreds of cryptocurrencies). Later, Web3 was coined and NFT’s emerged as well.
But before we’ll explain what NFT and Web3 are, let’s take a look at the fundamentals and explain blockchain.
So what is Blockchain anyway?
Blockchain is a method of recording a sequence of events, we’ll call them blocks of data (in cryptocurrencies that would be transactions), where each block has a unique identification code that is generated according to the contents of the event, and each event is linked to the previous event using the unique code of the previous event. Hence the name blockchain.
We could look at this blockchain as a sort of a digital ledger
If we fraudulently try to change the content of the event then its unique ID will change and that will be noticed in the next link in the chain as the next link reference to the previous one will not be an existing ID.
The unique ID is generated using a Hash function — that is, a mathematical function (a.k.a. Cryptographic Hash Function), executed using a computer, that takes the content as an input and generates a unique ID for that content.
One more thing that I didn’t mention, to prevent changing the ‘Previous Hash” reference on the next block, both the contents (Data) and the previous hash are used for calculating the new Hash. That way, even if a fraudulent entity tried to change the content of a block then it would have to recalculate the hashes for all the consecutive blocks again, and that is hard computationally, in other words, it would take a lot of time and resources (could take years for a very long chain).
On top of that, to increase security and prevent fraud, blockchains are made to be distributed. This means that all chains are distributed to many “holders” (computer nodes), which are not owned by a single entity, and all these holders are expected to hold the exact copy of each chain — this will allow identifying a case where someone has managed to fraudulently alter a whole chain on one of the nodes.
This is called a distributed blockchain or a distributed ledger.
For a deeper dive into blockchains, see this nice article by Venkat Kasthala.
For the best demonstration of how blockchains work, visit Anders Brownworth’s website and watch his videos.
How is Cryptocurrency built over blockchain?
Now that we understand how blockchains work, it’s easier to understand why cryptocurrency is built over blockchain — transactions are recorded in blocks and every transaction is public (and distributed), secure and accountable.
But how can we prevent having just anyone record a new block with a false transaction? How can we prevent a fraudulent actor from recording that some random crypto-wallet holder has moved all his funds to the fraudulent actor’s wallet?
This is where another solution from cryptography is used (yeah, it’s not a coincidence that they named this field Crypto) — private and public keys pairs (yes, they come in pairs).
I won’t go into how these keys work (there’s a ton of info on the internet if you would like to dig deeper — here’s one simple reference) but I will only say that these keys use a certain mathematical algorithm that allows anyone with the public key to decrypt and verify data that has been created with the corresponding paired private key.
Public keys, as their name implies, are public and accessible to everyone.
So, in cryptocurrency, each crypto-wallet has a unique key pair and the public key can be considered as the wallet ID (recall that one of the advantages of cryptocurrency is anonymity).
Whenever a crypto-wallet holder wants to transfer cryptocurrency to a peer then he records the transfer on a block and signs it with his private key and all others can authenticate this transaction using the public key of that wallet. (refer again to Anders Brownworth’s website for a demo of how that fundamentally works)
Here’s what my private key looks like:
b3BlbnNzaC1rZXktdjEAAAAACmFlczI1Ni1jdHIAAAAGYmNyeXB0AAAAGAAAABAEFkbISMafBMvHOND174s2AAAAEAAAAAEAAAAzAAAAC3NzaC1lZDI1NTE5AAAAIM5Nx9toSZ9Jydpq3e/VWLgHA47URYyYmh7zSA4/3OCxAAAAoKO73EKyfWgV54AnuVfM9tX7lWc+sTOXzK9nr+9tea0Byx+zP8tzub4lfJeRGH+wlTBhWbCs0K9Vq+XGlB4F++/zNOMlbiB8KvWy2Q1hTtKBpTOdrqvmFFCXkIuPMqHDKrs11e3jDtyFnMNPzeEAlM6+OozTMs7NqCoWpjxTDBgo03cUTrfHz3IiCcPw82eSWD+e/C7w0EekT98GFpnjQjQ=
I’m kidding of course - it’s not my private key but that’s indeed what one looks like. Next time you hear stories about people who lost all their cryptocurrency because they lost their wallet key, you’d understand why there’s no way to remember the key by heart. Some people actually store the keys on a secure USB device, or print the keys on paper, and hold them in a bank safety deposit box (the irony….).
What is ‘mining’?
Mining is the computational process of calculating the hash (or some other computational process that is required to create a new block on the blockchain).
Calculating the hash in a certain manner (for example, so that it would start with six ‘A’ characters) requires a lot of computational power, time, and energy (electricity). That’s why it was coined ‘mining’ because it takes hard work and time to find the hash that is appropriate for usage.
People are also talking about Ethereum — what’s that?
Ethereum is also a decentralized blockchain but with smart contracts.
Smart contracts are computer processes that are automatically executed on the blockchain to perform various actions. They are called contracts because they act as a public and automatic (hence ‘smart’) protocol of action and all blockchain parties acknowledge and accept the contract.
Bitcoin mainly serves as a currency whereas Ethereum serves as an open-source platform for blockchain-based applications with smart contracts.
Ethereum has its own currency, Ether (ETH), and it serves as a reward to miners for adding blocks to the blockchain.
What about NFTs, what are they and how do they work?
Non-fungible Tokens (NFTs) are tokens for proof of ownership for anything digital (photos, videos, digital art, etc.). The tokens are also created on smart contract blockchains, typically Ethereum.
I think that today’s NFT markets are not much different than auctions of physical artwork — there’s a lot of buzz around NFTs and I think it is mostly hype when it comes to trading NFTs of digital art.
That said, NFTs are here to stay and we will probably start seeing them more in…. games(!) Consider Roblox, Minecraft, Fortnite, and the soon-to-be-released Metaverse — NFTs will be used for trading unique items in these games.
But if you think of it, there could be more practical uses of NFTs: copyrights on textual work, ownership of tangible assets, identity verification, ticketing, and more — read this article to get some more practical ideas.
Nike recently launched Nike’s CryptoKicks following their acquisition of RTFKT — they started using NFT as proof of ownership for sneakers designs and skins. Theoretically, these designs and skins can serve as a blueprint for manufacturing those sneakers. Now, imagine your favorite NBA player playing with one-of-a-kind basketball shoes designed especially for him, and the design of that shoe is sold or auctioned as an NFT. The owner of the NFT holds proof of owning the design and he can replicate the unique shoes and sell them while showing proof of authenticity.
OK, so what’s Web3?
Web3 is the general name that is given to all web products based on blockchain. Since many people see blockchain’s applications over the web as a revolutionary step in the Web (internet) evolution, it became common to call it Web3.
Though I agree that the technology will help bring to life new products that increase trust and decrease centralized control, I do not see it as a revolution of the Web but rather as yet another step in its evolution.
And so, the Web is evolving but I doubt that we would start seeing all applications switching to services based on blockchain, especially when it seems that blockchain infrastructures need some more time to mature (specifically around security).
So are Bitcoin and NFT all there is to it?
Thankfully no. As crypto popularity steadily grew, so has the recognition of its advantages in other applications. New blockchain-based products are gradually emerging with some practical uses.
There are quite a few startups that are building infrastructure solutions for working with crypto to help the creation of Web3 products (i.e. they are making products for helping companies build Web3 products), and companies offering more practical Web3 apps (a.k.a. dApps) are gradually emerging.
I believe that the hype around Crypto will significantly decrease in about 1.5–2 years as most of the required infrastructure will be available as a service, but we will still see new startups and solutions emerging to handle some challenges that still exist around blockchain tech (security, scale, and so on).
If you are thinking about building some sort of crypto product then I would advise you to focus on security solutions for Web3. Web3 is still relatively new and there are and will be, security vulnerabilities that will need to be addressed and solved.
There’s so much more to learn about Web3 (DAO, proof of stake, proof of work, proof of authority, smart contracts, the different layers, and more) but I think this should be enough to give you the fundamentals.
Thanks for reading so far — I hope you’ve found it informative.
In the next article, I will list the criteria for successful Web3 products and list some companies that make practical use of Web3 and are not related to cryptocurrencies or NFTs.
In addition, I will also list the reasons why the vast majority of cryptocurrencies will die out and why betting on Web3 financial products is extremely risky, so be sure to follow.
