Why blockchain?
Blockchain has been a huge buzzword, a trending topic, and a global phenomenon over the last several years. We see titles like “Blockchain is the next Internet” and companies in all sectors, big or small, are encouraged to apply it to their existing processes. Still you might wonder — what is so special about this technology and is it worth the hype?
What is blockchain?
Blockchain can be described as a type of distributed ledger, an online database a “trust machine”, and a storage of values. Each block contains information on a particular transaction or event and is recorded on a synchronized peer-to-peer network. Let’s look at it in more detail.
Distributed — the information is stored across a network of multiple computers across different locations and owners.
Synchronized — everyone on the network sees the same up-to-date information.
Peer-to-peer (P2P) — everyone on the network gets a full copy of records and a chance to supervise and authorize transactions
These properties of blockchain are essential for its basic premise. Thanks to multiple parties being involved and no central authority having the power to alter data, this ledger can achieve high levels of transparency and authenticity.
It is important to note that the network can be both public and private — affecting whether anyone is allowed to join freely or no. Public blockchains are permissionless; everyone can read, write and participate. Users can preserve their anonymity. Ethereum blockchain platform is a good example. When it comes to private blockchains, the access can be restricted to limit others’ reading and/or writing capabilities. The process starts with identifying a user and then determining what information and actions they should have access to, if at all. The examples include Hyperledger and R3 Corda. Private blockchains are preferred by enterprises in order to comply with current regulations and control the amount of information they are willing to share, as well as who can participate.
How are blocks created?
Every block consists of data that has to be recorded, its own unique hash (i.e. identifier) and a hash of the previous block.
A hash is a fixed-length output that is produced as a result of any digital input (a file, a transaction, a change in a balance) going through a hash function. If one media file goes through the hash function several times, the output will always be the same. If even a single bit of information in the file is changed, it will result in a completely different hash. The function works only one way, meaning that you cannot derive original information from any given hash, keeping it secure.
When several blocks are lined up in a chain, all of them retain their own hash and a hash of the block in front of them. As a result, it is not possible to edit the information once it is recorded and stored on a blockchain.
Any attempt to update the data, replace a single number or delete a comma in an existing block will simply result in a new hash — and a new block will be added to the chain, keeping the original data viewable and all the changes traceable.
As you can see in the example above, Bob started with $7 in his account. He cannot crack the system and change the existing record — this action will not be supported by the next block that keeps the information about Joy’s balance. However, if he receives a $1 money transfer, this change will be reflected in the new block, following the existing chain.
This leads us to another property of blockchain — immutability — that prevents its existing components from being modified. The technology allows users to view and add records but not edit or delete them. In order to approve a transaction, the network will reference the information already contained on the ledger. If Joy wants to transfer $5 to Bob but only has $3, this action will be flagged as invalid.
If afterwards she decides to send him $2, first, the intended transaction will be published on the network. Then, the procedure and rules for validation will depend of a particular consensus protocol used within a blockchain. In Proof-of-Work, miners will use strong computational power and compete to solve a complicated mathematical problem with known partial input derived from the latest state of the blockchain. To put it simply, they try to guess the digital input that creates a particular hash. Once somebody finds a key, they broadcast the solution to the network so that the transaction can be verified by other participants (nodes). If a block is proved to be hashed correctly by enough users (together they should have >50% of the network’s computational power), it will be added to the ledger.
Although it is extremely hard to gain control of the majority of hashing power, the trend to create mining pools (pools that allow miners to share resources and reduce costs) is making it more likely. As a result, other protocols are gaining popularity. In Proof-of-Stake, minters can verify a percentage of transactions based on their stake in the network — a sort of “collateral” they deposit to be used by an algorithm in a validator selection process. The basic principal is: the higher the stake = the more legitimate a node is = the bigger the chance to be chosen. In Raft consensus, a validator is chosen in random elections. This Leader will receive transaction requests and update the ledger by replicating the changes to Followers. Once the majority of the followers take changes into account, the request is executed. If the current leader fails, a new one will be selected.
Ultimately, all of these protocols have something in common — the lack of a single authority. Instead of relying on your broker-dealer, insurance agent, loan provider or sales representative, you count on the technology that is designed to minimize the amount of trust required for any given action by distributing it among network participants.
Blockchain applications
Many industries could benefit from implementing blockchain technology.
One of them is banking. Currently it can take several days to process an international transaction, and even domestic transfers are often significantly delayed. This happens because it is impossible for each bank to have partnerships with thousands of banks and financial service providers around the world. In order to solve this issue, they use intermediaries and correspondent banking to build a bridge between two institutions.
Unfortunately, adding another participant to any given transaction does not make it more efficient. Each of them has its own private ledger for record keeping so an update in bank A’s data will not automatically trigger changes in the information bank B has. With manual labor involved to input, send and update the details and reconciliation happening in predetermined intervals, the likelihood of errors increases and the whole process becomes lengthy and costly.
However, with the introduction of blockchain banking, financial institutions can implement a common secure ledger that will allow direct connections between senders and receivers, eliminating the need for intermediaries.
The newly established links reduce overhead costs and enable a cut in fees. As mentioned previously, blockchain also helps synchronize and keep records up-to-date among all the participants, minimizing the amount of time needed to reflect changes and process transfers.
Investing could also get a second wind with this technology. The traditional process of investing is paperwork-heavy. From valuation to issuing shares, notarized copies and receipts — the documentation pile is never-ending. As a company grows and investors come in, the paper trail gets longer. With more shares sold and traded, auditing becomes necessary to confirm the legitimacy of records and balances. In order to do that properly, auditors have to go all the way back in the transaction history.
If the shares are issued digitally on blockchain from the very beginning, the auditing is done automatically by the technology in real time as transfers take place. At any moment it is possible to see what shares belong to a certain person as well as who holds the shares of a particular company — the quality, the value, and the starting period. Even better, with addition of extra infrastructure and platform capabilities, dividends distribution can be automated too. As soon as profit is generated and available for allocation, its fractions are assigned via a smart contract.
Blockchain in logistics has been a major trend too. With impeccable immutability and traceability, this technology is perfect for recording the quality of products and its components at different stages, verifying their authenticity, seeing where delays occur most often and preventing the spread of counterfeit goods, which is especially important for medicine, pills and vaccines. Sourcing, processing, transportation, storage and distribution — every step until a client receives a product can be tracked to ensure maximum safety and the highest standards.
Final remarks
On blockchain you can create records that are strongly linked to each other, resistant to alteration and protected using encryption algorithms. It offers an easier way to complete transactions, speed up cash flows and secure data. This technology has potential to simultaneously reduce costs and improve user experiences. There are different types of blockchains, each with its own level of anonymity, privacy, scalability and risks. It is a great tool that, when used appropriately, can help individuals and businesses be more efficient.
Many companies have already started moving their existing products to blockchain and building new ones with the help of this technology. If you would like to see how we apply it at REINNO, visit our website.
Which industry is going to benefit from blockchain the most? Let us know in the comments.
