Tuesday, June 28, 2022

What Is Blockchain And How Does It Work

Promising Blockchain Use Cases And Killer Applications

How does a blockchain work – Simply Explained

For an even more in-depth discussion of the most interesting and disruptive blockchain use cases as of 2021 check our guide: Disruptive Blockchain Technology Use Cases 2021

Blockchain technology is currently used across various industries like supply chain, healthcare, retail, media and advertising, financial services, insurance, travel and transportation, oil and gas, and gaming.

Here are some promising use cases:

  • Cryptocurrencies: The killer app of blockchains today is internet money. Cryptocurrencies let you transfer value faster and cheaper across borders without a bank. Besides Bitcoin and Ethereum, other digital currency examples include Polkadot , NEO, Cardano , Tether , Binance Coin , and Litecoin .
  • Smart Contracts: These blockchain applications are contracts that automatically execute without an intermediary once conditions written into the computer code are met.
  • : The use of blockchain technology is also proliferating in banking. For example, many banks like Barclays, Canadian Imperial Bank, and UBS are interested in how blockchain can make their back-office settlement systems more efficient.
  • Video Games/Art: You may have heard Crypto Kittiesa game launched on the Ethereum blockchain. One of the virtual pets in the game was sold for over $100,000.
  • Peer-to-peer Energy Trading: People buy or sell energy directly without an intermediary.
  • Music royalties tracking: Blockchain can trace music streams and immediately pay those who contributed to a song.
  • How Does Blockchain Work

    So, what is blockchain technology and how does it work? In simple terms, blockchain is the database software that records a digital ledger of all transactions of any size and nature. A transaction not only refers to monetary transactions. It can also be used to exchange any digital asset for example, music or even votes.

    The appeal of blockchain is its peer-to-peer based network, consisting of individual devices that collectively store and share the data. A traditional database is run by a central authority who have complete control over the data, therefore making manipulation easily accessible. Conversely, Blockchain is built on a decentralized model where information is encrypted and distributed across the entire network. This ensures that all data is highly secure and cannot be exploited.

    Bitcoin Vs Cryptocurrency Transactions

    Bitcoin is considered the first cryptocurrency and was created in 2009. Today it is by far the most well-known crypto token in the market that you can buy. This popular cryptocurrency started as a peer-to-peer digital currency. It is the largest cryptocurrency in circulation and its blockchain technology handles bitcoin cash transactions through a decentralized network without any third party to facilitate trading. Besides offering relatively low transaction fees and many crypto exchanges accept Bitcoin. In addition, it is inflation-proof as it is capped at 21 million coins and has seen its value increasing exponentially with Bitcoin owners reaping rewards.

    If you decide to invest in cryptocurrencies, try to start with a popular cryptocurrency like Bitcoin, as newer ones may not have sufficient liquidity offering when you want to sell the cryptocurrencies off. Another savvy investment is to look for an initial coin offering that can potentially yield some good returns over time.

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    How Do Blockchains Actually Work

    With the general definition out of the way, lets delve into a technical overview of blockchain technology. Lets start with the basics. Remember how blockchain is described as a digital record of transactions? Consider that a bit of a simplification. Rather than thinking of a blockchain as a list of separate or discrete entries, imagine them as bundles of transactions instead. One such bundle is called a block and usually includes other relevant data such as the timestamp.

    With these guidelines alone, its easy to see how a blockchain is formed.

    Line these transaction bundles one by one, using the included timestamps to establish a chronological order of blocks. The result is a really long list of blocks, dating back to the original block. In the cryptocurrency community, this first block is commonly referred to as the genesis block.

    So a blockchain is a list of transaction blocks, ordered by date and time. But thats only half the story. Remember the double spending problem? What if a dishonest individual came along and offered a different record of transactions that are fake but have valid timestamps?

    This is where cryptographic hashes come into play and why cryptocurrencies are so named.

    Transparency In Blockchain Technology

    Blockchain Explained: The Complete Guide [2018 Update ...

    Anyone inspecting the blockchain is capable of seeing every transaction and its hash value. Someone using the blockchain can act pseudonymously if they wish, or they can give their identification to others. All that is seen on the blockchain is a record of transactions between wallet addresses.

    Once a transaction is recorded on the blockchain and the blockchain updates, altering the record of this transaction becomes impossible. Why? That particular transaction record is linked to the record of every preceding one, making it immutable. Blockchain records are permanent, they are ordered chronologically, and they are available to all other nodes.

    It is nearly impossible to turn off the network. As numerous nodes exist and operate globally, a single party can not take over the entire network.

    Faking a block is also nearly impossible because the validity of each block and, by extension, its inclusion into the blockchain is determined by an electronic consensus of nodes. There are thousands of these nodes, scattered all over the world. As a result, capturing the network would require a computer with a virtually impossible amount of power.

    That said, there are experiments in producing databases with blockchain technology. These platforms aim to take an enterprise-class distributed database and build on top of it while adding the three key attributes of blockchain: decentralization, immutability and the ability to register and transfer assets.

    Read Also: How To Change Bitcoin Into Cash

    Blockchain Creates Trust In The Data

    The unique way blockchain works creates trust in the data. I get more into the specifics earlier in this chapter, but heres a simplified version to show you why. Before a block can be added to the chain, a few things have to happen:

  • A cryptographic puzzle must be solved to create the new block.
  • The computer that solves the puzzle shares the solution with all the other computers in the network.
  • Finally, all the computers involved in the network verify the proof-of-work. If 51 percent of the network testifies that the PoW was correct, the new block is added to the chain.
  • The combination of these complex math puzzles and verification by many computers ensures that users can trust each and every block on the chain. Heck, one of the main reasons Im a big supporter of cryptocurrencies is that I trust in the blockchain technology so much. Because the network does the trust-building for you, you now have the opportunity to interact with your data in real time.

    How The Signature Is Created

    So, lets picture a block again block 1. Block 1 is a record of only one transaction. Thomas sends 100 Bitcoin to David. This specific string of data now requires a signature. In blockchain, this signature is created by a cryptographic hash function. A cryptographic hash function is a very complicated formula that takes any string of input and turns it into a unique 64-digit string of output. You could for example insert the word Jinglebells into this hash function , and you will see that the output for this specific string of data is:

    761A7DD9CAFE34C7CDE6C1270E17F773025A61E511A56F700D415F0D3E199868

    If a single digit of the input changes, including a space, changing a capital letter or adding a period for example, the output will be totally different. If you add a period to this word and make it Jinglebells. instead, you will see that the output for this specific string of data is:

    B9B324E2F987CDE8819C051327966DD4071ED72D998E0019981040958FEC291B

    If we now remove the period again, we will get the same output as before:

    761A7DD9CAFE34C7CDE6C1270E17F773025A61E511A56F700D415F0D3E199868

    Now imagine that the string of data from this block looks like this:

    Block 1 Thomas -100 David +100

    If this string of data is inserted in the hashing algorithm, the output will be this:

    BAB5924FC47BBA57F4615230DDBC5675A81AB29E2E0FF85D0C0AD1C1ACA05BFF

    This signature is now added to the data of block 2. Lets say that David now transfers 100 Bitcoin to Jimi. The blockchain now looks like this:

    Read Also: What Is Blockchain Technology Explained

    How Does A Blockchain Wallet Work

    Blockchain wallets are secured by cryptography, and the basics of this include generating a pair of keys the public and private keys. These are used to secure the crypto mathematically.

    When you give someone your wallet address, whenever they are sending coins or cryptocurrencies to you, they are assigning the crypto to your public address. The public address is not your wallet address but a hashed format of the wallet address. A hash function is used to encrypt the input into a given output unknown to the public but associated with the public address, your wallet address.

    Since your private key is associated with the public key and thus the wallet address, it is the only one that can be used to decrypt the information encrypted by the sender of the coins, to unlock the contents. Thats how you access your cryptocurrencies.

    To send crypto, the owner of the wallet will use their private key to sign a transaction before sending it to the blockchain network. Once the transaction is broadcast to the public, verifiers in the network namely the nodes will use the publicly available public key which is associated with the private key that is used to sign the transaction, to verify that the transaction is authentic and valid, then allow it through.

    The below image shows signing a transaction on a blockchain wallet when sending funds:

    Bitcoin Cryptocurrency Blockchain So What Does It All Mean

    What is blockchain technology and how does it work?

    Let’s start with some quick definitions. Blockchain is the technology that enables the existence of cryptocurrency . Bitcoin is the name of the best-known cryptocurrency, the one for which blockchain technology was invented. A cryptocurrency is a medium of exchange, such as the US dollar, but is digital and uses encryption techniques to control the creation of monetary units and to verify the transfer of funds.

    Also Check: Do You Have To Pay Taxes On Bitcoin

    How Are Blockchains Used

    As we now know, blocks on Bitcoins blockchain store data about monetary transactions. Today, there are more than 10,000 other cryptocurrency systems running on blockchain. But it turns out that blockchain is actually a reliable way of storing data about other types of transactions as well.

    Some companies that have already incorporated blockchain include Walmart, Pfizer, AIG, Siemens, Unilever, and a host of others. For example, IBM has created its Food Trust blockchain to trace the journey that food products take to get to their locations.

    Why do this? The food industry has seen countless outbreaks of E. coli, salmonella, and listeria, as well as hazardous materials being accidentally introduced to foods. In the past, it has taken weeks to find the source of these outbreaks or the cause of sickness from what people are eating. Using blockchain gives brands the ability to track a food products route from its origin, through each stop it makes, and finally, its delivery. If a food is found to be contaminated, then it can be traced all the way back through each stop to its origin. Not only that, but these companies can also now see everything else it may have come in contact with, allowing the identification of the problem to occur far sooner and potentially saving lives. This is one example of blockchain in practice, but there are many other forms of blockchain implementation.

    Advantages Of Blockchain On Iiot

    1. Data transfer efficiencyBlockchain can minimize the time required to validate the transaction of data between IIoT devices. This can be done by using or assigning a trusted device or node to handle the performance requirements of IIoT devices.2. Increased network securityOne of the most useful features of blockchain is its ability to legitimize the data being processed through it. IIoT contains a high number of devices, so it can benefit a lot from blockchain technology.3. Cheaper costsBlockchain uses peer-to-peer networks, meaning that there is no centralized control and that the data is validated without centralizing it. This means that eliminating a specific point of failure is much cheaper compared to a centralized network.

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    What Are Cryptographic Keys

    A cryptographic key is a string of numbers and letters. Cryptographic keys are made by key generators or keygens. These keygens use very advanced mathematics involving prime numbers to create keys. Such keys can be used for encrypting or decrypting information.

    Protocols

    Blockchain technology consists of individual behavior specifications, a large set of rules that are programmed into it. Those specifications are called protocols. The implementation of specific protocols essentially makes blockchain what it is a distributed, peer-to-peer, secured information database.

    Blockchain protocols ensure that the network runs the way it was intended to by its creators, even though its completely autonomous and isnt controlled by anyone.

    Here are some examples of protocols implemented in blockchains:

    Why Is Blockchain So Popular

    How Does Blockchain Work: Guide for Businesses

    Blockchain has become a very popular concept in recent years due to its easy functionality and transparency. The best part is that blockchain technology has no central authority. It is a shared and unchangeable ledger due to which the information is open for everyone to see.

    However, every technology has its pros and cons, and it is the same with blockchain as well. Let us look at the advantages and disadvantages of this path-breaking technology.

    Advantages of Blockchain Technology

    • Resistance to technical failures: Blockchain data is stored in a distributed network of nodes which makes the system and data resistant to malicious attacks and technical failures. Every node replicates and stores a copy of the database, so there isnt a single point of failure.
    • Storing financial records: Once data is stored in a blockchain, it is practically impossible to reverse it. Thus, blockchain technology is ideal for storing financial data as every change is tracked and recorded on a public ledger.
    • Reduces cost: Transactions do not involve an intermediary party in blockchain technology as the transactions are verified through a process known as mining. This reduces the overall costs and transaction fees.

    Disadvantages of Blockchain Technology

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    How To Store Cryptocurrency

    Once you have purchased cryptocurrency, you need to store it safely to protect it from hacks or theft. Usually, cryptocurrency is stored in crypto wallets, which are physical devices or online software used to store the private keys to your cryptocurrencies securely. Some exchanges provide wallet services, making it easy for you to store directly through the platform. However, not all exchanges or brokers automatically provide wallet services for you.

    There are different wallet providers to choose from. The terms hot wallet and cold wallet are used:

    • Hot wallet storage: “hot wallets” refer to crypto storage that uses online software to protect the private keys to your assets.
    • Cold wallet storage: Unlike hot wallets, cold wallets rely on offline electronic devices to securely store your private keys.

    Typically, cold wallets tend to charge fees, while hot wallets don’t.

    Cryptographic Hash Functions: Keeping Blockchains Honest

    Within every block on a blockchain, youll find a unique identifying hash. A hash is simply the result of a mathematical function or algorithm. More specifically, its a result of the SHA256 hash function.

    While this may sound complicated, its really simple in practice. All the function does is take some data as input and generate a unique output. Take the text Hello world! for example. This is its corresponding hash:

    c0535e4be2b79ffd93291305436bf889314e4a3faec05ecffcbb7df31ad9e51a

    Even a minor change in the input like swapping an uppercase letter for lowercase would completely change the hash. In the context of blockchains, consider that tampering with the contents of a block would have the same effect on the output hash, making it easy for everyone else on the network to detect.

    In a blockchain, each block also includes a reference to the previous blocks hash. That block, in turn, contains the hash for the preceding block, and so on.

    If youre wondering how including the previous hash within each new block deters attackers, its because computing the solution to a hash function is not as easy with large cryptocurrencies like Bitcoin. Furthermore, since each blocks hash depends on the previous blocks hash, changing a past transaction requires redoing the computation for all the blocks between then and now. Modifying a past transaction isnt easy.

    Satoshi Nakamoto explained this hypothetical situation in the Bitcoin white paper as well:

    Recommended Reading: Do You Have To Report Crypto On Taxes

    Building Blocks Of Blockchain

    Blockchain Consensus algorithm

    A consensus algorithm inside a blockchain is the set of rules of the house about how the blockchain is governed, how users formulate and agree on the rules, and how transactions happen. Governance is an important aspect for a blockchain because it determines how decentralized or centralized the network is.

    For instance, blockchain consensus algorithms allow any user to propose changes to the network and all others to vote on these proposals. In the delegated versions, users select delegates who make rules and govern the network on behalf of other users.

    Some versions allow users to contribute to governance based on the number of resources they contribute. In Bitcoin, for instance, miners vote on changes based on the number of computer resources or computing power they contribute to support the network and approve transactions.

    In proof of Work algorithm, miners compete to create a block and the one who creates a block successfully is rewarded with the cryptocurrency after creation. Miners vote to allow or reject proposals of upgrades forwarded by other users.

    Proof of Work : This algorithm is based on the idea of solving a complex mathematical puzzle to give a solution block. It requires a lot of computational power and the miner who solves the puzzle to mine a block and gets rewarded by Bitcoins.

    Some blockchains use hybrid algorithms to leverage the benefits of more than one algorithm.

    Blockchain And Hashing Creation Of Blocks

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