Blockchain Basics
What is Blockchain?
Blockchain is a technology that enables the secure maintenance of a record of data known as a ledger. It achieves this security using a combination of computer science, cryptography (the generating of codes that allows information to be kept private), and economics. This technology was used to create the blockchain we know as bitcoin. In the case of the bitcoin blockchain, the data that is being recorded is transactions of the digital currency bitcoin.
A blockchain is composed of a network of people around the world that maintain the same record of data
The name “Blockchain” is derived from how this record of data is added to a blockchain:
1) Individual data gets bundled together into what are know as “blocks” of data.
2) New blocks, once approved, are added or “chained” to pre-existing blocks on a blockchain
There are private, public, and hybrid blockchains that can be created but for the sake of simplicity in this introduction, we will go into more detail about the different characteristics that make up a public blockchain. For now, it is important to keep in mind that an individual Blockchain is a network that holds a record of the data that happens within that network. In the case of the Bitcoin blockchain, the data that is being recorded is transactions of the bitcoin cryptocurrency. However, this data can vary depending on the type of blockchain.
Blockchains are separate networks that are created using Blockchain technology
(Oversimplification of how data gets added to a blockchain) 1) Individual data gets bundled into a block. 2) The new block gets chained to the older block. 3) This collection of chained blocks is the record of data that a blockchain holds.
Blockchain is a Decentralized Ledger
What is a Ledger?
By definition, a ledger is a record of quantitative records of a particular type. The record of data that a blockchain maintains is called a ledger but is different in the way it is stored compared to traditional ledgers. A couple examples of traditional ledgers include bank statement that maintain the record of transactions we make with traditional money and real estate records that maintain information on the history of a home. Currently, traditional ledgers are maintained by a central entity such as a single organization like a bank or government, making them centralized. When something is centralized, not only is data stored in one server, but all of the authority is held by one organization giving them the final say in any situation. Therefore, there is one point of failure: one system to hack, and one company (usually a few individuals) to bribe/corrupt, which has led to problems in many different industries throughout history.
A bank statement is maintained by a bank while a blockchain ledger is maintained by a network of participants from around the world
How Blockchain is Different
At it’s core a Blockchain is also a ledger, however the main difference is that blockchain is not centralized. Instead, it is decentralized in the way it is governed and stored.
Decentralized Governance
The authority or “governance” of a blockchain is decentralized since the decision making is divided amongst its participants based off of the amount of work they contribute to maintain the network. Therefore, a few bad voters in the blockchain do not effect the governance as a whole since a majority decision is needed to make any changes to a blockchain.
Decentralized Storage
Blockchain is decentralized because not one person or organization exclusively holds a copy of the ledger, instead there are multiple copies of the entire blockchain hosted by participants around the world . We can think of it as similar to the peer to peer music sharing network , where if some sources that maintain a file are shut down the file maintains intact since there are multiple copies of it.
Centralized vs. Decentralized
Blockchain is a Transparent Ledger
To prove the legitimacy of all the data stored on public blockchains, all of the data is visible to everyone. This does not mean that everyone can see the identity of the person who participated in the network. Instead, blockchain provides anonymity to users by using cryptographic identities by assigning them a public address that is composed of a randomly generated string of numbers and letters. This address can be shared to receive transactions of data and see the movement of data in the network. Because these addresses are public, anyone who wants to can see the account a digital asset is in, how much of a digital asset each account has, and the transaction history of an account. It is important that this information is transparent because for a transaction to be added to the blockchain, one requirement is that it needs to be verified by a majority of the participants that hold a copy of the ledger called “nodes”, which is easy to do with this transparency.
Below are photos from the bitcoin blockchain, in the photos you can see previous blocks, information about a particular block, transactions found within a specific block, and information of an address involved in the transaction. You can also click on this link to see bitcoin transactions in real time (https://blockchain.info/).
Proof of Work and Mining
Proof of Work (POW) is the main consensus algorithm (the way in which a blockchain reaches agreement) used by blockchains today, including Bitcoin. Its main purpose is to keep the network secure by regulating how blocks are added to a blockchain, how new coins are generated, and how miners (nodes that compete to add a block to a blockchain) are rewarded. For a miner to receive a reward, their hardware needs to put in work (measured by computational power in hashes/sec) in order to solve a cryptographic puzzle before others do in order to get the opportunity to add a block to the blockchain. The more resources they allocate, the higher chance they have of solving the puzzle since the only way to solve it is by brute force (plugging in every possible answer and hoping it works). This method is decentralized because instead of a central entity verifying these transactions and releasing coins, this power is distributed amongst miners. This decentralization also comes into play when voting on a blockchain’s governance because instead of casting votes per user, votes are cast based on the amount of resources you contribute.
The more computational power a miner allocates, the better chance they have at solving the cryptographic puzzle
The steps required for a miner to receive a reward are as follows (Note: once the hardware is set up this is done passively):
1. Download the entire blockchain to maintain
2. Verify incoming transactions that are valid
3. Create a block using collected valid transactions and solve the cryptographic puzzle
4. Submit the block and the solution to the puzzle for verification by the other nodes
5. Profit from generation of new coins
The steps required for a miner to recieve a reward
Blockchain is Immutable
The main strength of blockchain technology is its security which is achieved using cryptography, transparency, decentralization, and economic incentives. Cryptography enables users to stay anonymous and their funds to be protected through encryption. Transparency enables participants to notice any discrepancies in the network before they are added to a blockchain. Decentralization not only helps ensure that a blockchain is not easily tampered with since a majority of the network has to agree for changes to be made but ensures the storage of a blockchain has no single point of failure because each node has a copy of the ledger. Therefore, in order to alter a blockchain a hacker needs to either change every node’s copy of the blockchain (Sybil attack) or control a majority of the collective computational power in order to have control over the verification of blocks (51% attack). However, for most established blockchains there is more of an economic incentive to use resources to work in the best interest of a blockchain rather than attempt to hack it.
Hacking and Economics (Additional Information)
Sybil Attack
A potential way to hack a blockchain is for one party to gain control of many nodes on the same blockchain, allowing them to disrupt network activity through flooding the network with bad transactions or manipulating the relaying of valid transactions. This is known as a Sybil attack and has not been achieved on any blockchains since most blockchain networks are designed to prevent these attacks.
51% Attack
As mentioned earlier, one of the ways to hack a blockchain is to control a majority of the hash power of miners that verify new blocks which would allow someone to add inaccurate data to the blockchain, specifically allowing them to double spend coins (more on this is bitcoin section), this is known as a 51% attack . However, in order to do this, a person/group/party needs to invest the money to buy physical resources (mining hardware, electricity, cooling fans, etc.) to generate the computational power necessary to make up over 50% of the hash power, this is known as a 51% attack. For more established blockchains such as bitcoin a 51% attack isn’t financially advantageous, however for new, less established blockchains an attack like this can be inexpensive and be executed quickly enough for other users to not notice until it’s too late.
Because of the transparency of a blockchain, eventually, people will be able to notice that the system is compromised which will make them lose trust in it, making them pull out their investments, decreasing the value of the currency. This will hurt the hackers of the network since they get paid in this currency to maintain the blockchain and have already invested the resources necessary for this task. However, if instead of attempting to hack a blockchain they could be rewarded for maintaining it with the possibility of generating more income by serving in the best interest of the blockchain by verifying accurate transactions and voting admirably since these actions may help increase the value of the blockchain’s currency.
Because most blockchains can be very difficult to hack and may not be worth the effort because of economic incentives, it can be said to be immutable. The main security concern involving blockchain is human error since digital wallets (place where cryptocurrencies are stored), centralized exchanges (where cryptocurrencies are traded), and third party services can be hacked if users are not vigilant.
In a 51% attack the computational power of a blockchain is centralized giving someone (shown in gold) control over the verification of transactions which could lead to manipulation
Blockchain is Trustless
Whenever we engage in a transaction with someone, one of the prerequisites is that we need to trust them. An example of this can be applied to purchasing a house. If I were buying a house I would have to trust that the record of a third party company who maintains the history of the house is accurate. As mentioned before, since both these records and the company are centralized, the record can be easily altered, and the company can potentially be bribed to alter it. However, when using a blockchain, there is no reason to trust anyone you transact with. The security of a blockchain ensures nothing can be easily altered, using it requires no trust between people who are transacting with one another, instead you trust the network, thus making it “trustless”. Therefore, if this information was on a blockchain, I would know that the history of the house is more reliable since information on a blockchain is virtually unchangeable. This is just one example where a blockchain can remove the need for a centralized third party that acts as an unnecessary intermediary for information in our daily lives.
A blockchain does not require trust between two parties, instead, it provides a secure and transparent network which removes the need for trust
Overview of a Blockchain
Blockchain technology allows for the creation of networks called blockchains. A blockchain maintains a ledger that is decentralized, transparent, and secure which allows for person to person trustless exchanges of data to be made without the need for intermediaries. Therefore, blockchain technology is aiming to change how many industries handle data. One of the most well known uses of blockchain is Bitcoin which you can learn about in Intro to Bitcoin.
