A Simple Analogy
A blockchain is a database with information. Think of it as a folder that contains a series of spreadsheets. Each spreadsheet contains information. The information doesn’t have to involve cryptocurrency transactions. It can include any information such as medical records, personal data such as names and addresses, atmospheric measurements, supply chain data, etc. Anything that can be codified into data can live on such a spreadsheet. In the case of cryptocurrencies, the spreadsheet contains information on how much Bitcoin, Ethereum, or Solana each person has and where they sent it.
Replace the word spreadsheet with the word block, and we will still discuss the same thing.
Now, each block only fits a finite amount of data. Suppose you run out of space after entering 1000 data points and need a new block. So, at the end of your block, you add a link that points to the next block. Anyone visiting your block can look at it and turn the next page by clicking on your link to the next block. And this is how a chain of blocks or blockchains is formed.
What’s The Fuss About Blockchains?
What’s unique about blockchains is that you can set them up in such a manner that there is no central intermediary.
This is an important distinction.
Otherwise, all the other traditional databases you have interacted with in your life are managed by a central authority.
This authority might be a government, a bank, or another company.
For instance, when you file a health insurance claim, the insurance company checks your records in their database to verify and release the claim.
Or, when you send money to your sister, the bank edits its database to deduct money from your account and credit it to your sister.
Another example is when you register your home with the local municipality, they update their database and issue you a certificate to prove you own the house.
With a blockchain, it’s different.
Anyone can own a copy of the blockchain and verify the data.
I will explain the potential applications of blockchains further down. But first, let’s talk about crypto.
Cryptocurrency Blockchains
Cryptocurrency blockchains are a subcategory of blockchains. They are a special kind of database that represents a digital ledger. This ledger might write something like:
- Mark has 2 FOO tokens
- Ezekiel has 3 FOO tokens
- Katrina has 0.5 FOO tokens
And so on.
What’s a FOO token? Nothing. It’s a nonsense digital currency I just made up. It has no physical representation in the real world.
It’s just a data point in my shared ledger.
But imagine I take my digital ledger and start sharing it on a forum with like-minded people who want to fool around with me.
Each of my friends on the forum downloads a copy of my file.
Now, let’s say Mark wants to send Katrina 1 FOO token.
He updates his file and sends the updated file to everyone with a message saying, “Hey guys, I just updated the file because I want to send Katrina 1 FOO coin”.
The updated file looks like this:
- Mark has 1 FOO tokens
- Ezekiel has 3 FOO tokens
- Katrina has 1.5 FOO tokens
And so on.
My friends accept the new version of the truth and update the files on their laptops.
But wait a minute?
How do they know it’s me sending the message and not Katrina trying to fool them and steal my FOO coins?
This is where cryptography comes in.
What if, along with the file, I could send my friends a digital signature that proved I was sending this message?
If that were the case, the people updating the file and verifying transactions like mine wouldn’t even need to be my friends.
Basically, anyone could participate in this network of file sharing and they could be based anywhere in the world.
They don’t need to know or trust me. All they need is cryptography.
Pretty cool, huh?
Signing messages
People use what’s called a private key to sign their messages.
Going back to my ledger example, imagine generating a random number. Say something like
223rp9ucouwdvoiwhp.
This is my private key. I keep it to myself and never share it with anyone.
I can then pass this code through a mathematical formula called an Elliptical Curve. The output will give me another string of characters, such as
qeoduwouqevguev3435t53ougq124efouh
This I will call my public key.
What is unique about the public key is that you cannot derive the private keys from it.
Now, I can replace my name with my public key on the ledger.
So, the ledger looks like this.
- 223rp9ucouwdvoiwhp: 2 FOO
- 23r9y2wouwourfouhw: 1 FOO
And so on.
Anyone can message the network participants to send some FOO to a public key. And they use their private keys to digitally sign that message so that others can verify its validity.
In this post, I will not go into the nitty gritty of digital signatures.
However, if you are ready to geek out and really understand the precise cryptographical tools that blockchain participants use to verify transactions, read my explanation of what a bitcoin is and how it works.
Not All Blockchains Are Public
Contrary to what most people think, it is possible to have a private blockchain.
For example, a group of financial institutions might set up their private blockchain network to process transactions between them.
Each of the banks can peer inside the private blockchain, but outsiders can’t.
Here are some examples of private blockchains
1. Supply Chain Management
Walmart uses the IBM Blockchain to track the provenance and status of products through the supply chain. Therefore, this increases transparency and traceability, reducing fraud and ensuring product quality and safety.
2. Finance and Banking
Quorum is also a private blockchain developed by JPMorgan Chase that allows financial institutions to settle transactions directly and securely without intermediaries.
3. Healthcare
MedRec is a blockchain that Managed and secures patient records, ensuring data privacy while allowing authorized access. This results in improved patient data management, reduced risk of data breaches, and streamlined healthcare operations.
4. Government and Public Services
Dubai’s Blockchain Strategy coordinates its Digital identity management, land registry, and public record maintenance. Besides, using blockchain technology translates to enhanced efficiency, reduced paperwork, and improved transparency in public administration.
Two Main Crypto Blockchains
If you want to understand crypto there are the two main blockchains you need to be familiar with.
If you are new to crypto, there are two blockchains that you should be aware of.
Bitcoin
The first is Bitcoin.
Bitcoin is a public ledger.
Instead of FOO coins, it uses Satoshis, where 100 million Satoshis equals one bitcoin.
The Bitcoin blockchain was the first cryptocurrency blockchain to take off as a peer-to-peer network of participants verifying transactions.
The participants agreed that there can only ever be 21 million Bitcoins.
And so, this fixed supply on a distributed ledger makes Bitcoin a good store of value in the eyes of many.
Developed by a group or person by the pseudonym Satoshi Nakamoto in 2009, the Bitcoin Network is a statement against central banks’ reckless printing of money worldwide.
Ethereum
The second blockchain you need to know about is Ethereum.
Ethereum launched in 2015 as an improved, more general-purpose version of the Bitcoin network.
What is unique about Ethereum is that it offers smart contracts.
Concocted by then-17-year-old Vitalik Buterin, the Ethereum blockchain allows anyone to develop applications on top of it.
You can have tending and savings applications, decentralized exchanges, marketplaces, etc.
In addition, the Ethereum protocol allows anyone to print their own token.
This can be a nonsense token, such as a meme coin that does nothing, or it can have utility in one of the apps. For example, you use it to vote on decisions about parameters in the app such as interest rates.
Furthermore, you can mint non-fungible tokens (NFTs) to represent art pieces, identities, tickets, and more.
Because Ethereum and Bitcoin are slow, many alternative blockchains emerged that bundle transactions. These are known as Layer two blockchains.
You may have heard of the Lightening Network for Bitcoin or Arbitrum, Base, and Polygon for Ethereum.
After Ethereum, many other platforms emerged that claimed to be bigger, better, and faster.
Examples include Solana, Polkadot, and Cardano, to name a few. These contenders have yet to prove themselves, as Ethereum still accounts for most decentralized apps.
Blockchain Consensus Mechanisms
Proof of Work
The first emerging blockchains used a proof of work mechanism to verify transactions.
Bitcoin, Litecoin, Bitcoin Cash, and Dogecoin all use proof of work.
Participants particularly compete to solve a complex mathematical problem in a proof-of-work consensus mechanism.
To do this, they use expensive equipment with high computational power that consumes a lot of electricity.
The first person to find the solution can add the next block of transactions to the blockchain. In return for doing so, they will be rewarded with new tokens.
If they try to cheat, the other will figure it out because they can check the cryptographic signatures of the transaction instantly.
The person trying to cheat will have wasted their time and energy, which costs them money. I’m oversimplifying here, but that’s the gist of it.
Proof of Stake
In response to the criticisms against the high-energy use of proof of work mechanisms, an alternate consensus algorithm emerged known as Proof of Stake (PoS). In fact, Ethereum itself started as a proof of work blockchain and, in 2022, successfully transitioned to proof of stake.
Here, validators are chosen to create new blocks and validate transactions based on the number of coins they hold and are willing to “stake” as collateral.
Validators with more staked coins are more likely to be selected to validate the next block, but the process is often randomized to prevent monopolization.
This mechanism significantly reduces energy consumption compared to PoW, eliminating the need for intensive computational work.
PoS also enhances security by requiring validators to invest considerably in the network, making malicious activities less appealing.
Additionally, PoS can lead to faster transaction times and lower fees, making it a more efficient and scalable solution for blockchain consensus.
Benefits of Using a Blockchain
1. Decentralization
- Benefit: Eliminates the need for a central authority or intermediary, reducing the risk of a single point of failure.
- Use Case: Peer-to-peer transactions in cryptocurrencies, where users can basically transact directly through a distributed database without needing a bank or payment processor.
2. Transparency
- Benefit: All transactions are recorded on a public ledger accessible to all participants, promoting accountability and reducing the risk of fraud.
- Use Case: Supply chain management, where all stakeholders can undoubtedly see the movement and status of goods, ensuring transparency and traceability.
3. Immutability
- Benefit: Blockchain ledger technology ensures the integrity and permanence of records. Once data is written to the blockchain, transaction records cannot be altered or deleted.
- Use Case: Financial record-keeping, where transaction histories are maintained securely and cannot be tampered with, ensuring accurate and trustworthy records.
4. Security
- Benefit: Cryptographic techniques used in blockchain provide strong data security, protecting against unauthorized access as well as cyberattacks.
- Use Case: Healthcare data management, where patient records are securely stored and accessible only to authorized personnel.
5. Efficiency
- Benefit: Automation of processes through smart contracts reduces the need for manual intervention, speeds up transactions, and reduces errors.
- Use Case: Insurance claims processing, where smart contracts automatically validate and process claims, reducing the time and cost involved.
6. Cost Reduction
- Benefit: Blockchain can significantly lower operational costs by eliminating intermediaries and reducing the need for reconciliation and audits.
- Use Case: Cross-border payments, where blockchain reduces the need for multiple intermediaries, resulting in lower transaction fees and faster settlements.
7. Traceability
- Benefit: Blockchain also provides an immutable audit trail for assets, enabling detailed tracking from origin to endpoint in real time.
- Use Case: Food safety, where blockchain tracks the journey of food products from farm to table, ensuring authenticity and safety.
8. Enhanced Privacy
- Benefit: Private and permissioned blockchains also allow organizations to control access to data, ensuring that sensitive information is only accessible to authorized parties.
- Use Case: Confidential business transactions, where details are only visible to involved parties while maintaining overall transaction integrity.
9. Trust
- Benefit: The decentralized and transparent nature of blockchain fosters trust among participants, as all actions are visible and verifiable.
- Use Case: Voting systems where blockchain ensures that votes are securely recorded and transparently counted. Besides, increasing trust in the electoral process.
10. Interoperability
- Benefit: Blockchain can integrate with other systems and technologies, enabling seamless data sharing as well as collaboration across different platforms.
- Use Case: Healthcare interoperability, where patient data can be securely shared across different healthcare providers, improving patient care coordination.
FAQs
What is the small definition of blockchain?
A blockchain is a distributed database without a central intermediary. It can contain any information, such as medical records, digital currency transactions, supply chain data, voting records, property titles, etc. The decentralized nature of blockchain usually ensures that data is not controlled by a single entity, enhancing security, transparency, and trust among participants.
How do you explain blockchain to a child?
A blockchain is like a drawing pad where everyone can see the drawings. When one pad finishes, you can glue another onto it to continue drawing. If you want to send someone your drawing, you can give it to them by whispering a secret code. Therefore, everyone will know whether the secret code is real or not.
How many blockchains are there?
There are thousands of public and private blockchains. At the time of writing, more than 2000 coins and tokens were used by blockchains.
How do you explain blockchain to dummies?
A blockchain is just an extensive database that everyone has access to. It’s impossible to manipulate the data, and no referee can coordinate. Instead, participants can use a cryptography network to verify whether the information is valid.