What is blockchain technology? Blockchain for dummies
We know that this might be slightly heavy material to dive into. And you are not alone if you think blockchain technology is complicated, because it undoubtedly is.
If you want to read more about cryptocurrencies which is closely related to blockchain technology you can click here.
Most people have to spend some time before they feel confident about this. But by starting to read a little and understand the basics of blockchain technology, it will also be easier to see the opportunities blockchain and cryptocurrency can bring, and what gives this innovation value. We have created this guide where we try to explain the most important things about blockchain.
What can blockchain be used for?
Why should one care about blockchain? We will explain how this works below, but here are some examples of areas where blockchain technology can be used.
- Cryptocurrency (digital money on the blockchain)
- Gaming (incorporating blockchain technology into games)
- Supply chain management (supply chains)
- Secure storage of data online. (Safer cloud storage)
- Domain names
Blockchain for dummies - What is a blockchain?
A simple explanation:
You can look at a blockchain as a "digital ledger" that records information about transactions and who owns what, and this digital ledger is stored online in a decentralized manner.
This means that the "the ledger" is stored over a network of participants. Instead of having one copy stored in a central place, all participants have a copy of the same ledger, and it is only when they agree that the content is correct that the information there will be valid.
- The blockchain can be used to store information, decentralized on the internet.
- Decentralized means that it is stored in many places at the same time, and does not have one central point that controls the content. A bit in the same way as the internet itself or how democracy has spread political power over many participants.
- In order for something to be decided on the blockchain, all participants must agree on what is "true".
- Technology is used to make it possible for all participants in the network to come to an agreement and trust each other without having to know each other. Then people all over the world can participate in the network over the internet. Such a solution is called a "consensus mechanism".
- The blockchain is well suited for a digital money system where you keep track of who owns what.
- When one person sends money to another person a "transaction" occurs. Just like when you send money from your bank to another bank.
- The "money" you possibly send to each other over the blockchain is called "cryptocurrency".
When many people use the network, there are naturally many transactions, and when you have to update this digital "ledger", you have to deal with a collection of transactions at a time. They must be approved before you can proceed to approve the next collection of transactions. Once the transaction has been approved, it is valid and cannot be reversed. But it must first go through an approval process that prevents erroneous transactions from happening.
In the traditional monetary system banks and payment providers, such as Visa, are the ones that process such transactions. With blockchains it works a little different.
Let's say that 100 transactions at a time must be approved and these are gathered together in what is called a "block".
When a "block" of transactions has been approved by the participants in the network, they can go ahead and approve the next "block" of transactions.
Since these blocks are always linked to each other, it is called a "blockchain". For every new "block", this block is linked to, and builds on, the previous block.
If the ledger is updated, it will be updated equally with each of the participants.
How to ensure that the information in the blockchain is correct?
Various technical mechanisms are used to ensure that everyone agrees that the contents of these blocks are credible.
To prevent anyone trying to manipulate the information on the blockchain, one must create a mechanism that makes it unprofitable and difficult to attempt "cheating", while rewarding those who help keep the information secure and up to date.
You can think of the following:
If it costs you more to cheat than you potentially have to profit from this, would you bother to cheat?
And if you are also rewarded for following the rules? Then it is very likely that you would rather help maintain the integrity of the blockchain.
At the same time, it may also be that a powerful outsider would have an interest in shutting down or taking control of the entire blockchain network.
Maybe a state or a criminal network would have such an interest?
Maybe they don't like the information in the blockchain, they want to steal money, or they want to prevent competition?
Then you have a number of technical solutions that are used in blockchain technology to protect yourself against such an attack. An example of how to secure the blockchain against attacks and manipulation is, for example, Bitcoin mining. You can read more about Bitcoin mining here.
More technically explained: As the name suggests, blockchain is a collection of data / information in blocks that are linked together in a chain / link. Without going into more depth, blockchain is a combination of technology such as P2P networks, digital signatures, data storage and cryptography, and opens up a lot of possibilities within transaction systems, decentralized applications and smart contracts.
Yeah, we know... Many unfamiliar words and expressions right? But we will try to explain further.
With blockchain, they have managed to solve a game theory problem known as "the Byzantine Generals Problem".
The Byzantine Generals Problem is a game theory problem, which describes the difficulties decentralized parties have in reaching an agreement without relying on a reliable central party. In a network where no members can confirm the identity of other members, how can the members collectively trust each other and agree on a certain truth? Here is a youtube video that explains the problem.
Decentralization - What does it mean?
When you perform a transaction by e.g withdrawing your bank card from the store, paying a bill or transferring money to a friend in the online bank, you are dependent on the bank and the logistics companies processing and approving the transaction. Among other things, they must check that you have enough money in the account, in addition to managing and registering / posting that the money is deducted from your bank account and transferred to the recipient's bank account. This is called a centralized model, where the handling of transactions is left to a few key parties and trusted third parties (TTP) such as banks, Vipps, Nets, Visa, Mastercard, Paypal etc.
Advantages of centralized systems
- Only one place for control and administration.
- Scalable and can handle thousands of transactions per second.
- User-friendly and established systems.
Disadvantages of centralization
- "Single point of failure" - If the bank or logistics companies have problems, you will not be able to complete desired transactions or pay in the store.
- Power is concentrated with a few actors.
- The third party has access to a lot of data and can commercialize this by selling data to other parties. See for example Facebook, Amazon, Google or that banks sell information to insurance and other stakeholders.
Blockchain, on the other hand, is a technology that enables decentralization, so that transactions can be carried out in a secure manner without having to be approved by a centralized third party.
In short, using blockchain, you can pay for an item in the store or transfer values directly to a friend (bitcoin, cryptocurrency or assets) without the bank, brokers or other third parties having to check and complete the transaction.
Here's another example:
Imagine that you have stored a lot of important documents belonging to your company on a cloud storage service such as Dropbox. You have secured your account with a strong password and feel safe.
But oh well! Someone has hacked your service provider, and now they have gained access to all the data that their customers have stored there. You haven't done anything wrong, but since the way your data is stored has a "single point of failure", which in this case is your supplier, the thieves still got in.
With a decentralized solution, it would have been a little different. The ONLY way someone could gain access to your important company secrets is if they had hacked you and your password.
The difference between traditional systems from blockchain and decentralization
An example of what distinguishes traditional finance and centralized models from blockchain and decentralized systems is that your bank account and information are stored, controlled and managed by one central party, the bank. All records of how much money you have, as well as your history and transaction log are stored with the bank.
They are therefore responsible for storing your funds in a safe and secure way, identifying and authorizing the right owner for each transaction, so that unauthorized people do not have access to spend your money.
Blockchain, on the other hand, is a dynamic and distributed database, where storage, control and administration are distributed among a number of participants (nodes). This makes it difficult for unauthorized people to gain access to other people's funds or tamper with history and transactions.
At the same time, this means that each individual user of such technology is responsible for storing their own funds, securing encryption keys, and ensuring that transactions are carried out correctly, as it is difficult to cancel or refund a completed transaction in blockchain.