What is Blockchain? | How does Blockchain work? | Blockchain for Dummies

Anisa Batabyal
| 26 July, 2018 | 2 min

Current Scenario — The Money Movement

Let us first understand how money is being transacted today and see what/who all the stakeholders responsible for the money movement are?

Consider two friends, Amish and Cathy who are neighbors. Cathy has gone to an Apple retail showroom to buy the new iPhone 8 which costs 70,000 rupees. Now Cathy has only 69,000 rupees with her and she calls Amish and asks for a loan of 1,000 rupees which she says will pay back the very next day. Amish being a very close friend decide to help Cathy and transfers 1,000 rupees to her. Cathy pays the bill and gets her favorite brand new iPhone 8.

So what is happening here? How is the money instantly transferred to Cathy where there is no transaction of physical notes?

This is where the banks come in with a solution. They act as a central authority and take control of the transaction. When Amish sends the 1,000 rupees from his account, the bank updates its register noting down the transaction and reducing 1,000 rupees from his balance. Then it again updates the register of Cathy adding the 1,000 rupees sent by Amish.

The Money Movement

Say Amish has 65,000 rupees in his balance and we know Cathy has 69,000 rupees in her account. The bank’s register (ledger) for the friends would look like this:

Bank Register of Amish & Cathy

The bank in this case enters the transactions of Amish and Cathy in its registers and updates the new balance of both the friends. This is what happens to all the countless transactions happening around the world. There is no need for physical notes to be transferred to other people in order to send the money.

So what is the problem with this system?

Bank acts as a middleman taking the complete control of the transaction leaving no control with us on what is happening behind the scenes in the registers. There is scope for mistakes (even when computer updates the register). This also leaves a chance with individuals working in the bank to have intentional motivations to make mistakes in any scenario. The bank also charges fees for their services which in the end will contribute to a sum of unplanned spending of your finances.

This raises a question, how can we control the registers for the transactions we do? Is it possible to create a register that can be fail-proof and at the same time owned by us effectively removing any middleman?

Solution The  Blockchain Technology

What is Blockchain Technology? 

“Blockchain is a shared, public ledger of records or transactions that is open to inspection by every participant but not subject to any form of central authority”

- McKinsey

Blockchain technology is a record of various transactions done by different individuals on the Blockchain network. A Block contains a list of transactions done at a particular time. Think of it as a paper where you list down all the transactions made by the users. Once the paper is filled with enough entries and there are no new transactions that can be added due to the lack of space, the paper gets securely stored in a file and is put away in the locker. The paper contains the names of the sender and the receiver, the amount being transacted and the time at which the transaction was done. It is important not to modify the contents of the paper as it is the proof of the money movement. Once the paper is stored inside the file, another new paper is taken to write the next set of transactions. This process gets repeated and the papers are stored safely one after another.

Similarly, a ‘Block’ is a proof of transaction being done. A Block contains the details of all the money movement (cryptocurrency in this case) securely stored in the Blockchain network along with the previous Blocks.

How does Blockchain work?

Let us now have a look at what is inside a Block and understand how does Blockchain work:  

Contents of a Block

A Block contains 4 major items:

  1. Previous Block Hash
  2. Block Number / Index
  3. Data
  4. Timeframe

There is also another element called a nonce (‘?’) which we will discuss in a later section.

Previous Block Hash

hash is the unique identity of a Block. Remember when we learned that when a Block once full will be stored securely with the other Blocks in the Blockchain network? This is how Blockchain got its name. A Block is linked together with the previous Block and the next Block when it is full will be linked to the current Block. The linking of all the Blocks in a chain like structure makes the complete Blockchain. We will learn more about hashing in the next section. 

Each Block linked to the previous Block

Index

An index is also known as Block number.

Data

Data is the logic of the transaction made on the Blockchain network. Data also consists of ‘From’ and ‘To’ addresses, the amount which is being transferred and any additional inputs like adding a fee to the transaction, .. etc.

Timeframe

It is the time at which the transaction is executed in the Blockchain.

Blockchain Explained

So, if there is no central authority over the transactions, then who will own the ledger or what happens to them? The answer is, everyone in the Blockchain network. The ledgers are shared to and owned by every individual using the Blockchain. This is called decentralization.

The Blockchain achieves decentralization by making its ledger open to everyone who uses the network. Suppose if Amish, Cathy and their friends use Blockchain for whatever purpose then everyone will have the copy of the ledgers. So how is this helpful?

Now imagine if there are a million users currently using the Blockchain. That means every single person will have the distributed ledger with them associated to their account. Now, when Amish sends money to Cathy through the Blockchain technology, the transaction is updated across all the ledgers across the network. This is how Blockchain aims to prevent double spending and it makes difficult for users/hackers to redo or modify a transaction. It makes the transaction non-reversible.

What is double spending?

Double spending is the risk of spending the same digital currency twice. Unlike physical notes where duplication of the same money is difficult, it is necessary to ensure that a digital token cannot be replicated or taken back after a transaction is made.

When someone wants to modify the Blockchain info, they have to change the details of the ledger in the majority of the network. But since Blockchain employs the ledgers universally to everyone who uses it, it is difficult for the hackers to modify the Blockchain info in all the ledgers. Even if they modify one ledger in the network, all the other ledgers that have the correct version of the contracts (transaction) will outvote the modified ledger out of the system.

This by itself is a stand-alone feature which finds its usefulness in various Blockchain applications. Industries are coming up with different Blockchain technology techniques to validate transactions among its consumers faster. 

Interconnected Ledgers (Nodes)

Imagine the ledgers 1, 2, 3&4 belonging to different Blockchain users. The ledgers contain the same Blockchain info across different networks. But we notice here that the ledger 2 has been modified by someone. Now with only one ledger modified, the other ledgers across the Blockchain notice it and eliminate this ledger out of the system. This is a highly desirable feature in Blockchain applications.

Hash

As explained in the previous section, the hash will be unique for each Block and this will be the identifying factor to match the contents of the Block. A new Block which is created (mined) at a particular timeframe will have a hash value. Say if the hash value for a newly created Block (let’s say ‘Block 34’ for example) is “00XF3W2ER”, then at any point of time in the future, even after six billion Blocks down the lane, if you search for 00XF3W2ER, you will be directed to the Block 34. So what the hash value of Block 34 means is that the contents of the 00XF3W2ER hash contain the previous Block hash value, the index of the Block, data and the timeframe of the Block for which the Block 34 is created and stored for.

Now if someone changes any content in the Block, the hash value of the whole Block will change which in turn changes the hash value of the next Block since the Blocks are linked to each other and the Blockchain knows something is modified.

Let’s take an example and look at the contents of the Block:

We will take ‘Block 34’ and give it some random numbers for the content.

Previous Block — ‘Block 33’

Previous Block hash: 00YVB43C9

Timeframe — 31-Dec-2017, 23:34

From Address: 3YZER42TY7

To Address: RE37YFDT4

Amount: 1,000 rupees

Hash for the ‘Block 34’ — 00XF3W2ER

So the ‘Block 34’ will look something like this:

When ‘Block 34’ gets full — all the contents of the Block will lead to a hash value.

Here, hash value, 00XF3W2ER = All four shapes inside the Block. Even a minute change in the content will result in a different hash value.

Similarly, ‘Block 35’ is linked to ‘Block 34’ and the previous hash of the ‘Block 35’ will be 00XF3W2ER and the ‘Block 36’ is linked with the hash value of ‘Block 35’.

When a hacker modifies any value in ‘Block 34’, it results in a new hash value for ‘Block 34’. So now the hacker has to quickly modify the ‘previous Block hash’ of ‘Block 35’ which in turn affects the original hash value of ‘Block 35’ resulting in a ton of work which is impossible for the hacker to possess by any means. It is almost an impossible task added to which the hacker has to change this before the ledger updates the next set of transactions. Remember, when a ledger transaction is updated the whole shared ledger in the Blockchain gets the copy of the new set. The hacker has to keep up with all the individual ledgers in the Blockchain along with changing the contents of many Blocks in the Blockchain.

That is how Blockchain technology aims to create a secure open decentralized network of ledgers that anyone can see but without any form of central control. 

Let us look at one example of Blockchain transaction:

Transaction of Block 57043

You can see all the contents of the Block that was discussed in the previous section in the above image. This is a typical bitcoin transaction that happened on 22–05–2010 at 18:16:31 in the Block #57043.

How do these two private keys apply? 

The aspect of this technology (cryptography), allows these individuals to acquire a secure digital reference point for identification. Note that the secure identity acts as the major component in the Blockchain technology. Both public and private keys are used as a tool of ownership for each individual.

Cryptography technology consists of an element known as a digital signature that is later combined with other component known as a distribution network. This combination allows room for other new types of digital operations or rather interactions

Nonce (‘?’)

All hashes generated in the Blockchain should meet a ‘pre-set’ difficulty level.

Consider ‘Block 176’ generated hash value is ‘3FR8ETRBV”

For example, if the difficulty level set is that — the hash should start with ‘00000’ (five zeroes) characters.

The ‘Block 176’ clearly does not meet the required set condition. So we have something called ‘nonce’ which helps the hash to meet the difficulty level. The nonce is defined such a way that any hash value generated will have to start with ‘00000’ (five zeroes)

Rewards

Miners are responsible for verifying the transactions happening on the Blockchain network. We will discuss on how the transactions are verified in a different article but for now, it is enough to know that Blockchain rewards the miners for verifying their transactions by giving them additional incentives like free cryptocurrency.

When a transaction is done, the miners in the network compete to solve a complex mathematical proof that locks the transaction into the ledgers. However, only the first miner to verify the transaction will propagate the Block to the network and will be eligible for the rewards. Other miners confirm the transaction and move on to mine the next Block in the hope of being the first one to verify it.

With the transactions being verified, the miners rewarded and the ledgers being open to all, it is almost impossible to cheat the system.

This is how Blockchain achieves consensus.

Blockchain applications

  1. The transactions involve person A and B. Note that person A is the first person to make the transaction.
  2. Blockchain allows A to use the private key when attaching the involved transaction information to B’s public key. This is where the Block starts to form, in this stage relevant information such as timestamp and the digital signature is involved.
  3. The validators are later formed when transmission of the Block is done across all the involved Blockchain network and later to the nodes.

Also read: 20 Blockchain Applications Across Industries In 2018

As the technology continues to grow, Blockchain technology is advancing each day. Developers are dedicating their time to make sure that investors, traders or any other user of Blockchain has received the best during application. Blockchain carries tones of benefits with it such as authorization of transactions, providing auditing trails and many more. The government, financial institutions, potential partners and other users benefit differently from the Blockchain technology. 

What is Blockchain wallet?  

It is a digital or e-wallet that allows an individual to store his or her cryptocurrencies. By the use of Blockchain wallet, one can be able to manage either Ether or bitcoin crypto currencies. It is free to create a digital wallet with the Blockchain technology, there are a few personal details such as email and password required during the registration process that will help you to manage your account. A wallet ID is provided once the verification is done, the ID acts as an identifier of the wallet holder.

Highlights of Blockchain Technology

In this section we will look at some of the main features of the Blockchain technology:

  1. Immutability: Once a transaction is made, it cannot be altered in any case. It's completely irreversible.
  2. Peer-to-Peer Transactions: Transactions happen between two parties with no central authority. Once the transaction is complete, the information is updated in the Blockchain.
  3. Distributed Decentralized Database: Anyone and everyone can see and inspect the Blockchain content leaving no room for double spending and altering of the records.
  4. Anonymity: The transaction is completely open to all but the user can choose to be completely anonymous.

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