I hear a lot about blockchain, but how does it work?”
Some of you who have recently started trading crypto(virtual currencies) or are interested in doing so may have such questions.
Blockchain is a technology for recording and managing information that is employed in many crypto, including Bitcoin (BTC). Blockchain has many possibilities beyond crypto, including automating and streamlining various transactions.
This section describes the fundamentals of blockchain, its advantages and disadvantages, and its potential.
What is Blockchain?
In a nutshell, blockchain is a technology for recording and managing information. It is called a blockchain because it consists of a single block of information that is connected one after another in a chain-like structure.
It is also called ” distributed ledger technology. To explain distributed ledger technology, “ledger” is a record of money exchanges, and “distributed” literally means that the money is kept separately here and there.
Usually, ledgers include accounting ledgers, wage ledgers, basic resident registers, and registries, which are managed by a specific organization such as a company, local government, or the national government. Blockchains, on the other hand, have no specific administrator, and all or part of the ledger is shared, stored, and managed by all participants who handle cryptographic assets. This is a distributed ledger, and the blockchain is a technology that makes it clear who wrote what information in the ledger, when, and in what form, so that it can be shared, stored, and managed in such a way that it cannot be forged.
Four characteristics of blockchain
Blockchain, which utilizes a variety of cutting-edge technologies, is said to be an information management technology with high durability against information tampering and hacking. In fact, the blockchain used in Bitcoin (BTC), the world’s first cryptographic asset developed, has never been tampered with or hacked.
Here are four typical characteristics that support the security and convenience of blockchain.
1. P2P (peer-to-peer) network
Blockchains such as Bitcoin are highly secure because they employ P2P networks to manage information.
A P2P network is a system in which multiple nodes distribute data and share information. A node is “a computer terminal connected to a network of specific cryptographic assets, such as Bitcoin,” also known as a peer.
The meaning is the same as the “distributed ledger technology” introduced earlier, so it is easier to understand if you think of P2P as the English term for distributed ledger technology.
In conventional client-server systems, if the server fails or otherwise goes down, the entire system comes to a halt.
However, when using a P2P network, data is distributed and managed by multiple computers, so that even if one of the servers goes down due to a hacker attack, the whole system is not affected.
If a data file is lost by a hacker, it can be recovered again because the data is stored on other servers. With data stored on many users’ computers in a distributed manner, risk is also distributed rather than concentrated in one place.
Thus, blockchain, which employs a P2P network, is a decentralized system in which users monitor each other, a feature that distinguishes it from the centralized systems of the past.
2. Cryptography
Another reason why the Bitcoin blockchain is considered secure is because of the cryptographic technology in place.
Cryptography refers to the technology used to convert the contents of data into a format that cannot be understood by third parties and to restore the converted data to its original form. Cryptography is characterized by the use of two public and private keys to exchange data. The public key and private key are paired, and encrypted data cannot be decrypted without these two keys.
The public key is available to third parties, but the encryption cannot be broken without the private key. Therefore, as long as the private key is not stolen, the security of cryptographic assets is ensured. Conversely, it is important to keep the private key under strict control.
If a private key is ever given to a third party, the data could be leaked or the cryptographic assets could be stolen.
3. Proof of Work (PoW)
Another reason why the Bitcoin blockchain is considered secure is the introduction of a consensus algorithm called PoW (Proof of Work).
Pow, to put it simply, refers to the approval system for transactions. In the case of bitcoin, to add a block to the blockchain, a very difficult computational problem must be solved.
This calculation work (transaction approval) is called mining, and the first successful miner is rewarded with bitcoins. In order to be the first to succeed in mining, it is necessary to install high-performance computers that can perform the enormous calculation work at high speed.
As a result, it is now difficult for individuals to succeed in bitcoin mining. It also takes a lot of time and effort to cheat, as any attempt to tamper with one block requires tampering with subsequent blocks as well.
This makes the bitcoin blockchain extremely difficult to tamper with.
4. Smart Contracts
Smart contract is a mechanism that automatically executes the contents of a contract without human intervention. Since blockchain technology is used, it can fulfill two conditions: the contract cannot be tampered with and the contract is executed automatically without the intervention of a central administrator.
Thus, the greatest advantage of smart contracts is that they can automate the contracting process without involving a third party, shortening the transaction period and reducing labor costs.
However, smart contracts are not a feature implemented by all crypto. One well-known example is Ethereum (ETH), which has implemented this feature. A variety of services have already been created by those who have taken notice of the blockchain’s potential.
Blockchain Types
There are three main types of blockchains
- Public type
- Private type
- Consortium-type
Let’s look at each in turn to see what characteristics each has.
Public type
A public blockchain is a blockchain that has no central administrator and is managed by an unspecified number of users.
It is characterized by the fact that there is no intermediary for transactions and transparent data is published on the Internet. For this reason, public-type blockchains are sometimes referred to as open-type blockchains.
Public blockchains are characterized as being much more secure than other types of blockchains. On the other hand, they have the disadvantage that it takes a lot of processing and time to write new information on the blockchain.
Private type
Private-type blockchains are managed by individuals or single organizations, and are characterized by easy rule changes and fast transaction approval speed. While they do not have the “slow processing speed” problem that public blockchains have, they are characterized by low transparency.
In the private type blockchain, information is not disclosed to the outside world, thus ensuring privacy, and data can be stored in the blockchain within a closed system. Because of these features, private-type blockchains are expected to be used by general companies and financial institutions, and are also referred to as permission-type blockchains.
Consortium-type
A consortium blockchain is a blockchain managed by multiple organizations or groups. Consortium-type blockchains are distributed, secure, and fast, all of which are in between public and private blockchains. More specifically, consortium-type blockchains are managed by multiple organizations or groups rather than a single organization, making them more decentralized and secure than private-type blockchains. On the other hand, unlike the public type, the consortium type is limited to a few participants and has the high processing speed of the private type. Because of these characteristics, consortium-type blockchains are used for blockchains created by multiple companies in the same industry.
Flow chart of how transaction information is recorded
In the blockchain, as transactions occur, the information is generated, verified, and recorded. Let us briefly explain the process.
Transaction: Generation of transaction information
The first step is to generate transaction information, called a transaction.
For example, a transaction in which Mr. A transfers 1BTC to Mr. B is generated. After signing the transaction using the private key registered in advance, other nodes connected to the network will verify the contents of the transaction.
If a problem is found here, the transaction is discarded and no further processing takes place.
Mining: data validation and recording
If there are no problems with the transaction, the transaction data is verified by the participants in the crypto transaction.
If there are no problems with the data content or the recording procedure, the data are then linked together and recorded on the blockchain as a single block. This process is called “mining,” and the person who verifies the data is called a “miner.
The miner receives a fixed amount of bitcoins as a reward for the work to be verified. Then, only when the mining is completed, the “transfer of 1 BTC” from Mr. A to Mr. B is executed.
3 Benefits of Blockchain in Bitcoin (BTC)
The blockchain used in Bitcoin has three main advantages
- 1. Very difficult to tamper with
- 2. Low management and operation costs
- 3. High stability of the system as a whole
1. Very difficult to tamper with
The first advantage is that it is extremely difficult to tamper with. Here is a brief explanation of why the blockchain used in Bitcoin is so difficult to tamper with.
A blockchain is a chain of data, and a special string called a ” hash value ” is used for the linkage.
Then, if the information in the block is tampered with, this hash value is rewritten to something completely different, and the tampering is immediately apparent by nodes around the world.
More importantly, “each block has the hash value of the block before it as information. If the hash value of one block has been changed by tampering, the next block in the sequence must also be modified to match the rewritten hash value.
This is not a simple task of simply “retyping a string,” but rather a series of advanced calculations that can finally be done. Even if you succeed in doing that, you have to keep working on the next block and so on and so on.
You can understand that this is a tremendous task. It is these characteristics of the blockchain that keep bitcoin secure.
However, if the miners (miners) who check and verify records and connect blocks collude and have enough computing power to make up a majority of the total, various attacks on the blockchain are theoretically possible.
This is known as the “51% attack,” but realistically executing it is considered extremely difficult.
2. Low management and operation costs
The second advantage is that it is inexpensive to manage and operate. As already explained, blockchain data is stored and managed by multiple nodes.
If this were to be centrally managed, the cost would be enormous. The server alone would require a considerable amount of capacity, and if subsequent maintenance and management costs are included, the cost would be enormous.
However, decentralized management by nodes around the world eliminates such costs. The information is stored and managed by everyone involved in Bitcoin, including daily Bitcoin users, investors seeking to profit from crypto transactions, and the miners who create blocks and extend the chain, all contributing a little bit of machine power.
This is a major advantage of decentralized management. As a result, Bitcoin can keep transfer fees low.
This is especially advantageous for international money transfers, where bitcoin offers much lower fees than financial institutions.
3. High stability of the system as a whole
The third advantage is that the system as a whole is highly stable. This is due to the decentralized management of the blockchain.
In the case of a centralized system, if the main system stops due to some trouble, the entire transaction will be halted. Normally, a subsystem is prepared as a safety measure, but there are limits to this in terms of cost.
With decentralized management, however, even if a problem occurs somewhere, the entire system will not stop. Even if one of the miners has machine trouble and cannot generate blocks at all, other miners can work on it and blocks will be created one after another.
The stability of the overall system greatly affects the reliability of transactions. In this sense, the blockchain, which is supported by nodes around the world, offers great stability.
In fact, Bitcoin has never had a system outage since trading began in 2009.
3 Disadvantages of Blockchain in Bitcoin (BTC)
While it has numerous advantages, blockchain also has three disadvantages
- 1. Fewer transactions per hour
- 2. Has scalability issues.
- 3. Lack of relevant laws and regulations
Those who trade bitcoin should be aware of the disadvantages.
1. Fewer transactions per hour
The first disadvantage is the low number of transactions per hour. In the case of bitcoin, it takes approximately 10 minutes to generate one block. This means that, in theory, if person A sends 1 BTC to person B, it will take 10 minutes for the transaction to be approved and actually transferred.
In addition, due in part to the small recording capacity of a single block of bitcoin, the number of transactions that can currently be handled by bitcoin is said to be about seven per second.
To solve these issues, measures are being taken to increase transaction speed by creating “side chains” that branch off from the main blockchain, or by using “off-chain” techniques where transactions are repeated outside the blockchain and only the final result is recorded on the main chain.
2. Has scalability issues.
The second disadvantage is that it has scalability problems. Scalability issues refer to a series of problems that occur as the volume of bitcoin transactions increases, such as slow money transfers, requests for money transfers not being approved, and transaction fees skyrocketing.
When bitcoin was first introduced, transaction volume was still minimal. It was traded by engineers as a hobby or as a proof of concept. However, as Bitcoin became known to the public and more people began to see its potential, transaction volume increased rapidly and scalability issues arose.
There is a risk that transactions will be delayed, fees will tend to be high to process them quickly, and users will leave because they do not like it.
Dealing with increased transaction volume is a major challenge for Bitcoin, so various measures have been put in place and are being tried and tested.
3. Lack of relevant laws and regulations
The third disadvantage is that the relevant laws and regulations are not yet in place.
Bitcoin and other crypto are still a new technology. Many experimental improvements have been made using blockchain, and a wide variety of services are being created around the world that take advantage of the technology. As a result, it is easy for laws to fail to keep up, and unregulated situations can easily arise.
What is blockchain branching?
A single blockchain can diverge. The first type of branching that is done intentionally is for the purpose of upgrading. The second is to create a new cryptographic asset.
Bitcoin has experienced both branches in the past. This has led to the implementation of features such as “Segwit” and “P2SH” and the creation of new crypto such as “Bitcoin Cash” and “Bitcoin Gold”. Such branching will continue to occur as needed.
Q&A on Blockchain
Frequently asked questions about blockchain are presented here in a Q&A format.
Q: What is blockchain?
Blockchain is a system that enables reliable storage of various transaction histories. It is called a blockchain because it has a structure in which transaction data, called transactions, are managed in blocks, and these blocks are connected one after another like a chain.
Q: What are the characteristics of blockchain?
In a blockchain, information is distributed, shared, and managed by everyone participating in the network, making it clear who made what transactions and when, and making it impossible to counterfeit or hack. This type of mechanism is called distributed ledger technology or P2P (peer-to-peer) networks.
Q: What are the different types of blockchains?
There are three main types of blockchains: public, consortium, and private.
Q: What are the advantages of blockchain?
Bitcoin has advantages such as “extremely difficult to tamper with,” “low management and operating costs,” and “high stability of the system as a whole.
Summary
We have explained the blockchain that underpins the backbone of bitcoin, from its basics to its future potential.
Blockchain has disadvantages as well as advantages. However, if used well, blockchain can become an infrastructure that supports not only crypto transactions but also society as a whole.
Blockchain-based services are being created every day, making traditional tasks more efficient and creating new value at the same time. Blockchain is truly a technology that has the potential to change the future
.