Blockchains for a considerable time now has been a much discussed technology. Bitcoins too have hit headlines for multiple reasons, both good and bad.
In this article,we will explain in detail the concept of blockchains, bitcoins , their applications ,and importance.
What is the blockchain technology?:
A technology which facilitates peer-to-peer transactions without requiring any intermediaries like banks or any other Financial Institutions.
What is the need of a blockchain?
The other peer-to-peer transactions require a centralized system or an intermediary for transfer of money. This has a few limitations:
- It is a slow process and may take a few days to complete.
- A processing fee is charged by the intermediary, which makes the transactions a bit more expensive.
- There arises a need of an intermediary. So, in areas with lower access to such intermediaries, cash transfer becomes difficult.
In order to cope up with these drawbacks, blockchain technology came into existence.
When did it come?:
This is actually interesting. Post the 2008 Lehman Financial crisis, a paper of blockchain technology became public. The Lehman crisis exposed the non-credibility of a centralized banking system. Thus, it was an opportune moment for the blockchain to popularize.
How it works?:
Before understanding the working , let us understand a few technicalities of the concept of blockchain:
- Open Ledger:
- A ledger generally means –> a book for financial transactions.
- Consider a chain of four people, say, A,B,C,D amongst whom the transaction has to be carried out.
- At the genesis, we assume that A has an amount of 10$ with himself.This information is already there in a database(which will later be clarified as the blockchain database).
- Now, he wants to transfer 5$ to B. A transaction will be added in the database which validates the transfer of this amount. This will be linked to the previous transaction present in the database.
- The same process continues for the rest. Now if B wants to transfer to C $3, then the transaction is validated* and added to the link of transactions in the database.
- Now, if A wants to transfer 10$ to say, D, it will not be validated and added to the database. This is because A has only 5$ left with him.
(Imp.)*The question is – ” Who is deciding the validity of the transaction?”
Answer: As mentioned in the name, this is an “open” ledger system and thus, each party has the access to the database which contains the transactions taking place. So, anyone of them can validate or invalidate the sought transaction.
But, if we see here, then a central database has been created. So, this can’t be the concept underlying the blockchain as it seeks to do away with centralization. Thus, we need o understand a bit modified version of this concept.
- Distributed Open Ledger:
- As the name suggests, now, instead of a centralised ledger, we have a system in which each of the parties is holding with it a copy of ledger, thereby, making it a distributed open ledger.
- The key concept–Miners and Cryptocurrency(this governs the working of a blockchain):
- Now suppose, B wants to make a transaction of 5$ to C.
- A and D have the ledger(database) with them(distributed system).So, obviously , anyone of them can validate the transaction if it is truly valid.
- A and D are special nodes which are holding the ledger. These are called miners.
- Key point: Now, miners(A & D) will compete with each other in order to validate and add to their respective ledgers, the given transactions
- Why to compete? :
- This is because the one who wins gets a financial reward. In the case of a blockchain , this reward is a cryptocurrency.The best example of such a cryptocurrency is the bitcoin.
- What kind of competition?:
- To take the transaction and lock with their ledger requires a competition.
- The competition will be for a key called “validation key”.
- This validation key is achieved by solving a cryptographic(coded) puzzle.
- The one who finds the validation key first gets the financial reward.
- Synchronization takes place after every such competed validation.
- Each of the miner is a block—> a chain of them–>blockchain.
Now, look at the image below to understand the summary of the whole transaction.
Image courtesy: Blockgeeks
Blockchain is an open ledger technology which is:
- secured through cryptography.
In the next, we will cover the bitcoins comprehensively.