Why Blockchain?
If you listen to the mainstream media outlets you have probably heard them using the words “Bitcoin” and “Blockchain” as if they are synonymous. Yet, blockchain technology is not the same thing as Bitcoin; indeed, Bitcoin’s blockchain is not the only blockchain that exists. While part of Bitcoin’s network, it is not the only technology utilized by the peer-to-peer payments system.
For instance, Bitcoin was programmed using cryptography. This is a method of encoding messages that ensures no one except the intended recipient can access your message. Written into Bitcoin’s code also is the protocol that governs the creation of new bitcoins. This protocol allows those who “mine” the new blocks to award themselves new freshly minted Bitcoin.
As mentioned above, Bitcoin does not have a monopoly on blockchain technology. Ethereum, Aglorand, Cosmos, and Solana are among the alternative blockchains in use today each having certain advantages over the others.
But what is a blockchain? What is it used for, and why is this technology growing in popularity?
I am glad you asked!
A blockchain is a way to decentralize ledgers. A ledger is a record of accounts. What this means is that, in a blockchain, there is not one single recordkeeper as with banks that are centralized. A blockchain takes a ledger and declares it across all the computers, or nodes, within its network. In this way, no single entity can edit or make changes to the ledger since everyone must agree on changes to the ledger before they are considered valid. This increases security as changes that are not accepted by majority consensus are abandoned as if they never happened.
An added layer of security is anonymity. This means that the computers in the network may verify that the transaction you’re sending is valid without exposing sensitive information, such as your identity. This is achieved through cryptographic technology that gives you a private key and a public key. With your private key, you sign your transactions and send money through the network. Nodes verify that the transaction signature is valid, without your private key being exposed. Your public key is used to encrypt transactions, ensuring no one can open the transaction and receive the funds except you.
The destination of your transaction is not determined by the actions of the nodes. When you send funds on a blockchain, you declare to all the nodes that you have the authority to transact (by signing with your private key), the amount you are sending, and the destination (the public key of your intended recipient). The nodes can view your transaction and verify you have the funds to send and the authority to send them. In other words, they can verify you have the money to spend. However, no one in the network can change the destination of your transaction since they are never able to view your private key.
Let us look at an example of buying a cup of coffee at a local coffee shop to compare this process using blockchain technology and the current banking system.
The process is simple with blockchain technology, though time-consuming. When you want to buy a cup of coffee, you would create a transaction and confirm that you are sending the funds to the coffeeshop’s crypto address that is derived from their public key. Using a wallet app on your phone you designate the funds you want to spend, and your private key is used to sign the transaction. Now, the wait comes while your transaction is confirmed, this time frame will vary for different blockchains. The coffee shop has received the funds, and the transaction is settled. For Bitcoin, this can take as little as 10 minutes, depending on network traffic, at times the wait for confirmation can be over half an hour.
Translating this into the traditional banking system several concerns arise. Firstly, your bank holds your account, not you. This means that the bank is the one that controls the funds on your behalf, and you trust that they will behave honorably where your money is concerned. Already there is a difference since in blockchains no one except you can control your funds since they do not have your private key. When you pay for the coffee, you don’t transfer the money from your account to the coffeeshop’s, your bank does this for you.
Not too difficult if you happen to use the same bank as the coffee shop, as this is not always the case the process can become complicated. When your bank must move your money to a different bank, they do not transfer cash to the destination. They must communicate the digital transaction to the other bank. This is simple if your bank holds an account with the Coffeeshop’s bank or vice versa. However, this is not feasible for the plethora of banks in existence.
Enter Central Banks. This creates a somewhat simpler way for banks to communicate the transference of funds between them. Your bank goes to the Central Bank and instructs them to transfer funds from their account to the account of the Coffeeshop’s bank. The Coffeeshop’s bank then places the funds in the Coffeeshop’s account. A convenient service, but a massive security risk since this involved more entities in the control of your money.
Furthermore, your account is accessible to everyone that is employed by your bank. Why do they access your account? Hopefully, only for the purpose of carrying out your instructions. But you cannot guarantee that your bank is trustworthy. For this purpose, we have insurance such as FDIC policies that guarantee your money is safe, up to a certain amount.
This arduous process may seem instant; however, the settling of accounts can take several days depending on how often banks update their accounts with the Central Bank.
To summarize, a blockchain provides you with superior security compared to the traditional banking system since your identity is anonymized. No one but you can control your funds and your verification comes from a private key that no one else has access to, unless you have given it to them. In contrast, your identity is exposed to every agent hired by your bank, they control the funds you have deposited with the bank and access if proven by your sensitive identification information.
If you liked this post, follow me for more crypto-related content. I post two articles a month. Comment below any questions you may have!