Blockchain 101: Definition, Uses, How It Works, & More

You may have read the word “blockchain” a thousand times without properly understanding what one is. If so, you are definitely not alone, and even if you think you know, read on. You’ll enjoy it, I promise. I wrote it with you in mind.

The blockchain is revolutionary — revolutionary like the invention of the light bulb, not revolutionary like Vladimir Ilyich Lenin — and it will serve you to know why.

No doubt you understand that in order to create a cryptocurrency you need to build a blockchain, and if you didn’t understand that, take my word for it, you do.

What Is Blockchain? A Business Level Explanation

An accurate definition of blockchain would insist that it is a digital database containing transactions (often financial ones) that can be used and shared within a publicly accessible network such as the Internet.

However, let me boil all those words down to the important piece of information that few people tell you when they write about the blockchain. It is this:

The blockchain is a shared database.

When you understand this, it becomes easier to understand why a blockchain is organized in the way it is. So let me exhume the meaning of the above all-important and very short sentence.

A database is a way to share data. Yes, I know, there are lots of different types of databases — relational, document, XML, triplestore, etc. What they all have in common is that they allow data to be shared between different applications. Databases have well-thought-out standard interfaces that any program can use to get at the data. A blockchain is no different in that respect.

What makes it very different is that it enables data to be shared between organizations in a trustable way.

Hopefully, the first question in your mind is this: Why can’t all those other kinds of databases do that?

The answer is simple: They can’t be fully trusted.

Consider two organizations, A and B. A has data in a database and wishes to let B access that data, and add new data. Maybe such an arrangement will work fine, but maybe it won’t. Here’s how it can fail:

1. An employee who works for A and manages the database thinks up a fraudulent scheme that involves changing data in the database. He has the authority to make such changes and maybe he even finds a way to cover his tracks. As a consequence, B loses money.
2. A talented hacker who lives in Belarus finds a way to hack into the database and perpetrates a fraudulent scheme, knowing he is safe from extradition even if his identity is discovered.
3. A cybercriminal in China puts ransomware on A’s network. It encrypts the data and he sends an email demanding payment of $1m dollars in Bitcoin.

Even if both A and B do their level best to make the arrangement work, it can all go catawampus. The Internet is alive with security problems.

A blockchain database is different because it is secure — bullet-proof secure, superman secure, Internet secure.

Because of that if A and B wish to implement a shared database, they can achieve that by implementing a blockchain to manage the data they wish to share. Problem solved.

How Does the Blockchain Work?

I’ll explain step by step.

The first thing to know is that just like other databases, the blockchain writes data away in blocks. Databases have done this since before the deluge because it works way better than writing records away one at a time. So the “block” part of blockchain is no different from other databases. It is the “chain” part that is different.

All the blocks in a blockchain are chained together in the order in which they were created. The first block is connected to the second block, and the second block is connected to the third block and the third block is connected to the fourth block, now hear the word of the Lord.

The fact that they are connected is no big deal, it’s how they are connected that matters. They are connected by a hash.

Unless you’re a programmer type, you won’t know what a hash is. Let me tell you. Firstly, it has nothing at all to do with hash browns or hashish. A hash is a mathematical function that can be applied to a string of binary information, such as, well, a block of data that you want to write to a database.

I could try to explain the math, but let’s not bother. I’ll assume that you waved goodbye to hard mathematics sometime during your education and you are in no hurry to get reacquainted. Just accept that you can apply a hashing function to a block of data and it will spit out a string of numbers and characters like this: 39A1H55ZZ5178.

What’s really sneaky about the hash function is that if you change just one piece of data, even a single bit, the hash value that the hash function spits out will also change. So the blockchain, instead of just writing the block of data away, attaches the hash value of the previous block to the block, then hashes the block, and then writes the block away with the hash value it calculated.

So now the stored block looks like this: Hash-value-of-previous-block, block data, Hash-value-of-this-block.

And this means that:

1. Every block knows which was the previous block.
2. You cannot change any data in the block or the hash value of the previous block without changing this block’s hash value.
3. But if you change this block’s hash value, you will break the chain, because the hash value is already being used to build the next block.

In summary, this means that the block has become unchangeable — as unchangeable as the stars in the sky.

What Makes the Blockchain So Secure?

Now, if you have a criminal turn of mind, you may be thinking:

Wait a minute…

What is to stop me from taking control of the computer running the blockchain software, unraveling a few blocks, then altering a few records to grab a stack of someone else’s Bitcoin and drop them into my personal wallet, and then rewriting all the details with new hash values?

The answer is Consensus.

Consensus stops you from doing that. In practice, there won’t be just one computer creating new blocks, there will be many. In the case of Bitcoin, for example, there are thousands. And because the Bitcoin blockchain was the first blockchain, I’m going to use the way it works to explain consensus.

The blockchain doesn’t live on just one server computer, it is copied across a multitude. Each one of these servers is competing obsessively-compulsively to write the next block.

To enable this desperate crush of computers to compete in this sprint, all the transactions are sent to all of them. No computer is allowed to write the next block without solving a mathematical computing problem which relates to the data values stored in the block.

It’s a hashing problem of a kind, but I’ll not try to explain it, I’ll just provide an appropriate link for the benefit of those who are not mathematically challenged.

It’s a race against time, but the computing problem has been constructed in such a way that no particular computer can be guaranteed to win. Thus, it is impossible to predict which computer will write the next block.

The first computer that solves the problem gets that privilege and is rewarded with 6.25 Bitcoin — no small reward at current prices. This arrangement for mining Bitcoin is called “Proof of Work” because the victorious computer is able to prove that it did the work to find an answer.

If you are thinking, “that’s a completely goofy way of writing a one-megabyte block of data”, I agree with you. Furiously.

Think about it. You get thousands of computers to compete to solve a problem and you give the winner a prize.

I mean that has to cost, doesn’t it?

Yes, it does. It costs plenty. In fact, with Bitcoin, it is fabulously expensive. It has been estimated that Bitcoin mining consumes about sixty-one terawatt-hours (TWh) of electricity per year, which is (and I am not lying through my back teeth here) about as much electricity every year as the country of Switzerland.

And on top of that, there’s the cost of the Bitcoin mining computers which you cannot buy by the truckload at Dollar Tree. You will pay over $1,000 for just one and much more for what is termed “a mining rig”. That’s multi-millions of dollars of silicon tied up in mining Bitcoin. And by the way, those are specialist computers that can only be used for mining.

Even if you get your electricity cheap, for example in Iceland for 6 cents a Kwh, that still amounts to $3.66 billion per year.

How Does This Relate to Blockchain?

Bitcoin mining didn’t start out expensive. When the infant Bitcoin first emerged from the maternity ward, most of the mining was done on dusty old seen-better-days computers.

Back in the day, prior to July 2010, you could buy Bitcoin for less than a cent, and in those days a cent bought you about six-kilowatt minutes of electricity. Aside from a handful of geeks and crazy coders, nobody was mining Bitcoin.

That’s the bizarre business dynamic of Bitcoin; mining activity is driven by the price of the coin.

As the price of the coin rose it attracted more miners. Eventually, there were too many and some dropped out. Others realized that they could make more money by using better computers, making those dusty old PCs redundant. Powerful gaming computers gave up gaming and took up mining.

It became an arms race.

Chip manufacturers realized they could make money by designing chips that were dedicated to mining Bitcoin. These were called ASICs (application-specific integrated circuits).

That isn’t the only factor at play here. It’s complicated to explain, but it only consumes the rest of this paragraph, so feel free to skip past it. The difficulty of the mathematical hashing problem can be altered and is regularly adjusted in a way that directly relates to an estimate of the computer power deployed for mining. This adjustment is made every 2016 blocks (about every 2 weeks) in order to keep the average time between writing a new block to about 10 minutes.

If you are wondering who the hell thought up this scheme… to impose a consensus system on the writing away of blocks of data to a blockchain, which has resulted in thousands of specialized computers competitively solving math problems 24 hours a day to earn the right to write the next block, while consuming enough electricity to keep the lights on in Switzerland, and thereby earning money…  the answer is Satoshi Nakamoto.

Who Is Satoshi Nakamoto?

That’s a question I cannot answer because Satoshi Nakamoto is a pseudonym. If you’re thinking “Oh, he’s one of those modest Japanese guys you encounter in Ninja movies who is obsessed with economics and good at playing Go”, you may be right.

Or maybe he’s a shady ex-KGB operative who intends to undermine the US Dollar. Or maybe he’s a Libertarian hacktivist who thinks he’s striking a blow for financial freedom.

In a world where everyone seems desperate to grab a minimum of 15 minutes of fame, perhaps the most famous cryptographer since Alan Turing has decided to stay anonymous and has covered his tracks so well that nobody seems to know who he is. Perhaps he read about what the Brits did to Alan Turing and decided that anonymity had very definite virtues.

But never mind. The scheme that Satoshi Nakamoto invented: digital blockchain currencies and mining for consensus, was a brilliant conception. He will go down in history as one of the world’s great innovators — and because he was anonymous, every country on the planet will probably claim him as their own.

Species of Consensus

The Bitcoin blockchain has stood the test of time. It has never been successfully hacked and it has launched the value of its cryptocurrency into the stratosphere.

It has proved itself despite the fact that it has been declared dead over 380 times. This includes pronouncements by such legendary luminaries as Steven Mnuchin, Nouriel Roubini, Warren Buffet, and Paul Krugman to mention just a few.

However, even its avid fans must surely understand that there has to be a better way of achieving block writing consensus than by chewing up all of Switzerland’s electricity. And indeed there is. Think about it.

Here’s what we are gunning for: we want a network of a significant number of computers none of whom can conspire with each other to change the contents of the latest block. If we can’t achieve that then we do not have “immutability” and thus the blockchain is no more reliable than any other kind of database.

We need to limit the ownership of these computers so that no single provider of such resources can dominate the writing of blocks, and neither can any cartel of resource providers. For the record, achieving dominance of the population of block-writing computers is called a 51% attack. If you can mount a 51% attack you destroy the security of the blockchain and the currency that it supports.

Actually, there are many schemes for doing this that do not involve mining. The most prominent is called Proof Of Stake where a number of resource providers (who are in effect stakeholders) provide computers for block-writing and the computer that gets to write the next block is determined in some unpredictable way that does not involve electricity-hungry mathematics.

In fact, there are many different consensus methods: Aside from the two already discussed, there is: Delegated Proof of Stake (DPOS), Proof of Capacity (POC), Proof of Elapsed Time (POET), Consensus as a Service (CaaS), Proof of Identity (POI), and Proof of Authority (POA) — the last of which is employed by the ASK blockchain.

If you want more details, feel free to Google.

What Is the Blockchain Used For?

Ok, so we know you can use blockchain technology to create a currency, but what else can you use it for?

The obvious place to look is wherever the sharing of data securely can be a problem. Here are some examples.

1. Payment Information. So obviously a blockchain is a great vehicle for storing payment information. Sure you can use it for cryptocurrency payments, that was its first application. But, actually, banks will probably end up using it as payment technology for most of what they do. Many of them are already using Ripple for just that purpose.
2. Government Data. It’s likely that governments will eventually use the blockchain for digital IDs, making public records available and even (horror of horrors) bullet-proof incorruptible voting (Dictators, take note).
3. Healthcare Data: This is an obvious application, particularly because security is a big deal in the healthcare industry. Medical records are difficult to share and can be plagued by inaccuracy. On a blockchain, they will be accurate, secure, and easily shared with medical professionals who are approved by you.
4. Insurance Data: Insurance is a similar area to healthcare in that data needs to be trustworthy and confidential. With the use of smart contracts (space forbids from explaining this incredibly useful feature of the blockchain), most of the customer interactions involved in making insurance claims would be handled with extraordinary efficiency. No more hassling your insurer week after week for your payout.

There’s also a really big area of blockchain applications for supply chain data.

The Blockchain and the Supply Chain

Do you like salmon? Most people do. Do you like genuine wild-caught salmon?

Maybe you’ve never had it. Quite possibly you think you have but you haven’t.

The conservation group Oceana produced a report on this very topic. During winter 2013-2014 researchers collected 82 samples of salmon labeled “wild” from restaurants and grocery stores in Chicago, New York, Washington, D.C., and Virginia, and sneakily did DNA tests on them.

It turned out that 43% of the salmon was fraudulently labeled. 69% of the mislabeled fish were farmed Atlantic salmon. Cheaper species of salmon were labeled as top quality Chinook. And the mislabelling was more common in restaurants than grocery stores.

In a supply chain that is built on the blockchain or a series of blockchains, such food fraud is harder to perpetrate. Did that Beluga Caviar really come from the Black Sea? Did that Roquefort really come to maturity in a cave near Roquefort-sur-Soulzon?

With the blockchain, such frauds will be harder to perpetrate.

Is the Blockchain the Future?

I have no doubt that the blockchain is the future of shared databases. It is simply the best technology that has ever been created for sharing data in a secure and trustworthy manner. The technology may evolve over time as all technology does, but it will not be superseded.

If you don’t believe me, just wait, and wait and wait. If you are not already using blockchain technology, you will be in a year or two. You will see more and more of it. Eventually, it will be as common as french fries in a fast-food joint.

And if, in the coming years, the blockchain dies a death and disappears — well, I was obviously wrong.