The blockchain has taken its place in society. And this disruptive technology is becoming increasingly relevant – especially for the future of the financial sector. Yet the blockchain is not an easy concept to grasp. Most people associate the term with 'having something to do with cryptocurrency’. Read on to learn how the technology works, what advantages it offers and in what sectors it is used.
How the blockchain works – a brief explanation
Technically speaking, the blockchain is a decentralised database that is mirrored across a large number of computers that are connected to a network. So anyone participating in the system first needs to install this database. The data in this database can be administered transparently and on a decentral basis – that is, without the need for a higher-level official intermediary – and without fear of tampering and manipulation. This also means, for example, that transactions in cryptocurrencies can be validated and authorised on a decentral basis.
The term 'blockchain' is derived from the method used to document data: individual datasets are combined into blocks that are then linked together to create a continuous blockchain or chain of datasets. As soon as one block has been verified, new data blocks can then be attached to this chain in chronological order. In this way, every participant can track the history of specific datasets, such as financial transactions. That's because every block contains vital information about the transaction: the persons involved, the location, the date along with the value or quantity.
The users within a system – who are also referred to as nodes – agree on a consistent status of the data chain and save a complete copy of the data history. This makes it difficult to manipulate the data since everyone in the network has access to a correct copy. In addition, cryptographic mechanisms are used to make it almost impossible to change the data. This means that every transaction can be saved only once in the chain and can no longer be edited after it has been attached as a new block in the chain.
The major advantages of the technology are that the transactions remain transparent and traceable for all users. The information storage is distributed – there is no intermediary such as a bank or a (government) supervisory authority.
From the idea to the technology – and how this relates to Bitcoin
Stuart Haber and W. Scott Stornetta are the forefathers of the blockchain. In 1991, they described their idea for a cryptographically secured chain of blocks and developed the first piece of software for this purpose. The program created timestamps for digital documents to prevent them from being manipulated. The documents also remained in the correct chronological order. A similar concept was also presented by Ross J. Anderson in 1996 and, two years later, by Bruce Schneier and John Kelsey. In 2004, Hal Finney developed a Reusable Proof of Work (RPoW) on this basis.
However, the general public only became aware of the blockchain following the arrival of the Bitcoin cryptocurrency in 2009. For instance, the concept of a distributed database is described in the paper by Satoshi Nakamoto' Bitcoin: a peer-to-peer electronic cash system', although not using the name blockchain. Some publications also mention David Chaum, who described the principles of digital currencies as early as 1982. He is also considered the father of various cryptographic protocols.
Therefore, the blockchain cannot be attributed to a single 'inventor'. Instead, it was a concept that continuously evolved. And there is still no end in sight. Many of us are only familiar with the concept of the blockchain in association with Bitcoin, Ethereum and other cryptocurrencies. However, it already has many other possible applications.
One example is what is referred to as smart contracts. These contracts are automatically concluded or also suspended – for example, if the buyer misses a payment.
Private and public blockchains
In blockchain technology, a fundamental distinction is made between the private/centralised and the public/decentralised approach. Public means that each user has the same rights and privileges within the system. Everyone can read the contents of the blocks and execute transactions. The best-known examples of public blockchains are Bitcoin and Ethereum.
The advantages of the public blockchain are that they offer a high degree of security, which in turn minimises costs and avoids errors. However, some people are also critical of this approach. For instance, they cite the fact that all transactions are visible to the participants as a privacy concern. People also complain that users are utterly reliant on an algorithm.
In contrast to this, the private approach has centralised authority and/or a restricted number of participants. Users must first be invited before they can view the transactions. However, the lower number of participants means that the risk of manipulation is greater.
Other possible applications of the blockchain
The blockchain offers enormous potential not only for financial products and services but also for other sectors. The healthcare sector, for instance, is already looking at ways of linking data from patient records in order to deliver better patient care.
Blockchain is also playing an increasingly important role in the automotive industry. To take an example, car leasing agreements based on smart contracts can improve the customer experience. Identity management is another area that can be optimised to enable risk assessments and insurance questions to be clarified more quickly and reliably.
The disruptive technology can also be used to improve supply chain management – in the form of failsafe, flexible and transparent supply chains.
The application possibilities of the blockchain are virtually unlimited and will only become more varied in the future. This will allow companies across a range of industries to exploit the untapped economic potential. Indeed, the technology is already being used today to streamline and automate manual business processes. Its use also limits the opportunities for cybercriminals to commit fraud and makes (financial) transactions more secure.