How does blockchain work?

Right then, class. This blockchain you’re using, or thinking of using, or wondering what the actual fuck is. Let’s get into it. For once and for all. A ​“blockchain” 101. Here it comes, strap in.

The first iteration of blockchain came back in 1991 and was used by researchers as a way to timestamp documents. The fact that it was untamperable and very secure is what spawned a wider sense of attraction.

After that, it is generally accepted that Satoshi Nakamoto pioneered how we use blockchain in the contemporary sense when, in 2008, he created bitcoin. Now Nakamoto is a whole other kettle of fish; it’s taken that Nakamoto is the pseudonym of the person (or persons) who invented bitcoin. Nobody knows who or what Nakamoto is, yet they are reportedly worth £25 billion.

It’s used to store data in a very secure way. A block chain is a chain of blocks, makes sense right? We’ll dive into those blocks now. A block contains a few things, a bit like an atom does. Blocks contain data, a hash (sort of like a fingerprint) and a hash of the previous block.

The data you store can vary massively. Using bitcoin as an example, the data within a block would generally be the sender, the receiver and the amount of bitcoin being transferred. The hash, as said, is the identifier of the block. It’s always unique to a specific block. If the block is edited at all (as in, there’s new info added) the hash changes. This makes it easy to see exactly where changes have been made, as the blocks following the tampered block become invalid. In addition, there’s something called a ​“proof of work”, which slows down how quickly blocks are made.

It’s useful because, if someone tampers with one block, they need to then edit the rest of the blockchain, and it can basically take an endless amount of time to actually happen. Essentially, you can’t outrun it – you’ll be caught. There’s also a peer-to-peer network, so people will responsibly stop any dodgy changes by verifying it. It makes consensus. Unless you can get more than 50 per cent of the network to validate your dodgy work (basically impossible) you can’t fiddle with the blocks.

A blockchain in crypto is essentially a chain of transactions. For example, you buy some bitcoin from someone, that’s one block. They’ve bought or mined it from somewhere, that’s the previous block. If you then buy something, exchange your money or sell your bitcoin to someone else, that creates a new block. Because the transactions are validated by a bunch of people around the world, you can be sure nobody is able to tamper with the transaction.

It isn’t just useful for crypto though; other applications include monitoring things you sell over time, like the mileage in a car, signatures being added to a contract (this is essentially a smart contract), even voting in elections.

In fact, if blockchain continues to take off, it’ll very likely disrupt a load of industries, with banking being the most obvious. We’ve seen this already in developing countries such as El Salvador, which became the first nation in the world to approve cryptocurrency as an official form of payment in June. It’ll also disrupt cyber security, government systems, forecasting, insurance, cloud storage or basically anywhere where people can be corrupt with money or hack data, like charities and healthcare services.

So yeah, that’s your briefing on blockchain. End of class.

Speak to a Financial Conduct Authority registered financial adviser before taking financial advice, and think carefully before making any decision.

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