Blockchain is a technology that has the potential to completely transform some industries. We will explain in simple terms what it is, what it does and what potential impact it will have.
Blockchain is currently one of the most hyped technologies on the internet. But sometimes this hype takes on bizarre forms: https://www.cnbc.com/2017/12/21/long-island-iced-tea-micro-cap-adds-blockchain-to-name-and-stock-soars.html. An iced tea company claims it is switching its business model to blockchain and its share price is increasing by 200%!! Seriously? OK, let’s start by explaining why.
Blockchain is basically a distributed transaction list. Something like an Excel spreadsheet where rows are gradually added by different users. Hmmm, doesn’t sound particularly world-changing. But this construct has some properties that actually enable new applications or provide the basis for some disruptive changes for many industries.
Property1 : The transaction list does not belong to anyone alone, but to everyone.
The distributed transaction list is called distributed because it is not only stored on a single computer or server, but on every computer that participates in the blockchain network. Well-known networks are Bitcoin and Ethereum. We will explain what these are below. The importance of this property cannot be emphasized enough. In comparison to existing models such as banks, insurance companies, online shops, and even governments, there is no central authority that somehow maintains control over processes or values. It is said that every industry that fulfills an intermediary function is basically directly affected by blockchain technology. A later article will cover this.
Feature 2 : The transaction list is open and transparent
Anyone can view the list and see which lines are added. A copy of the list is on every computer. Anyone who wants to can decide to write to the list. These are called „miners“ and the process of writing is called „mining“. This process is quite complicated. In simple terms: You (the miner’s computer) have to solve complex mathematical formulas and guess numbers. The miner who guesses the number the fastest can write the transaction into the blockchain. This algorithm is called „proof of work“ and is designed to prevent the list from being spammed by users and to prevent everyone from writing as much as they want without being prepared to put in the effort.
Feature3 : Security
Blockchain is based on cryptography, more specifically private and public cryptographic keys. You can use the public key to securely encrypt documents and decrypt them again with the private key. For example, I use your public key to encrypt a document that I want to send you. Only you with your private key are able to decrypt this document because private and public keys form a pair. Conversely, you can sign documents with your private key and the signature can be confirmed with your public key. All of this is possible because a public and private key belong together.
Property4 : Synchronous
This cryptographic basis is also used to synchronize the blockchain. This means that the technology guarantees that all users of the network have the same copy of the blockchain.
Property 5 : Immutability
Each entry in the transaction list is linked to the entry before it. Once entered in the list, it cannot be deleted or changed. Entries can only be added.
Blockchain is by definition independent, transparent and secure. The advantages of such a system are obvious: cost and risk minimization, data security, transparency of transactions, etc. The idea itself is not new. In 1976, blockchain was introduced in the paper „New Directions In Cryptography“ but was dismissed as complicated and insecure. It was not until 2008 that it was introduced again by an unknown person or group under the pseudonym Satoshi Nakamoto as Bitcoin: „Bitcoin A Peer-to-Peer Electronic Cash System“. Bitcoin became one of the first digital currencies that uses peer-to-peer technology for instant payment transfers without a central authority such as a bank.
Thanks to blockchain technology, Bitcoin was the first digital currency to solve the so-called „double spending“ problem. More importantly, however, Bitcoin is not controlled by any central authority. The speed, security and distributed nature of Bitcoin made it one of the fastest growing assets in the world. Bitcoin uses blockchain mechanisms to transfer value (assets); from one person to another. If I want to transfer Bitcoin to you, I use my and your cryptographic keys to deposit this digital currency into your digital account. An algorithm in the Bitcoin mechanism ensures that Bitcoins are and remain a finite resource. No more than 21 million Bitcoins can circulate in the Bitcoin network. This creates an artificial scarcity, similar to gold. Bitcoin is not the focus of our article. But the digression was necessary because the success of Bitcoin has sparked interest in the underlying blockchain technology. Dozens of startups have started to build the „next big thing“ based on blockchain and there is great interest from the media and companies.
Possible uses of blockchain
Today we are very used to sharing information over a decentralized platform – the Internet. But when it comes to sending money or other valuables, for example, we still use the old-fashioned instruments like banks. Of course there is still Paypal & Co, but these still require accounts, credit cards and the like. Blockchain technology offers an attractive way to replace these „middlemen“. It offers a perfect design to replace all three important roles of a traditional financial service provider:
- Registration of transactions
- Identity verification
- Contracting
This is promising, because the financial services industry has by far the largest market capitalization. If some or parts of these services are moved to blockchain, then you could certainly speak of a disruption in a positive sense. Why does it take a few days, for example, to transfer money to another country? Why do transactions to another country cost so much? With blockchain, the process becomes much more efficient, as transactions are processed directly between the two parties without intermediaries. Since it happens digitally, the deal can be executed without delay. Add to that perfect transparency, traceability and security and you will certainly begin to understand why all the hype has arisen. What’s more: Blockchain can not only be used to send digital money, but also to track physical goods, for example. In the supply chain, it can be used to transparently show companies and customers the individual stages of a product / food in real time. In addition to these and many other areas of application for blockchain, I would like to go back to an extremely exciting detail: contracting.
So far we know that the blockchain can be used to store any digital information in a distributed manner. This also applies to computer code itself. With blockchain – in particular the Ethereum blockchain – you can treat computer programs as „contracts“ and have them executed. These are themselves stored on the blockchain and are executed when certain conditions are met. For example, if I sell you a bicycle and we agree on the price, you press a buy button. A contract now starts which debits Bitcoin or Ether from your cryptocurrency account and transfers it to an escrow account. Neither you nor I have access to this money. Only when the goods arrive and you are convinced of the agreed features do you release the money, which then goes into my account. In the event of complaints, there are mechanisms that transfer the money back to your account or involve other people to settle the dispute. These programs can also tap into external data sources (such as stock prices, weather forecasts, news headlines, and anything else a computer can analyze) and create contracts that are then automatically executed when certain conditions are met. This mechanism is called a „smart contract“ and the possible uses are endless.
You can use smart contracts for all kinds of situations, from financial derivatives and insurance to rentals, legal processes, crowdfunding, contracts including invoicing in the service sector, etc.
Let’s assume you want to rent an apartment with smart contracts. You pay in a cryptocurrency and on a specific date you receive the digital key to the apartment. If the key does not arrive on time, a refund is automatically triggered. The digital apartment key works exactly on the day of rental and automatically becomes invalid when the rental contract expires. The same mechanism can be used to monitor intellectual property, e.g. to determine how often an image has been used, shared or copied. Voting applications are also ideal where immutability and preventing multiple votes are the main focus. Two parties can immortalize their agreement about a service on the blockchain with signatures. Smart contracts can be used to make transfers when the service has been provided.
There are of course still some challenges. The technology is still quite new and changing. The regulatory processes and legal status are also still in flux. Widespread use has not yet occurred, which of course was not to be expected given its newness. The technology is also not trivial; there is a lack of developers and an understanding of how to map it onto one’s own business model. But the possibilities are promising and the USA (and many other countries) are once again much further ahead than we are in Germany. As a software developer, consultant and architect, however, I can say with certainty that the technology really has the potential to make entire industries obsolete. Every company would do well to look beyond the hype and seriously consider blockchain and its possible use in their own industry. It is not the big that eats the small, but the fast that eats the slow.
