Blockchain Explained: How Does Blockchain Work?

Hi there, soon-to-be blockchain experts. Today is the day that marks the birth of your full understanding of blockchain technology. Here, you'll get the complicated blockchain explained in simple words.

As I'm sure you are aware, trying to understand how the blockchain works is like trying to understand the science behind the universe – it’s confusing! Which is exactly why you’re here.

In this blockchain tutorial, I will get to know what is blockchain from the basics, including the advantages of its technology and how the blockchain will benefit the way the world operates in the future.

There are two big “bwords in the blockchain industry. The first (yes, you’ve guessed it) is “Blockchain”, and the second is “Bitcoin”. Newbies will often confuse themselves by believing that these are the same thing, which they are not.

However, they are very closely related. Bitcoinput simply — is a digital currency. Blockchain, on the other hand, is the technology that is used by Bitcoin to allow secure, public and anonymous transactions to take place.

Just think of blockchain as an operating system (like Windows or Mac OS) and Bitcoin as an application that runs on that operating system. Simple!

You should also consider which crypto exchange platforms you're going to use when buying Bitcoin, if that's something that interests you!

What is Blockchain?

It’s one of the most puzzling questions we find ourselves trying to answer when first discovering cryptocurrencies. So getting blockchain explained is essential.

 

Ready? Here’s what is blockchain in simple words:

The main purpose of the blockchain is to allow fast, secure and transparent peer-to-peer transactions. It is a trusted, decentralized network that allows for the transfer of digital values such as currency and data.

Now, as we’re all newbies here. Here’s the blockchain for dummies:

  1. Imagine the blockchain as a digital database, just like an Excel spreadsheet.
  2. This database is typically shared across a large network containing many computers (known as “nodes”) and it is completely public. I say “typically” because it can technically be formed by any number of nodes. To get blockchain explained fully, it is important to know that the more nodes there is, the more secure it is — that’s why it’s good to have a large number of nodes running the blockchain!
  3. Every time the network makes an update to the database, it is automatically updated and downloaded to every computer on the network.
  4. Blockchain technology is secured with cryptographic techniques, making it near impossible for hackers to make changes to it. The only way to make changes would be to hack more than half of the nodes in the blockchain, which again, is why it is more secure to have more nodes/computers running the blockchain.

That’s your blockchain explained in simple words. So, now when someone asks you “what is blockchain?”, you have two strong answers to choose from.

How Does Blockchain Work in the Case of Bitcoin?

Bitcoin was the first cryptocurrency to use blockchain technology. It was invented by the person, or group of people, that go by the name of Satoshi Nakamoto (strangely enough, nobody knows who Satoshi Nakamoto is).

The sole purpose of Bitcoin is to act as a store of value. It allows for peer-to-peer transactions that do not need a third party, such as PayPal or a bank.

Getting Bitcoin blockchain explained is essential to understanding how blockchain works. The Bitcoin blockchain is a database (known as a “ledger”) that consists only of Bitcoin transaction records. There is no central location that holds the database, instead, it is shared across a huge network of computers. So, for new transactions to be added to the database, the nodes must agree that the transaction is real and valid.

Blockchain explained: a bank.

This group agreement is also known as a “consensus”. It occurs during the process of mining.

Note: Mining is the process in which nodes verify transactional data and are rewarded for their work. It covers their running costs (electricity and maintenance etc.) and a small profit too for providing their services. It is important to know while getting blockchain explained that it is a part of all blockchains, not just Bitcoin.

Once the nodes agree that the transaction is real, it is then added to a “block” (which is why it is called a blockchain) and is placed below the previous block of transactions in the ledger.

For a transaction to be valid, the computers on the network must confirm that:

(1) The account holds the amount of Bitcoin that the user wants to send.
(2) The amount hasn’t already been sent to someone else.

For example, let’s imagine that Tom tries to send $10 of Bitcoin to Ben. Tom only has $5 worth of Bitcoin in his wallet. Because Tom doesn’t have the funds to send $10 to Ben, this transaction would not be valid. The transaction will not be added to the ledger.

Blockchain explained: Bitcoins on a computer chip.

This means that nobody can ever spend the same money twice! This can often be a big problem for standard banks and payment systems.

A Simple Example to get Blockchain Explained Better:

Let’s compare how data is stored and shared in standard (non-blockchain) systems to how it is stored and shared in a blockchain system.

The way that traditional (non-blockchain) ledgers work is very similar to the way you would share a Microsoft Word document with your friend:

  1. While you are editing the document, your friend is locked out and cannot make changes.
  2. Once you have finished making your changes, you send it to your friend to edit it further.
  3. Now while your friend is editing the document, you are locked out and cannot make changes until they are finished and send it back to you.

In a blockchain system, however, all users can view the changes while they are being made.

Blockchain explained: a blockchain.

The data is accessible in a secure and shared environment, instead of being locked to one company or person at a time (at the risk of losing the data). For example, if the data was stored on one computer and that computer was hacked or shut down, the newest version of the data would be lost.

Now, to get blockchain explained: with the blockchain, the data is stored on all the computers/nodes that run it. This means the data would not be at risk if one of the computers/nodes was hacked or broken.

As you can see, blockchain technology does not just benefit cryptocurrencies. It benefits many different industries. Imagine the amounts of legal, health, accounts and customer data, etc. that should be used this way.

This is just one of the many advantages of blockchain technology! Now, let’s look at some of the others.

Key Advantages

Blockchain Explained Simplifying Business
Most businesses use different systems, so it is hard
for them to share a database with another business.
Blockchain Explained Trust & Transparency
Trust is an essential part of getting the difficult
world of blockchain explained.
Blockchain Explained Cost-Effective
As the blockchain is a trusted peer-to-peer network,
it removes the need for a central third party.
Blockchain Explained Unbreakable
Once a transaction is confirmed, it is stored on the
ledger and protected using cryptography.
Blockchain Explained Availability
Blockchain is a decentralized peer-to-peer network
and there is no central point of failure.
Blockchain Explained  Decentralized
Decentralization is one of the cores — and most
important — advantages of blockchain technology.

Decentralized

Decentralization is one of the core — and most important — advantages of the blockchain technology. It has been a highly-desired concept for many years, but it was blockchain technology that made it possible.

To get the blockchain explained in simple words, it requires no central server to store blockchain data, which means it is not centralized. This is what makes the blockchain so powerful.

Instead of the server being stored in one place, it is stored on the blockchain and is powered by many different computers/nodes. This means there is no third party to trust and pay a fee to.

Unbreakable

Once a transaction is confirmed, it is stored on the ledger and protected using cryptography. It cannot be changed or deleted without a consensus (the group agreement), which makes the blockchain unbreakable. Pretty cool, eh?

Blockchain explained: a network over a city.

Trust and Transparency

Trust is an essential part of getting the difficult world of blockchain explained. As it is a shared database, everyone can view the full details of the transactions within it. These include the source, date, time and the destination of the transaction.

Cost-Effective

As the blockchain is a trusted peer-to-peer network, it removes the need for a central third party. This is one of the major benefits for businesses as it completely removes the costs that are required to pay third parties.

Faster Operations

Let’s use a real-world example:

Imagine that you want to send a payment to someone in another country. Without the help of blockchain technology, you would normally need to pay expensive fees (to the banks) and the transaction may take 3-10 days to be processed.

Using blockchain, this can be done almost instantly and at a much cheaper cost.

Availability

Blockchain is a decentralized peer-to-peer network and there is no central point of failure. Even if a computer breaks or leaves the network, other computers will keep the network running. That's why this is a huge, huge advantage.

To get the blockchain explained even clearer, just imagine a hospital server: it contains important data that needs to be accessed at all times. If the computer holding the latest version of the data was to break, the data would not be accessible. It would be very bad if this happened during an emergency!

Blockchain explained: a man purchasing something online.

If the hospital used a blockchain, however, it wouldn't matter if a computer broke. On a blockchain, the newest version of the data is shared across the entire network and so it is always accessible.

Simplifying Business to Business

Most businesses use different systems, so it is hard for them to share a database with another business. That's why it can make it very difficult for them. So, the answer is blockchain technology!

As a blockchain can act as a single shared database for both businesses to work from, sharing data is much easier for them on a blockchain system.

Blockchain in Real-World Industries

To help you understand some of the other advantages that blockchain offers to businesses, here are some examples of industries that are currently using blockchain technology. This will surely get blockchain explained!

Identity

Cybersecurity threats are a huge problem in the identity management industry. In the current world, our identity is controlled by large companies. Whether that be Netflix, Facebook, Instagram, or even the companies we work for.

People are always under the threat of having their identities stolen by cyber-thieves — also known as hackers. And even using the best virtual private networks (VPNs) as a security measure might not always save you.

All of these companies use centralized servers. For example, Netflix is the central point of the Netflix server — if Netflix is hacked, all the data they hold for their customers is at risk.

It was only recently that Equifax’s data was hacked.

INTERESTING FACT

Equifax is one of the largest credit reporting agencies that hold personal information of over 800 million customers. This caused the data of over 145 million users to be stolen.

Blockchain explained: centralized systems vs blockchain.

So, how can personal data hacking be stopped using the blockchain?

Well, your data is currently held in a centralized database (just like at Equifax). A centralized database is much easier to hack into because it uses one main server. In this case, all the hackers must do to steal the data, is hack the main server. In a blockchain, there is no main server — there is no central point for a hacker to attack! Here's a great advantage of blockchain explained.

Banking and Payments

Blockchain will do to banking what the internet did to the media, a rather bold statement, right?

This is how important blockchain technology is for the financial industry. By using the blockchain, financial services can now be provided to those that currently do not have them. That’s over 2 billion people!

Let’s use Bitcoin again as an example — thanks to the Bitcoin blockchain, anyone in the world who has access to the internet can now send digital payments. It’s the future! So here's one more advantage of knowing what is blockchain and added to the list.

As well as helping those that do not have financial services, blockchain is also helping the banks themselves. Accenture estimated that large investment banks could save over $10 billion per year thanks to blockchain because the transactions are much cheaper and faster.

Pros
  • Super secure
  • Protection against physical damage
  • Supports more than 1500 coins and tokens
Pros
  • Can be managed from mobile device
  • Very secure
  • Supports more than 1,100 cryptocurrencies
Pros
  • Easy to use
  • Free to register and keep crypto coins in
  • Decent fees

Energy Supply

In the past, people had only one option to receive energy — through a centralized source.

However, we are now able to gather renewable energy from our own devices, or from new grid systems called “microgrids”. Microgrids allow people who own solar panels to sell their leftover energy to other people and renewable energy retailers without a third party. So, let's get another advantage of blockchain explained.

Note: Renewable energy is energy that is collected naturally. Think sun, wind, water, etc.
 
Blockchain explained: a person taking money from a bank.

Before blockchain technology, people could only sell their leftover energy to retailers (the third party). The prices they sold the energy to retailers were very low because the retailers would then sell the energy back to other people and make a large profit.

As blockchain technology removes the third party, people can agree on a price that is fair for them both — cutting out the cost that was previously taken by the retailers.

Blockchain will change the way that many more industries currently operate

The examples above are only a small part of what is possible using the blockchain. Blockchain is being applied to many more industries than the ones listed above.

Here are some of the other industries that are currently using blockchain to improve the way they operate:

  • Cybersecurity
  • Education (like BitDegree!)
  • Marketing & advertising
  • Supply-chain management
  • Government systems
  • Music & video sharing
  • E-commerce
  • Voting

Blockchain explained: a chart.

With so many advantages to using blockchain, the possibilities are endless! Blockchain gives us all something to look forward to.

Conclusion

Let’s think about what we’ve learned in this blockchain explained guide and highlight some of the most important features of the blockchain to remember:

What is blockchain?

  • A peer-to-peer network that removes the need for trusted third parties;
  • Transactions are processed quicker and cheaper than standard (non-blockchain) systems;
  • It is a public database and all transactions are visible on the network, preventing cyber-attacks;
  • The database cannot be changed without more than half of the network agreeing, making it much more secure;
  • It is not controlled by one single company and it has no single point of failure;
  • Blockchain can be used in many different industries — not just digital currencies.

How does blockchain work?

  • It works as a large database that is shared across a network of nodes (computers);
  • The nodes on the network work together to verify transactions and are rewarded with the blockchain’s currency — a process known as mining;
  • Once a transaction is verified by the network, the transaction is placed in a block;
  • New transaction blocks are placed — in order — below the previous block of transactions
  • All transactions are stored in a distributed database (ledger);
  • It is extremely difficult for a hacker to change the transactions because they need control of more than half of the computers on the network.

Blockchain explained: benefits for large industries.

How will this benefit large industries?

  • It removes the cost of third parties;
  • Payments and data are processed much quicker;
  • Database management between businesses is much easier;
  • Data protection/security is improved on a large scale.

Final words to getting blockchain explained

Blockchain technology will change and improve the way businesses operate, but that’s not all it will change. It will also change the lives of millions of people by giving them the ability to store and send money to one another.

Thanks to blockchain, the world can become a better place! And remember - if you're thinking about purchasing some cryptocurrencies, check out exchanges such as Binance or Coinbase!

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FAQ

What does "decentralized" mean?

The blockchain technology is decentralized. Frankly, this means that there is no single unit of authority controlling it, and instead, it's run by countless numbers of 'nodes' (computers) around the world. With blockchain explained, you should basically be aware of the fact that, if you purchase some Bitcoins from an exchange, you'll only be taxed by the exchange, and the transfer will usually be almost instant.

What can blockchain technology be used for?

A lot of things! The blockchain technology eliminates the need for a middleman in the processes and transactions that you participate in. This is true with exchanging or sending money, yes, but it can also be used to automate hospital record storing, paying salaries, and so on. Plenty of different uses, for sure!

How to pick the best crypto exchange for yourself?

Picking out the best crypto exchange for yourself, you should always focus on maintaining a balance between the essential features that all top crypto exchanges should have, and those that are important to you, personally. For example, all of the best exchanges should possess top-tier security features, but if you’re looking to trade only the main cryptocurrencies, you probably don’t really care too much about the variety of coins available on the exchange. It’s all a case-by-case scenario!

Which cryptocurrency exchange is best for beginners?

Reading through various best crypto exchange reviews online, you’re bound to notice that one of the things that most of these exchanges have in common is that they are very simple to use. While some are more straightforward and beginner-friendly than others, you shouldn’t encounter any difficulties with either of the top-rated exchanges. That said, many users believe that Coinbase is one of the simpler exchanges on the current market.

What is the difference between a crypto exchange and a brokerage?

In layman’s terms, a cryptocurrency exchange is a place where you meet and exchange cryptocurrencies with another person. The exchange platform (i.e. Binance) acts as a middleman - it connects you (your offer or request) with that other person (the seller or the buyer). With a brokerage, however, there is no “other person” - you come and exchange your crypto coins or fiat money with the platform in question, without the interference of any third party. When considering cryptocurrency exchange rankings, though, both of these types of businesses (exchanges and brokerages) are usually just thrown under the umbrella term - exchange. This is done for the sake of simplicity.

Are all the top cryptocurrency exchanges based in the United States?

No, definitely not! While some of the top cryptocurrency exchanges are, indeed, based in the United States (i.e. Coinbase or Kraken), there are other very well-known industry leaders that are located all over the world. For example, Binance is based in Tokyo, Japan, while Bittrex is located in Liechtenstein. While there are many reasons for why an exchange would prefer to be based in one location over another, most of them boil down to business intricacies, and usually have no effect on the user of the platform.