It’s been called a lot of things: a “game changer”, a “paradigm shift”, and to some naysayers, “a problem looking for a solution”. In the past decade, blockchain technology has propelled itself into the mainstream as mobile banking apps and celebrities like Lionel Messi and Elon Musk promote and praise it.
Still, despite its new status as a buzzword, most of us don’t really know what blockchain does – or what it even is, for that matter. But we should, because it has the capacity to transform the way we all do finance.
To demystify the concept of blockchain, we’ve compiled this helpful guide for complete beginners. Consider this the crash-course you wish you had gotten in school.
What is blockchain, and why does it matter?
In 1989, DigiCash pioneered a digital currency system specializing in anonymous and untraceable transactions. While the company eventually went bankrupt, the idea of creating a semi-private digital financial system continued to circulate and gain steam, eventually turning into blockchain as we know it today.
The first true blockchain was actually created to run the most popular cryptocurrency, Bitcoin. Nowadays, the technology is used to not only service a growing number of digital currencies, but it’s changing the way things like supply chains, medical records, and property sales are organized and managed.
Knowing its growing list of applications is all well and good, but we need to dig deeper into what blockchain actually is – and what it promises.
Put simply, a blockchain is a type of digital ledger that records transactions and information shared across a ‘chain’ of computers. This setup allows for a heightened level of security and lets individual users engage directly with each other without having to go through a middle man like a government or traditional bank.
Removing a central authority is one of blockchain’s key defining features and a big part of why it appeals to so many people.
It’s easiest to picture blockchains as a distributed database (though they’re not actually databases – more on that later).
Using Bitcoin as an example, once a person makes a transaction using the currency, the ledger updates one of its linked batches of transactions within that distributed network. These linked batches are called blocks. An identical copy of the transaction is stored on each computer that makes up the blockchain, and the cycle repeats for every new transaction.
There are 3 types of blockchain to know: public, private, and permissioned.
- Public: These blockchains are large, distributed networks run through a token of some sort. They’re open to anyone and utilize open-source programming their communities maintain. Think Bitcoin.
- Private: These blockchains tend to be much smaller than public ones and don’t use tokens like Bitcoin. Often used to organize and send confidential information, private blockchains are only open to a small number of members, such as a corporate organization or government office.
- Permissioned: While these blockchains are still relatively large and use tokens, their membership is more closely controlled. A good example of a permissioned blockchain is Ripple, which controls what actions members can perform.
Blockchain vs. traditional banking
Unlike traditional financial service institutions, blockchains operate without middleman oversight. This means they can provide users with the means to make secure payments and transactions without using a bank. For many, that means faster service, lower (or zero) fees, and a feeling of more security and trust.
Without the need for gatekeepers, blockchain technology could also change the way loans and credit are processed, making it easier to find low-interest rates.
Needless to say, blockchain is upending a lot of peoples’ ideas around what the financial industry can and should look like. Many banks are now working to modernize their services to compete with FinTech startups specializing in making these decentralized, digital ledgers accessible.
7 things you should know about blockchain technology
Like many new technologies, there are a lot of misconceptions and myths out there about blockchain. Here we’ll go over some of the main points you need to know while debunking some of the most common misunderstandings.
It’s not a database (technically)
We told you we’d get back to this one. Despite popular misconceptions, blockchain ledgers aren’t actually considered a database. A database is a centralized collection of data stored as tables. Blockchain, on the other hand, stores data with a Proof of Existence within separate blocks.
In reality, while it isn’t entirely correct to call blockchains a database, it offers a more straightforward framework of understanding to think of it as such, so don’t worry too much about this one.
Nothing is truly permanent
Most guides to blockchain will tell you they’re a) decentralized and b) “immutable,” which means that any information entered into the ledger is permanent and irreversible. And while that’s true in theory, the reality of blockchain technology is a bit more nuanced.
Blockchain is typically thought to become unchangeable through decentralized economic measures like proof-of-work. But even those have to be validated, which makes private blockchains, in particular, look sketchy since they rely on the collective trust and good intentions of their members.
Many things could impact the permanence of a blockchain’s record, with the most likely scenario being cyberattacks or internal corruption.
So what does that mean for the average person using cryptocurrency? For one, it could influence which type of currency you choose to support.
When you’re interested in security and trust above all, a public blockchain like Bitcoin could be a better choice than a private or permissioned option. It’s also a good reminder to keep up with your records.
Just because blockchain offers more security than other forms of online payments doesn’t mean it isn’t immune to being compromised.
Blockchain technology helps make faster payments possible
Card payments, checks, ACH, and other traditional methods of sending money can take anywhere from 1-5 days to clear and be deposited into a person’s account. For many people, the wait is inconvenient and can impact their ability to pay for utilities and other essentials on time.
With blockchain-backed currency, payments can be sent and received in as little as 15 minutes. While transaction speed can vary depending on the number of people active on a network at a given moment, speeds are generally much faster.
In addition to faster speeds, transactions through blockchain often come with lower fees than banks, though it depends on which crypto you’re using. Another benefit of blockchain is that most cryptocurrencies don’t dictate how their coin is spent. While regional or national guidelines will always still apply, you’re free to spend your Bitcoin or other coins however you choose.
On the other hand, banks have the right to deny transactions or even freeze your account if you break guidelines or engage in what they deem to be “suspicious activity.” But don’t think that gives you an automatic free pass to buy illegal stuff – you’ll almost definitely still get caught.
It’s better for security
Okay, so blockchain isn’t 100% secure, but in reality, nothing on the internet truly is. Compared to banks using user-generated passwords and 2-factor authentication methods, however, blockchain emerges as a much safer and secure way to store private info.
A bank’s security is tied to its centralized server, which can be vulnerable to cyberattacks. On the other hand, blockchain’s decentralized, highly distributed network of blocks makes it easier to create security within the system.
There’s so little actual human input and interaction within these systems themselves, and while that may sound bad, it’s a good thing for error reduction.
Allow us to use Bitcoin as an example again. Every time a new transaction occurs with Bitcoin, it’s recorded and confirmed as valid by a majority of the nodes on the networks. This confirmation by the majority process makes it much harder for information to be changed or altered without raising some red flags.
What’s more, this prevents people from counterfeiting their digital currency. So, all in all, if privacy and security are significant concerns for you, we’d advise looking into blockchain-backed finance.
Blockchain is bringing personal finance to the unbanked
One of the more significant financial problems our world faces is the lack of access to personal finance services and institutions. As of now, 6% of US households and about 1.7 billion people worldwide are considered “unbanked,” meaning they lack an account at a financial institution.
There are many reasons why people might not have an active account, from immigration status to poverty or lack of financial independence. And in some countries with weak or corrupt financial institutions, it’s often not worth opening an account anyway.
For unbanked people, blockchain offers an easier way to send and receive funds. In many cases, all you need is a mobile phone and wifi to access your money—no need to worry about bypassing strict government regulation.
It’s not just all about cryptocurrency
While much of the conversation around blockchain nowadays revolves around its use in cryptocurrencies, in actuality, blockchain technology has a long list of potential applications in a variety of industries.
Here are just a few examples of how blockchain can make things more convenient and secure for individuals and businesses.
- Healthcare: Where does all our medical information get stored? As of now, most medical data is stored in separate, siloed databases, making it difficult to share information across different hospitals or medical centers. With the proper safeguards in place, blockchain could enable health records to be stored into a massive chain, wherein each individual owns the rights to their data, sharing it at will.
- Gaming: If you’re a gamer, you know how popular in-game items like loot crates and gachapons have become. By storing info on players’ currency on a blockchain, game studios could create a more transparent and secure in-game economy for players while reducing players’ ability to cheat.
- Food safety: More people than ever before are conscious about what they eat and where it comes from. Through blockchain, digital data from each stage of a product’s lifecycle can be recorded and verified, making it easier to control quality and issue safety recalls before people have the chance to get sick. Plus, blockchain allows for a more transparent look into how food is farmed and manufactured, and more transparency is always a good thing.
There are still questions about regulation
There’s a lot of promise and potential within the wide world of blockchain technology, and only time will tell if it can scale successfully and be utilized more prominently. Especially when it comes to things like cryptocurrency, there’s not much clarity on privacy, risks, and how disputes should be handled.
While this is natural for any new tech, it means that we’ve still got a while before regulations hammer out the finer details of how we can use blockchain in the long term.
How blockchain technology could change banking as we know it
With an incredible amount of applications for blockchain, questions about regulation and decentralization are considerable obstacles to the technology seeing more mainstream use.
Still, as more people adopt cryptocurrency and more organizations realize the potential for faster, secure information processing, it’s likely that blockchain will continue to grow in popularity over the next ten years.
As big banks realize the average consumer would rather take their money elsewhere than continue to use outdated financial services, we’ll see the rise of more banks acquiring and merging FinTech startups into their well-established institutions.
The days of slow-processing payments and flimsy security measures may well be over soon.
If you enjoyed this crash course in blockchain technology, be sure to check out our beginners’ guide to cryptocurrency as well. And subscribe to The Mental Wealth Show Podcast for more advice on money and entrepreneurship.