What Is a Blockchain?

The term "blockchain" was first introduced in Satoshi Nakamoto's Bitcoin whitepaper in 2008 and has been used to describe the technology underlying everything related to cryptocurrencies, from DeFi and NFTs to memecoins. This article aims to explain the very basic concepts of blockchain technology and also the underlying principles upon which it is constructed. Let's get started!

Introduction

The purpose of blockchain technology is to provide a decentralized, censorship-resistant network for exchanging value (and other things we'll get to later) that places no restrictions on who can use the network or participate in maintaining it. The philosophy behind blockchain tech is rooted in the cypherpunk movement of the early 1990s - cypherpunks advocate for privacy in a digital age and against government and corporate censorship and surveillence. Cryptocurrencies are a real-world implementation of the ideas outlined in the manifesto above: blockchain tech lets two strangers anywhere in the world finalize a transaction between them securely and without anyone interferring.

You can think of Bitcoin as digital cash for the internet age.

From a technical standpoint, a blockchain is a decentralized database maintained by a network of independent computers called nodes. The purpose of this network is to allow its users to store and exchange value without having to rely on a 3rd party provider of such a service, like a bank or PayPal.

In crypto terms, we call this a trustless network - you don't have to trust anybody in order for your payment to be processed, the network functions without one central entity having complete control over what happens on the network. Read all about how that is actually achieved below.

How a Blockchain Works

Ledgers

At the core of every blockchain is a ledger, like one an accountant might keep, that details which account holds what value and the history of all transfers between accounts. Since there's no central authority that would keep these records, the current state of the ledger (all accounts and their balances) is stored on each node within the network - every computer that runs the blockchain software keeps a local copy of the accounting book.

If you want to send some money to your friend using a blockchain, you have to submit the transaction to the blockchain and the blockchain network has to process the transaction. But since there's no central authority that would decide which transactions get processed, how do the nodes in a blockchain network agree on which user transactions get processed and which ledger records get altered?

Consensus

To make this possible, every blockchain network implements what's called a consensus mechanism (sometimes you can also encounter the term consensus algorithm). As the name suggests, it is a set of rules programmed into the blockchain software whose purpose is to help all nodes participating in running the blockchain network reach consensus on which transactions are valid and can be processed and which are not. There are two major groups of consensus mechanisms - Proof of Work and Proof of Stake (there are also others but that's beyond the scope of this article). You can read more about them in our other articles.

Blocks

Nodes agreeing on every single transaction one-by-one would be unrealistic due to e.g. hardware and network limitations, so transactions (or, better said, ledger state changes) are neatly packaged together into so-called blocks - if the nodes reach consensus on a block, it is added to the previous block, which was added to the block before it, etc., creating a sequence, or a chain, of blocks - a blockchain. In addition to transactions, every block also contains the hash* of the previous block - this hash is unique to each block and is generated from data that includes all transactions inside that block - attempting to alter a transaction retroactivelly (to e.g. return money to your wallet after you've paid for something) would change the entire block hash and break the chain.

*a hash is the output of a cryptographic hashing function. If you change the input even slightly, you will end up with a different output hash. Different hashing functions produce hashes in different formats - for example, the output of SHA256, the most commonly used hashing function today, is a 64-character long hexadecimal string like this: 2cf24dba5fb0a30e26e83b2ac5b9e29e1b161e5c1fa7425e73043362938b9824.

The string above is actually what you get from SHA256 if the input is the word "hello".

In order to get away with your little scam and have your transaction reversed, the whole network would have to agree that your version of the blockchain (where nothing was deducted from your balance) is the correct one. Every blockchain is designed in a way to make malicious behavior like this economically unfeasible, the approaches differ but preventing situations like this is the goal.

Wallets, Addresses and Private Keys

Let's now talk about how this works at the user level. Every blockchain network's user has to have a wallet in order to send and receive coins. What we call a wallet in this context is based on public-key cryptography - every address on a blockchain network is a public key and has its own corresponding private key. We call this the key pair. The address (public key) and its contents (token balances, NFTs, etc.) is publicly visible and other people can send coins or other digital assets to it should they choose to, but only the owner of the private key corresponding to this public key can actually manage the assets on this address (and by manage, we mean approve actions such as sending coins to a different address).

The public key is the public address of your wallet. Its corresponding private key is used to generate signatures that confirm your ownership of the address to the blockchain and allow you to move coins.

There are two basic types of crypto wallets: hot wallets and cold wallets. The difference between them is that a hot wallet stores your private keys locally exposed to the internet and a cold wallet stores them completely offline and is much safer. Software wallets such as MetaMask, Exodus or Phantom are examples of hot wallets and hardware wallets such as the Lattice1 fall into the cold wallet category.

The root of every user wallet on a blockchain is what we call a seed phrase. The seed phrase is a string of 12/18/24 words taken from a specific list of words. This string is what the actual public and private keys we wrote about above are generated from and having access to this seed phrase allows you to recover the associated blockchain wallet. The seed phrase of your wallet is what you need to keep safe in order to protect your funds (which is most likely why you got a GridPlus hardware wallet).

Open Source

Just as a blockchain's accounts, ledger and history of transactions are visible to anyone who wants to look them up, so is the client software code and rules that describe how the network will operate. There is no trust in people or companies with a sound blockchain system, only an agreement in the rules and code that govern the possibilities on the blockchain. In the software world, we refer to publicly available programs like this as open source. All the code can be inspected by anyone who wishes to do so and all changes to the code require nodes to agree on them before they are implemented.

And there you go, this should give you a basic idea on what a blockchain is and how it works. You can read more about blockchain tech in the next article.