Figure 1-2 shows the concept of how blockchains come to agreement.
FIGURE 1-2: How blockchains work.
Each blockchain has its own algorithms for creating agreement within its network on the entries being added. There are many different models for creating consensus because each blockchain is creating different kinds of entries. Some blockchains are trading value, others are storing data, and others are securing systems and contracts.
Bitcoin, for example, is trading the value of its token between members on its network. The tokens have a market value, so the requirements related to performance, scalability, consistency, threat model, and failure model will be higher. Bitcoin operates under the assumption that a malicious attacker may want to corrupt the history of trades in order to steal tokens. Bitcoin prevents this from happening by using a consensus model called “proof of work” that solves the Byzantine general’s problem (which we discuss further in Book 6, Chapter 1): “How do you know that the information you are looking at has not been changed internally or externally?” Because changing or manipulating data is almost always possible, the reliability of data is a big problem for computer science.
Most blockchains operate under the premise that they will be attacked by outside forces or by users of the system. The expected threat and the degree of trust that the network has in the nodes that operate the blockchain will determine the type of consensus algorithm that they use to settle their ledger. For example, Bitcoin and Ethereum expect a very high degree of threat and use a strong consensus algorithm called proof of work. There is no trust in the network.
On the other end of the spectrum, blockchains that are used to record financial transactions between known parties can use a lighter and faster consensus. Their need for high-speed transactions is more important. Proof of work is too slow and costly for them to operate because of the comparatively few participants within the network and the immediate finality needed for each transaction. They also do not need a token or cryptocurrency to incentivize transaction processing. So, they eliminate these components from their system, which enables them to run faster and cheaper than PoW systems. You can learn more about PoW and PoS algorithms in Book 6, Chapter 2.
Blockchains in Use
Thousands of blockchains and blockchain applications exist today. The whole world has become obsessed with the ideas of moving money faster, incorporating and governing in a distributed network, and building secure applications and hardware.
You can see many of these public blockchains by going to a cryptocurrency exchange, which we explore further in Book 5, Chapter 3.
Figure 1-3 shows the altcoin exchange for Poloniex (https://poloniex.com), a cryptocurrency trading platform.
Blockchains are moving beyond the trading value market and are being incorporated into all sorts of industries. Blockchains add a new trust layer that now makes working online secure in a way that was not possible beforehand.
FIGURE 1-3: The altcoin exchange platform.
Current blockchain uses
Most up-and-running blockchain applications revolve around moving money or other forms of value quickly and cheaply. This includes trading public company stock, paying employees in other countries, and exchanging one currency for another.
Blockchains are also now being used as part of a software security stack. The U.S. Department of Homeland Security has been investigating blockchain software that secures Internet of Things (IoT) devices. The IoT world has the most to gain from this innovation, because it’s especially vulnerable to spoofing and other forms of hacking. IoT devices have also become more pervasive, and security has become more reliant on them. Hospital systems, self-driving cars, and safety systems are prime examples.
Initial Coin Offerings (ICOs) are another exciting blockchain innovation. They’re a type of smart contract that allows the issuer to offer a token in exchange for investment funds. Often used as a non-dilutive fundraising option, entrepreneurs globally have raised billions of dollars. Governments and regulators have been quick to crack down on ICOs. The tokens may be unlicensed securities, and the offering may be defrauding investors. Nonetheless, the technology is impressive even if compliance issues are still being addressed.
One of the fantastic innovations inherent in ICO tokens is that they’re a self-clearing and self-settling instrument. In the current system for trading securities, two types of clearing agencies exist: clearing corporations and depositories. Clearing corporations audit transactions and act as intermediaries in making settlements. Depositories hold securities certificates and maintain ownership records of the securities. Blockchains perform both of these functions for tokens without needing third parties to audit and retain possession of the assets. You can learn more about ICO tokens in Book 4, Chapter 2, and about investing in ICOs in Book 5, Chapter 6.
Future blockchain applications
Larger and longer-run blockchain projects that are being explored now include government-backed land record systems, identity, and international travel security applications.
The possibilities of a blockchain-infused future have excited the imaginations of business people, governments, political groups, and humanitarians across the world. Countries such as the U.K., Singapore, and the United Arab Emirates see it as a way to cut costs, create new financial instruments, and keep clean records. They have active investments and initiatives exploring blockchain. For information about how blockchain is fueling the economy of the future and why that may influence your decision to consider investing in cryptocurrencies, see Book 5, Chapter 1.
Blockchains have laid a foundation where the need for trust has been taken out of the equation. Where before asking for “trust” was a big deal, with blockchains it’s small. Also, the infrastructure that enforces the rule if that trust is broken can be lighter. Much of society is built on trust and enforcement of rules. The social and economic implications of blockchain applications can be emotionally and politically polarizing because blockchain will change how people structure value-based and socially based transactions.
Chapter 2
Picking a Blockchain
IN THIS CHAPTER
