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June 5 2018

What is blockchain?

Industry Insights

Mary Bonsor

Mary Bonsor

What is blockchain?

Blockchain is the driving force in digital disruption and is the technology behind bitcoin and other virtual currencies, however there is still much confusion behind it. This article aims to debunk the misconceptions around blockchain and provide a holistic view over it.

What is blockchain?

At its core blockchain is simply a ledger which records tranasctions. Ledgers are nothing new and have been around since the 13th century, however the key difference is that blockchain operates on a distributed, peer-to-peer open ledger whereby all transactions are recorded and irreversible. This distributed ledger technology (DLT) operates using an algorithm which cannot be reversed once a transaction has been recorded ensuring transparency. Blockchain itself emerged as a potential solution to the inefficiencies and existing market friction, caused by anything that impedes the exchange of assets such as costs or delays, taxations, regulation, bureaucracy, fraud and the involvement of intermediaries and therefore proclaiming a decentralised organisational structure. Blockchain eases interaction friction because it removes barriers between participants in a transaction. On a blockchain for business network, participants exchange assets directly without having to process the transaction through intermediaries or a central point of control. 

How does blockchain work?

In a blockchain enabled digital transaction, the record of the transaction is grouped together in a cryptographically protected block with other transactions and sent out to the entire network. This block of transactions is then timestamped and added to a chain in a chronological order- hence the name blockchain. Each of these blocks contains a ‘hash’ which is a unique identifier, and the previous block hash links the blocks together and this is what binds the blocks together. This authenticates the block and strengthens verification, making it almost impossible to tamper with. With each new transaction, the blockchain also grows thus creating an extensive ongoing chain. What blockchain does not do however is 'disrupt' technology because it is a founding technology which means that it is not designed to change systems but to create an entirely new system of recording transactions upon which it can be further built on.  

Blockchain has the following four key concepts:

  • SHARED LEDGER - This avoids duplicate records being made and as it records all transactions across the business network, this is the source of the entire system. In bitcoin for business, participants have identities linked to the transactions, therefore they can choose the transaction information that other participants are authorised to view. This goes a step beyond the publicly available bitcoin transactions.

  • SMART CONTRACT - is an agreement or set of rules that govern a business transaction; it’s stored on the blockchain and is executed automatically as part of a transaction.Clauses in these contracts could be made partially or fully self-executing or self-enforcing, or both. For example a trigger event may occur and this contract will then self execute such as a travel insurance where a flight is delayed by more than six hours.

  • PERMISSIONS - blockchains can be permissioned or permisionless, which enables the use of policies to constrain network participation, which can then be more easily complied with data protection regulations. Unlike the banking system where we can only know our own transactions and account balances, blockchain allows everyone to see all other transactions, subject to the permissions being enabled.

  • CONSENSUS - there are various agreements including proof of stake, multi-signature agreements where the majority of validators must agree that a transaction is valid and Practical Byzantine Fault Tolerance (PBFT) which is an algorithm to settle disputes among computing nodes (network participants) when one node in a set of nodes generates different output from the others in the set.

Blockchain, Bitcoin and Crypto

These concepts are most commonly confused, however the best way to understand the difference is by comparing blockchain to an operating system such as Mac or Windows on which numerous apps can function, such as Bitcoin. Blockchain is the underlying technology that f acilitates and enables the successful running of Bitcoin and such similar cryptocurrencies. Bitcoin was what propelled the technology of blockchain in the first place, and since then hundreds of other cryptocurrencies have emerged and are set to take over currency as we know it. We are all now used to sharing information through a decentralised online platform, the internet, but when it comes to transferring money- we are usually forced to fall back on old fashioned, centralised financial establishments like banks. Cryptocurrencies apply the consensus element as outlined above, because the consensus-keeping process is secured by strong cryptography- which is where the name CRYTPOcurrencies came from. Crytpocurrenceis retain monetary properties similar to that of real currency such as a controlled supply of tokens in circulation. The monetary supply can therefore be calculated and there is no surprise of the amount of cryptocurrency available. This takes away from any central institution and the power to manipulate inflation or deflation which central banks have.     

Blockchain can be used to store any sort of digital information, and the potential of it is immense and could span across several industries. It could be particularly beneficial for financial services such as trade finance, commercial finance, cross-border financial transactions, insurance as well as supply-chain management, health care and government. 

Blockchain and the Law

Despite the benefits and advantages as discussed above, there are still many hurdles and challenges facing blockchain. The main concerns include security, regulation and synchronisation. In regard to regulation there are many questions yet to be answered, including who validates these transactions, who admits new participants to the blockchain, authentication and verification of participants and so on. Blockchain must interact with other operational processes in an efficient and cost effective manner, and this requires synchronisation which is yet to be perfected and therefore may defeat the fundamental purpose of blockchain entirely if this cannot be achieved. The most recent development includes 22 of the 31 EEA member states, including the UK, signing a declaration on the establishment of a European blockchain partnership. This partnership is set to be a vehicle for exchanging experiences and expertise in technical and regulatory fields in repatriation of blockchain applications across the Digital Single Market for benefitting both private and public sectors. The first cross-border actions are set to launch by the end of 2019. 

Blockchain in the context of GDPR

The fundamental concept of blockchain is that every transaction is recorded, and thus irreversible and 100% traceable. This clashes directly with the General Data Protection Regulation (GDPR) which provides consumers with the right to be forgotten. GDPR is an enhanced regulation protecting 'data subjects' and increasing existing data subject rights under the EU Directive, which extends to erasing personal data, restricting data processing under certain circumstances and data portability under certain circumstances. 'Data controllers' also have heightened obligations relating to data subject rights and must take these steps to help facilitate the exercise of data subject rights. Businesses must comply with the general requirement of the GDPR and must demonstrate their compliance in order to avoid sanctions including fines of up to €20milion or 4 percent of global revenue, which may discourage business from heavily pursuing a blockchain strategy. GDPR does not prohibit blockchain, however business using the blockchain technology must develop a mechanism in order to ensure that an individual may be disassociated from their blockchain contributions. However individuals opting into blockchain must beware as there is no authority that stands as of yet to amend or correct a block once it is incorporated into the chain. On a private (permissioned) blockchain, it may be easier to ‘rewire’ the data held on the network by creating a fork, which includes changes and allows use of a new route of the change, however on a public blockchain this may be nearly impossible. From a blockchain perspective, GDPR is essentially already out of date, and seems that regulation is playing catch-up with technology.