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What is Blockchain? An Inside Look At The Transaction Revolution.

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What is Blockchain? An Inside Look At The Transaction Revolution.

blockchain
September 29th, 2017 by Peter Wokwicz
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By this point, many people have heard about “the blockchain” or, at the very least, about Bitcoin, which was the first mainstream use of modern blockchain technology. Today, blockchain tech has moved far beyond Bitcoin into practical and planned uses that are already changing the future of currency, transactions, contracts, capital raising, and other areas. If you are not already, in the near future, you will use blockchains many times a day, whether you realize it or not.

So what is blockchain, exactly, and why is everyone talking about it? Put simply, it is a distributed transaction ledger that eliminates the need for a trusted central party to facilitate digital transactions. Though we’re still at the beginning of blockchain’s mainstream adoption, its interwoven components of security, openness, and distribution makes it one of the greatest innovations of the digital age.

In this article, I’ll focus on the uses, threats, and future of blockchain tech and how it will impact your business and personal domains.

What is blockchain used for?

There are a few applications where blockchain technology is currently in use.

Enabling cryptocurrencies and cryptoplatforms

Cryptocurrencies are the best-known blockchain application. Though digital currencies existed well before—for instance, in online in-game currencies that could be exchanged for real assets outside of the game—blockchain’s release in 2009 powered the explosive growth of Bitcoin, the first blockchain application to earn widespread public attention. In doing so, blockchain tech has already disrupted the massive market of money.

Calling Bitcoin and its so-called altcoin siblings “cryptocurrency” is actually somewhat misleading. In fact, the currency function is usually designed to help fund development and incentivize the mining and use of whatever innovation lies behind it. Cryptocurrencies are distinguished by their underlying blockchain innovations, which is why I prefer to use the term “cryptoplatform” as the general term.

At my last count, there are over 1,200 different cryptoplatforms in existence right now, and another handful are being created each week.

Blockchain innovations succeed or fail by adoption. They fail for the same reasons that any new technology might fail, e.g., poor product-market fit, inadequately executed development, insufficient marketing and communications, and so on.

However, hundreds succeed with innovations in areas like:

When it comes to the future of blockchain tech, cryptoplatforms are one of the most important areas to watch. The march of creativity and ideas is exponential, and large financial institutions and technology companies have only just begun to work on their own cryptoplatforms.

Powering payments and investments

In a perfect world, we would be able to send or receive money:

  • To any person or business in the world
  • Securely
  • Digitally
  • Instantly
  • Without intermediaries

… and pay almost no transaction fees.

Though governmental restrictions still exist, the currencies that run on top of blockchains could make that nearly perfect system possible.

Already, there are businesses that pay salaries to their employees directly with cryptocurrency, companies that make foreign invoice payments and international transfers using Bitcoin, and major ecommerce companies and retailers that accept some of the popular cryptocurrencies.

Why? Because it enables powerful new payment dynamics. Some of the newer cryptoplatforms, for instance, allow users to attach specific conditions to a payment that must be met before it is released. That simply isn’t possible with any national currency without the hassle of escrow accounts and pages of contracts and manual enforcement of those contracts.

As government restrictions are modernized, technologies are perfected, and cryptocurrency exchange rates become less erratic, we will quickly see cryptocurrencies become a common method of storing and exchanging value. That, in turn, means real pressure will be put on the traditional national currency model most countries have in place today.

Within the next 12-18 months, we’ll see a national government issue a cryptocurrency. It may only be to raise money or satisfy a unique need, but it will bring cryptocurrencies one step closer to becoming a fiat currency.

Facilitating contracts

Contracts are another area where blockchain is powering important innovations. Ethereum was the first cryptoplatform to focus on smart contract development and facilitation. The Ethereum blockchain is essentially an open software platform that allows for the creation and deployment of decentralized applications. Since its release, other cryptoplatforms have tried to improve on its features, but Ethereum dominates this space. In fact, it might soon overtake Bitcoin as the largest cryptoplatform.

What’s so powerful about blockchain contracts? Imagine you’re creating a new royalty agreement:

  • Party #1 has a product royalty agreement for each sale of a product by party #2. Party #1 will get paid $1 USD for each product party #2 sells.
  • A smart contract goes out five days after the end of each financial quarter and looks up the total number of products sold from party #2’s inventory system.
  • The contract then automatically transacts the payment due to party #1 five days after the close of the quarter.

The smart contract could be viewed and validated by the public without identifying the two parties. That’s because the smart contract code and logic on the Ethereum blockchain acts as the full contract. This removes legalese and manual intervention of a traditional contract and replaces it with logical and self-fulfilling “if-then” code.

The big risk with contracts on Ethereum is that a contract is essentially an independently developed application and can get very complex. It’s not difficult for bugs or security flaws to slip through the cracks. These flaws pose little risk to the general Ethereum blockchain, but if an Ethereum application is breached, the ether—as the currency of Ethereum’s blockchain is known—related to that contract can be lost or stolen. This has happened at least three times to applications on the Ethereum network within the last 18 months, resulting in millions of ether being lost.

What might threaten blockchain’s success?

Though blockchain’s adoption is growing, the technology still has plenty of skeptics and detractors. Here are some of the factors they argue will threaten its success.

Quantum computing

Quantum computing uses quantum states to greatly increase processing power; early systems already exist. And though it will take years, quantum computers may one day be able to do what was always thought to be mathematically impossible: crack our most advanced encryption methods. Much of blockchain tech utilizes and depends on this advanced encryption. Many naysayers therefore bring up this argument to put a damper on the long-term prospects of blockchain tech.

Could quantum computing be the end of the blockchain? It’s not likely. Most blockchain tech utilizes SHA-256 encryption, which is on par with the encryption used by the most sensitive digital information today. If quantum computing can break SHA-256, you won’t be able to purchase anything over the internet, and nothing that is in the digital world would be secure any longer. There are mechanisms in place for the developers of any cryptoplatform to quickly upgrade the platform with the best and latest encryption technologies. Given how important it is, I’m confident that encryption technology will continually remain far ahead of what a quantum computer could crack.

Politics

Blockchain, by definition, is distributed and does not exist in one spot or even in one country. So who has jurisdiction on a blockchain? Is cryptocurrency considered “on your person” at all times, no matter where you are?

The United States Government has become a particularly large hindrance to widespread blockchain adoption. The IRS has declared that cryptocurrency a property asset that falls under capital gains and losses provisions. This creates the odd situation where, if you were to buy even a cup of coffee with a cryptocurrency, you would be required to calculate a capital gain or loss on that transaction and report it to the IRS.

To make the situation even more confusing, the U.S. Department of the Treasury, SEC, and FBI treat cryptocurrency NOT as property, but as a type of regulated currency, meaning that anybody who deals in cryptocurrency needs to meet all FinCEN laws, Bank Secrecy Act reporting, and SEC requirements. Because of this, the FBI has arrested individuals and has shut down businesses for nothing other than exchanging cryptocurrency for USD with other individuals. Most foreign cryptocurrency exchanges, to avoid being shut down by the U.S. government, allow anyone in the world to trade on their exchanges except U.S. citizens.

Japan, South Korea, and several other countries are way ahead, and have officially declared cryptocurrencies as a currency exempt from many regulations. The U.S. has already lost momentum in the Blockchain space as activity shifts to other countries.

Thankfully, two things are happening. First, though their public statements may differ, most financial executives now recognize the threat blockchain poses to their current business model, and have started to embrace blockchain tech and work on their own implementations. I know employees at almost every major financial institution who are involved in teams that are either investigating the use of existing cryptoplatforms or attempting to build their own. This makes it inevitable that within the next year, a few major international banks will release new blockchain technologies. Second, the U.S. Congress is contemplating a bill that would exempt cryptocurrencies transactions under $600 USD from many of the federal regulations and remove it as a taxable asset. These may be small and incomplete steps, but they bode well for blockchain’s political future.

Lack of intrinsic value

Cryptocurrencies, like most national currencies, are not backed by anything other than what you might call the “full faith” and usage of their underlining blockchains. Financial experts like Alan Greenspan and Paul Krugman have criticized them for having no real value.

It’s true there’s no central bank for blockchain. That doesn’t mean it’s without value.

For example, Ethereum’s currency, Ether, is the required currency for users of Ethereum contracts. If Ethereum contract usage rises, so, too, does demand for ether. Ether’s intrinsic value is created by the need to use Ether for the features of the Ethereum blockchain.

Another example is Monero, whose blockchain can create untraceable transactions—unlike, say, many types of USD denominated transactions. That feature creates Monero’s value and drives its adoption.

Money laundering

Will the fact that bad actors prefer cryptocurrency’s perceived anonymity limit the technology’s adoption?

On this point, some perspective is needed. The current total market cap for all cryptocurrencies is around $150 billion USD; the largest movers are now hedge funds, crypto traders, and financial institutions. If we estimate that cryptocurrencies are involved with even 5% of the market cap involved in nefarious activates, it comes out to $8 Billion USD. That’s still a fraction of the current extrapolated $1.5 – $3.8 Trillion USD that the International Monetary Fund estimates is involved in money laundering. Also, if cryptocurrency weren’t available, bad actors would simply select another method or currency.

Hard forks

A hard fork is permanent divergence of a blockchain. Essentially the blockchain, at certain point in time, splits into two fully separate paths instead of one. Hard forks have happened, most recently, to Bitcoin, and previously to Ethereum.

The recent hard fork for Bitcoin created Bitcoin Cash, which was NOT fully supported by the general Bitcoin community, but did offer a solution to some of Bitcoins performance bandwidth limitations. Bitcoin Cash today is left as only a minor cryptoplatform, inferior to Bitcoin in price, popularity, and use.

With Ethereum, the hard fork was a result of the Ethereum’s core developers’ efforts to recover funds stolen through a breached Ethereum contract. This fork WAS supported by the community and resulted in a new blockchain that became “Ethereum” as we know it today. Ethereum Classic was left over and still exists, but is inferior in price, popularity, and use.

Will hard forks continue to occur? Undoubtedly. In fact, a few material forks are already scheduled for late 2017. But we have not seen these hard forks destroy any cryptoplatform. The hard fork is a way for the community to vote on the direction the cryptoplatform is going in if there are disagreements. The community will support a fork when it believes it’s best for the cryptoplatform and/or their own pockets. Essentially, democracy is part of the blockchain process.

51% attacks

A 51% attack happens when a cryptoplatform miner or collusion of miners obtain more than 50% of a specific blockchain’s network mining power. If this occurs, a single miner has the power to manipulate the transactions on that blockchain. But there’s a difference between controlling more than 50% of a blockchain’s mining power and the launch of a 51% attack. In 2014, a single mining pool did briefly reach 50% on the Bitcoin blockchain, but it did not result in a 51% attack. In general, transaction manipulation would only hurt the value of the blockchain—irrational, from the perspective of a miner so heavily invested in its success. A 51% attack would also not change any history in the blockchain and would only limit and possibly corrupt some future transactions.

Fortunately, the large, established, blockchains are well distributed today.

What’s the future of blockchain technology?

Blockchain is evolving rapidly. Here are a few uses that will become more prevalent in the near future.

Accounting and auditing

Blockchain ledgers contain an authoritative history of all their transactions. This makes them an ideal method of accounting and auditing, especially when a non-anonymous cryptocurrency is utilized for all receipts and payments. What if all government transactions were available for its citizens to see? What if businesses could maintain instantly accessible private or public ledgers for review and/or auditing? Blockchain accounting is possible with existing technologies, and a couple non-profits are already discussing its use.

Fiat currency

As I mentioned earlier, we will see the first government created cryptocurrency within the next 12-18 months. However, I don’t expect it to be used as the country’s fiat currency. But within the next few years, I predict we will see a blockchain-based fiat currency, because blockchain resolves many of the costs and inefficiencies involved with issuing and maintaining traditional paper fiats.

Off-blockchain transactions

Off-blockchain transactions are transactions that can be approved without being immediately written to the blockchain ledger. This is very similar to the way credit cards work. When you use a credit card, the processing company guarantees a transaction before any money is transferred. So rather than waiting for the blockchain to confirm a transaction, a blockchain payment processor will guarantee the transaction before it is replicated.

Although it negates many of the hallmarks of the perfect money system, off-blockchain transactions also make transactions faster, and in fact, there are already some companies that operate this way for small transactions.

International money transfer

Cryptocurrencies take seconds, not days, to transfer. They are already being used behind the scenes by a few services to save time and fees on international interbank transfers. As regulations catch up, it will become much easier and cheaper to execute these transfers, and both companies and individuals will no longer see a need to quickly exchange the cryptocurrency for a local fiat currency.

Public records

The blockchain is a perfect fit for most public records and processes, from digital voting and company formation to land ownership, patents, and more. Once the first few record systems move onto the blockchain, an avalanche will follow. Not only will this reduce the cost of administering these records, but, if implemented under the open decrees of blockchain tech, it will reduce corruption and increase transparency.

Raising capital and executing trades

Blockchain tech is already being used for initial coin offerings (ICOs); there have also been a few examples where blockchains have been used for company stock issuance. Next, we’ll see blockchains be used for clearing equity, futures, bond, and other traditional financial market transactions, thanks to the increase in transparency and security. Eventually, blockchain may spell the demise of centralized exchanges, as decentralized peer-to-peer exchanges are developed and take hold for various commodities.

Supply chain

One under-anticipated but powerful future application of blockchain is for tracking product, agreements, and inventory through the supply chain process. If we set up a blockchain whose primary entity is a product, the product could then be tracked through its completion, distribution, sale, and ongoing maintenance, all through a single blockchain. What’s more, this blockchain could also record all pricing, inventory tracking, shipment info, metadata, payments, and contractual terms between each supply chain party.

Blockchain’s bottom line

Thanks to its ability to streamline transactions and increase transparency, Blockchain technology will go down as one of the biggest transformations of our age. Look for it soon in a service or application wherever you work and live.

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Peter Wokwicz

Peter Wokwicz is a senior IT consultant and executive who helps companies overcome complex challenges and stay ahead of IT industry trends. He's helped BTG clients by leading their IT departments and technology planning, implementing enterprise-wide content and asset management systems, and creating robust eCommerce, POS, CRM, and organizational strategies.

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