How Does Blockchain Work?
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How Does Blockchain Work?

written by John Murphy | March 10, 2023

Blockchain is a term that goes hand-in-hand with cryptocurrency. Technically speaking, blockchain is “a distributed database that maintains a continuously growing list of ordered records, known as blocks.” But, many would wonder, how does blockchain work?

In simple words, the word blockchain itself contains the answer. There are two words – block and chain. We call it a blockchain when numerous blocks connect to form a chain through cryptographic hashing.

However, it does not work that easily, as there are technical aspects and requirements to run a new blockchain successfully. Likewise, it is a decentralized, distributed public ledger that records transactions across multiple computers. Once the data recorded, you cannot alter it without altering the subsequent block.

Let us move forward and try to understand how blockchain works more efficiently.

Blockchain Working

The goal of blockchain is to record and distribute unaltered digital information. Thus, it becomes the foundation for immutable ledgers so that any transaction, once recorded, is final, and no one can alter it. Therefore the best blockchain ETFs are called DLT (distributed ledger technology).

Here is the process of how blockchain operates.

  • Step 1: New Transaction

Firstly, a new transaction enters into the blockchain network. Normally, these transactions pertain to adding new coins or buying tokens by traders across the blockchain-based bank. 

So, the blockchain starts working when any new transaction enters into the network.

  • Step 2: Transaction Transmission 

Upon receiving a new transaction, the network transmits this transaction across the globe through a network of peer-to-peer computers scattered across the world. Generally, the selection of a computer is random, and every live computer connected to the network to verify incoming transactions receives this information.

These computers are dedicated to verifying and completing incoming transactions.

  • Step 3: Transaction Processing

Once validating computers receive new transaction details, they process them by running programs to solve equations to confirm the transaction’s validity.

If the transaction is genuine, it will get approved by the validators, and the transaction will move to the next step.

  • Step 4: Creation of New Block

Once a transaction confirmed as legitimate, they get clustered together into blocks. These blocks, once created, are final and cannot be altered. Since these blocks connected, thus users have to alter every block to make changes in any particular block.

Therefore blockchain technology is hard to break into and widely accept across the crypto space.

  • Step 5: Recording Transactions

After the transaction is validated and approved, the next step is recording. The newly created blocks chains together to create a long history of fixed transactions.

  • Step 6: Completion 

The last step is completing the process; once the verified transaction records into a block, it completes the entire process and answers the question – how does blockchain work?

Each block saves information related to that transaction, including digital signatures, a timestamp and other related information. 

Key Elements of Blockchain Work

The cardinal feature of blockchain technology is its way of confirming and authorizing transactions. The blockchain has two critical elements – hash encryption and proof of work.

Let us discuss each one of them in detail.

  • Hash Encryptions

Hashing and encryption methods are used by blockchain to secure data. Numerous hashing algorithms exist, such as SHA256 (used by Bitcoin) and Keccak-256 (used by Ethereum and related cryptocurrencies).

Hashing algorithm secures the sender, and receiver’s address, private keys, and transaction details. The encrypted detail is called hash encryption and transmitts globally to the blockchain after verification. Hashing is the firewall against unauthorized access to the blockchain network.

  • Proof of Work

There are four main headers in a blockchain.

  • Previous Hash

It is the hash address located in the previous block.

  • Transaction Detail

Details of all the transactions that are in queue for verification.

  • Nonce

An arbitrary identification number is given to differentiate each block’s hash address.

  • Hash Address

Each transaction has a separate hash address, a combination of all of the above (i.e., transaction details, preceding hash and nonce). The hash address is in the form 64-character 256-bit address.

Pros and Cons of Blockchain

For all its complexities, Blockchain is a game changer for cryptocurrencies and their related structure. Since it is a decentralized and limitless ledger, thus no one can match its capacity. 

From privacy, heightened security, fewer errors and fast transaction speed, blockchain technology is the future of finance. However, there are a few shortcomings as well in the blockchain.

  • Pros
  • Private, efficient and secure transactions
  • Transparent technology
  • The decentralization nature makes it tough to tamper with
  • Improved accuracy
  • Cost reduction due to non-involvement of third parties
  • Offers an alternative to the traditional financial system
  • Banking the unbanked
  • Cons
  • Data storage limitations
  • Complex system
  • Illicit history of activities such as the dark web
  • Varied regulations across jurisdictions 
  • Significant upfront technology cost

Frequently Asked Questions

What is blockchain, in simple words?

In simple words, a blockchain is a ledger or shared database. Pieces of data stored in structures known as blocks. These blocks fixes, and no one can alter them once approved. So, these blocks store and secure transaction details.

What information does blockchain contain?

For instance, the Bitcoin blockchain stores information about the sender, receiver, date, time, digital signatures and number of Bitcoins transferred through a transaction.

What are the types of blockchain technology?

There are four major types of blockchain technology which include the following.

  • Public blockchains
  • Private blockchains
  • Consortium blockchain
  • Hybrid blockchains

Who invented blockchain?

Satoshi Nakamoto invented blockchain while launching the first cryptocurrency – Bitcoin.

Parting Thoughts

Blockchain technology is the heart of cryptocurrency; thus, knowing how blockchain works are key to better understanding the crypto world. Simply put, the blockchain validates, approves and stores transaction information.

Multiple blockchains are operating in the crypto world, each hosting different cryptocurrencies. For instance, Bitcoin uses the SHA-256 blockchain to record its daily transactions. 

Moreover, blockchain technology is decentralized, secure, speedy, and efficient. Thus, it is challenging the traditional financial system and has shaken it up. The major advantage is its ability to secure unalterable data. So, when any transaction finalizes, no one can change it.

We hope you now know how does blockchain work. Please leave feedback in the comments section. Adios!