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Ira P. Rothken

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How Do Blockchains Work?

September 12, 2017

Individual transactions are signed by a long number called a private key. A matching public key allows the transaction to be decoded and verified as authentic, but does not allow new transactions to be created. Only the owner of the private key can encode new transactions. Groups of these transactions are assembled by a peer-to-peer computer network, and shared with all computers in the network.   Every computer in the distributed network maintains a copy fo the entire blockchain so that any transaction can be verified against prior transactions. Blockchains are composed of blocks of transaction records which use encryption techniques to verify authenticity, and integrity, of each record. Blocks in a Blockchain block are groups of transactions, which give the electronic addresses where units of the currency came from, and where they were sent to. These blocks of transactions are encrypted via an algorithm that involves the use of public and private keys. The transactions are signed with a hard to discover hash number, through solving a cryptographic puzzle, in a process called mining. This hash connects a new block of transactions with the previous block. The individual who discovers the hash number is awarded by claiming a transaction fee associated with the block of transactions being signed. Currently each new block of transactions awards the finder of the hash number with the creation of a small amount of the cryptocurrency, and a priority mechanism allows individual transactions to also include an additional transaction fee that goes to the miner. Any individual can be a miner by running mining software on their computer, which allows their computer to participate in the discovery of these hash numbers. Often individual miners participate in mining pools, where the computer power is combined, and the reward is split among the individuals according to the amount of computing power contributed to the effort. The difficulty of creating these numbers, and the reward, is adjusted depending on the number of miners available, and this acts as a throttle on runaway creation of the cryptocurrency, and only allows a certain amount of cryptocurrency to be created per unit of time. Adjustments to the difficulty can encourage miners to choose mining for one blockchain (and associated cryptocurrencies) over another, based on estimated profitability of the rewards.  This process of signing a block of transactions ensures that it can not be later changed, and this is called confirmation. After a block is confirmed, it is sent to all the other machines in the network, and becomes part of the Blockchain maintained by all of the peer-to-peer network.  These units of currency are recorded and transferred independently of any central bank, and their values are not pegged to any physical asset or currency.  There are various online exchanges that specialize in trading between different cryptocurrency pairs, and with trading between cryptocurrencies and real world government issued money.

 

 

 

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