02 JAN 2018

Blockchain: what it is and how it works

Blockchain is a distributed database, structured in network nodes or “blocks” connected to each other – “chain”. Thanks to this chain it is possible to make, manage and keep track of the transactions that are carried out on the network.

Blockchain is a paradigm that is taking more and more space in various sectors. Thanks to its characteristics, it can create added value and at the same time it allows you to keep track of various transactions.

Blockchain, what are the characteristics of the transactions

Transactions are unmodifiable unless the change is submitted and approved again by all the nodes in the network. The immutability of the data contained in the Blockchain is one of the main features of this technology. Another feature is the fact that a series of cryptographic tools are used to guarantee maximum security for each transaction.

Being a distributed database means that there is not a single database that contains the information, but these are simultaneously on all the computers connected to the network and can be accessed quickly. Since there is no central authority, a relationship of trust is established between all the subjects involved and none of these can impact the others.

Each block memorizes a transaction, this block contains a “timestamp” that records the time and the date of the transaction. In addition to this timestamp there is also the hash (that is a non-invertible computer algorithmic function that maps an arbitrary length string in a predefined length string) of the previous block and thanks to this hash, the new block is connected to the previous, and block after block, a chain forms.

Basically, Blockchain works like this: 2 people are doing a transaction, all the information related to this is inserted in the network, the hash and the timestamp included. Now this block must be verified and finally approved. Once approved, it is added to the chain of blocks that already exists in Blockchain and becomes, like all the other blocks, accessible at any time and no longer modifiable.

Blockchain and bitcoin: what relationship exists?

Many confuse Bitcoin with Blockchain considering them synonymous, but it is not like that. However, there is a correlation between them: Blockchain is the technological paradigm that allows the functioning of the mechanisms that regulate transactions in cryptocurrencies. Bitcoin is the most famous cryptocurrency.

Bitcoin transactions are not managed by banks, as is the case of traditional currency, in fact bitcoins are issued and managed directly by the network thanks, in fact, to Blockchain technology. If a user wants to transfer bitcoins from his wallet (the digital wallet in which his bitcoins are stored) to that of another user, the transaction can be done thanks to Blockchain technology. All information related to this transaction, and in general to any bitcoin transactions, are saved in Blockchain so that they can always be consulted. However, the balance of individual user accounts is not saved on the network: to know how many bitcoins a single user has, it is necessary to reconstruct the entire history of the transactions.

Blockchain and banks: reciprocity or conflict?

Why is it said that Blockchain is undermining the monopoly of banks in monetary transactions?

Traditionally in monetary transactions, banks have always played an important role. People go to the bank, open their own bank accounts into which they deposit or withdraw money.

If a person (the buyer) wanted to buy a property from another person (the seller), the role of the bank was checking whether the buyer has the necessary sum. As a result, 3 subjects are involved in the transaction: the buyer, the seller and the bank. The seller trusts the buyer because he knows that there is a bank behind him which guarantees and checks that everything is done correctly. Only the account holder has access to the information about the account and when engaged in the purchase of goods, the bank guarantees that the person actually has the sum necessary for the acquisition. Therefore, the bank has always played an extremely important role which could not be substituted, but with the arrival of Blockchain technology the situation has changed. Even with this technology the transactions are recorded, as happens in the bank, what is missing, is the control and authorization for a transaction by a central institution. In addition, there is not one single register with all the movements by that central institution, however, all users involved in Blockchain have a copy of the register.

How is the banking world responding to this innovation?

Banks must deal with this new situation and instead of hindering it, they will have to find a way to take advantage of it. First of all, by using Blockchain technology, banks and financial institutions could lower costs and make transactions safer and at the same time they could increase the level of traceability.

Many banks are trying to incorporate this technology into their strategies: Barclays and USB, for example, think they can use it in money remittances and in contracts; UniCredit is also carrying out a series of investments in the field. In addition, there is “R3”, a consortium with over 60 financial institutions interested in the potential of Blockchain. This includes, for example, Intesa Sanpaolo, Ntixis, Nomura, the BMO Financial Group, Danske Bank and Banco Santander. Of course, there is still work to do on Blockchain Technology, especially on the security side: the main feature of Blockchain technology is the fact that everyone can see the information contained in the various transactions, so it is necessary to find a way to ensure that each user can see only the operations that concern that user, perhaps through credentials, so that the secrecy of the data can be maintained.

Elaborated by Lucia D’Adamo, in collaboration with Roberto Piccirillo, supervised by Marco Pirrone