Building Blockchains: An Introduction to a Burgeoning Technology
Bitcoin, Ethereum, Ripple – search for any of these and you’ll discover people proclaiming them as solutions to almost any problem imaginable, and critics who imagine them as fool’s gold. Behind each of these technologies is an ingenious idea, called the blockchain. Much like cloud computing has changed how businesses operate, the blockchain is expected to revolutionise finances and business contracts.
What’s a blockchain?
The blockchain is a digital public ledger, much like an accountant would use, but on a massive scale. A public ledger is one whose information is held across computers, and updated simultaneously.
In the context of Bitcoin, the ledger records every transaction of Bitcoin. The ledger is open to view, and permanent, meaning that anybody with the know-how can trace the movement of any one Bitcoin.
The novelty of the blockchain is that there is no central authority that holds court over this process. Instead, the ledger, as a whole, is maintained by the community that uses the technology. With a digital currency, like Bitcoin, this means that fraud is made almost impossible (unless, of course, you’re actively misled).
Where are blockchains being used?
Bitcoin is the most famous application of the blockchain. Bitcoin is a crypto-currency – people can use it to purchase goods and service. When someone requests a transaction, this request is transmitted across the Bitcoin network to each computer on it. The network then validates the transaction using previously stored information – this guarantees that this is a legitimate and possible transaction given the user’s Bitcoin holdings.
Once this transaction has been verified, its information is bundled together with other transactions – this bundle of data is called a block. The block is then added to the existing record of other blocks – the blockchain. Once a block has been added to the blockchain, it is there permanently, as the record of the transaction is confirmed by the network as a whole.
Bitcoin aside, the largest public use of blockchain is Ethereum. Ethereum uses the blockchain for so-called smart contracts. The idea is that Ethereum can creating financial agreements between people that are binding, and enforced wholly by the Ethereum software.
Once these agreements are initiated and run, they are binding. This means that there is no need to involve courts and lawyers, reducing the legal cost burden. The potential for Ethereum is quite significant – decentralised ‘virtual’ organisations are being imagined, in which the company’s path is voted on and directed by shareholders – a truly anti-hierarchical organisation.
Ethereum’s most public failure happened earlier in 2016, when an organisation founded on the Ethereum base, the DAO (Decentralized Autonomous Organization) was brought to its knees by a nefarious transaction. A DAO user exploited a loophole in the coded contract to siphon off over $50m. The result was that the DAO, through popular vote, redacted transactions following the siphoning, in a much-criticised move, called a ‘hard fork’.
This action essentially did what shouldn’t be possible – it reversed the ledger. The action was taken to save the DAO as a whole from a particularly self-defeating contract on its books, but in doing so it raised questions about whether the DAO, on the Ethereum network, had undercut its raison d'être. Though this may have long-standing consequences for the DAO, this action hasn’t undercut the importance of the blockchain as a technology.
Blockchains are a nascent technology, and it’s still to be seen how the technology will develop. Accountants should be keeping a close eye on the advance of blockchain technology, as the alternative approach to recording financial transactions could lead to fundamental changes in the industry.