Blockchain Basics: Understanding Distributed Ledgers

A blockchain is a digital ledger of transactions that are distributed across the entire network of computers (or nodes) on the blockchain. Distributed ledgers use independent nodes to record, share, and synchronize transactions in their respective electronic ledgers instead of keeping them in one centralized server. A blockchain uses several technologies like digital signatures, distributed networks, and encryption/ decryption methods including distributed ledger technology to enable blockchain applications.

Blockchain is one of the types of DLT in which transactions are recorded with an unchangeable cryptographic signature called a hash. That is why distributed ledgers are often called blockchains.

What is Distributed Ledger Technology (DLT)?

Distributed Ledger Technology (DLT) is centered around an encoded and distributed database where records regarding transactions are stored. A distributed ledger is a database that is spread across various computers, nodes, institutions, or countries accessible by multiple people around the globe.

Features:

  1. Decentralized: It is a decentralized technology and every node will maintain the ledger, and if any data changes happen, the ledger will get updated. The process of updating takes place independently at each node. Even small updates or changes made to the ledger are reflected and the history of that change is sent to all participants in a matter of seconds.
  2. Immutable: Distributed ledger uses cryptography to create a secure database in which data once stored cannot be altered or changed.
  3. Append only: Distributed ledgers are append-only in comparison to the traditional database where data can be altered.
  4. Distributed: In this technology, there is no central server or authority managing the database, which makes the technology transparent. To counter the weaknesses of having one ledger to rule all, So that there is no one authoritative copy and have specific rules around changing them. This would make the system much more transparent and will make it a more decentralized authority. In this process, every node or contributor of the ledger will try to verify the transactions with the various consensus algorithms or voting. the voting or participation of all the nodes depends on the rules of that ledger. In the case of bitcoin, the Proof of Work consensus mechanism is used for the participation of each node.
  5. Shared: The distributed ledger is not associated with any single entity. It is shared among the nodes on the network where some nodes have a full copy of the ledger while some nodes have only the necessary information that is required to make them functional and efficient.
  6. Smart Contracts: Distributed ledgers can be programmed to execute smart contracts, which are self-executing contracts with the terms of the agreement between buyer and seller being directly written into lines of code. This allows for transactions to be automated, secure, and transparent.
  7. Fault Tolerance: Distributed ledgers are highly fault-tolerant because of their decentralized nature. If one node or participant fails, the data remains available on other nodes.
  8. Transparency: Distributed ledgers are transparent because every participant can see the transactions that occur on the ledger. This transparency helps in creating trust among the participants.
  9. Efficiency: The distributed nature of ledgers makes them highly efficient. Transactions can be processed and settled in a matter of seconds, making them much faster than traditional methods.
  10. Security: Distributed ledgers are highly secure because of their cryptographic nature. Every transaction is recorded with a cryptographic signature that ensures that it cannot be altered. This makes the technology highly secure and resistant to fraud.

How DLT Can Replace Traditional Book-Keeping Methods?

Distributed ledger technology has the potential to effectively improve these traditional methods of bookkeeping by updating and modifying fundamental methods of how data is collected, shared, and managed in the ledger. To understand this, traditionally paper-based and conventional electronic ledgers were used to manage data that had a centralized point of control. This types of system require high computing resource and labor to maintain ledgers and also had many points of failure. Points of failure like:

  1. Mistakes made during data entry.
  2. Manipulation of data could happen which increases the risk of errors.
  3. Other participants contributing data to the central ledger will not able to verify the legitimacy of data coming from other sources.

However, DLT allows real-time sharing of data with transparency which gives trust that data in the ledger is up to date and legitimate. Also Distributed Ledger Technology eliminates the single point of failure which prevents data in the ledger from being manipulations and errors. In DLT, there is no need for a central authority to validate transactions here different consensus mechanisms are used to validate transactions which eventually makes this process very fast and real-time. Similarly, DLT can reduce the cost of transactions because of this process.

Types of Distributed Ledger Technology

The Distributed Ledgers can be categorized into three categories:

  1. Permissioned DLT: Nodes have to take permission from a central authority to access or make any changes in the network. Mostly these types of permissions include identity verification.
  2. Permissionless DLT: There is no central authority to validate transactions, rather existing nodes are collectively responsible for validating the transactions. Various consensus mechanisms are used to validate transactions based on predefined algorithms. In the case of bitcoin proof of work consensus mechanism is used.
  3. Hybrid DLT: It is combined with both permissionless and permissioned DLTs and can benefit from both of them.

Below are some of the types of DLT:

  1. Blockchain: In this type of DLT, transactions are stored in the form chain of blocks and each block produces a unique hash that can be used as proof of valid transactions. Each node has a copy of the ledger which makes it more transparent.
  2. Directed Acyclic Graphs (DAG): This uses a different data structure to organize the data that brings more consensus. In this type of DLT, validation of transactions mostly requires the majority of support from the nodes in the network. Every node on the network has to provide proof of transactions on the ledger and then can initiate transactions. In this nodes have to verify at least two of the previous transactions on the ledger to confirm their transaction.
  3. Hashgraph: In this type of DLT, records are stored in the form of a directed acyclic graph. It uses a different consensus mechanism, using virtual voting as the form consensus mechanism for gaining network consensus. Hence nodes do not have to validate each transaction on the network.
  4. Holochain: Holochain is termed as the next level of blockchain by some people because it is much more decentralized than blockchain. It is a type of DLT that simply proposes that each node will run on a chain of its own. Therefore nodes or miners have the freedom to operate autonomously. It basically moves to the agent-centric structure. Here agent means computer, node, miner,etc.
  5. Tempo or Radix: Tempo uses the method of making a partition of the ledger this is termed sharding and then all the events that happened in the network are ordered properly. Basically, transactions are added to the ledger on basis of the order of events than the timestamp.

Types of DLT

Advantages Of Distributed Ledger Technology

  1. High Transparency: Distributed ledger presents a high level of transparency because all the transaction records are visible to everyone. The addition of data needs to be validated by nodes by using various consensus mechanisms. and if anyone tries to alter or change data in the ledger then it is immediately reflected across all nodes of the network which prevents invalid transactions.
  2. Decentralized: In a centralized network, there may be a single point of failure and it can disrupt the whole network because of mistakes at the central authority level. But in the case of distributed networks, there is no risk of a single point of failure. because of the decentralized structure trust factor also increases in participating nodes. This decentralized nature of validation reduces the cost of transactions drastically.
  3. Time Efficient: As this network is decentralized so there is no need for a central authority to validate transactions every time. Hence this time for validation of each transaction reduces drastically. In the case of DLT, transactions can be validated by members of the network itself by using various consensus mechanisms.
  4. Scalable: Distributed ledger technology is more scalable because many different types of consensus mechanisms can be used to make it more reliant, fast, and updated. Because these many advanced DLT technologies are introduced in the last few years. Such as Holochain, hashgraph are considered to be advanced and more secure versions of Blockchain DLT. Blockchain itself is advanced and secure but DLT provides a way to more advanced technologies.

Uses of Distributed Ledger Technology

Because of all these benefits of distributed ledger technology and this technology has the potential to revolutionize many sectors like Financial, energy, healthcare, governance, supply chain management, real estate, cloud computing, etc.

Uses of DLT

  1. Banking: In the banking sector right now transfer of money can be both expensive and time-consuming. Also sending money overseas becomes even more complex due to exchange rates and other hidden fees included. Here DLT can provide a decentralized secure network that will help to reduce the time, complexity, and costs required to transfer money. This decentralized network will eliminate the need for third parties which makes this system more complex and time-consuming.
  2. Cyber Security: Nowadays cyber security has been emerging as a big threat to governments, enterprises, and individual people also. So it is essential to find an effective solution to secure our data and privacy against unauthorized access. In DLT, all information is authorized and securely encrypted by various cryptographic algorithms. This provides a transparent and secure environment and none of the data can be tempered by any entity.
  3. Supply chain management: Supply chain is one of the complex structures itself. In this structure, it is hard to trace where the fault happened. So here Distributed ledger technology comes into the picture, Using DLT, you can easily trace the supply chain from the beginning to the end and can easily find out where a mistake or fault has happened. All the data added to the DLT is validated and permanent and can not be altered. This transparency of data enables us to trace from the beginning to the end of the ledger.
  4. Healthcare: Distributed Ledger eliminates central authority and ensures rapid access to secured and untempered data. Here important medical can be stored securely and no one can change this data, even if someone tries to change it will be reflected everyone immediately. DLT can be used in the insurance sector to trace false claims because of its decentralized system.
  5. Governance: DLT can be used in the government system to make it transparent among citizens. Many governments have adopted blockchain in the governance system because of the robustness of this system. It can be used as a voting system too. The traditional voting system has many flaws and sometimes it is found that there are many false voting and illegal activities that happen during voting. Online voting systems can be used to vote and with security and fake votes can be easily checked. everyone will have their own identity. So that any person sitting anywhere in the world can cast his vote.

How are Blockchain And Distributed Ledger Different?

In general blockchain and Distributed Ledger Technology are considered as same, but there are some differences between these two technologies. Blockchain can be classified as a type of Distributed Ledger Technology. We can say that Blockchain is a type of DLT, but every Distributed Ledger can not be called a blockchain.

Blockchain is the parent technology of DLT. But the idea behind them is the same. Blockchain technology has the potential to solve many problems in the banking and financial industry. Here, blockchain is the advanced version of Distributed Ledger Technology with many useful functionalities. Developers have many other variants of DLTs in the technology world. However, they do not have the many real-life implementations and applications that blockchain has been able to do.

Advantages of Using Distributed Ledger Technology In Blockchain

  1. Security: All records of every transaction are securely encrypted. Once the transaction is validated, it is completely secure and no one can update or change it. It is a permanent process.
  2. Decentralization: All network members or nodes have a copy of the ledger for complete transparency. A decentralized private distributed network improves the reliability of the system and gives assurance of continuous operations without any interruption. It gives control of information and data in the hand of the user.
  3. Anonymity: The identity of each participant is anonymous and does not possibly reveal their identity.
  4. Immutable: Any validated transactions can not be changed as they are irreversible.
  5. Transparency: Distributed technologies offer a high level of transparency. Which is necessary for the sectors like finance, medical science, banking, etc.
  6. Speed: Distributed Ledger Technology can handle large transactions faster than traditional methods.
  7. Smart Contracts: Distributed Ledger Technology supports smart contracts which are self-executing contracts with the terms of the agreement between buyer and seller being directly written into lines of code. Smart contracts reduce the need for intermediaries and offer transparency and automation in the execution of the contract terms.
  8. Lower Costs: Distributed Ledger Technology eliminates intermediaries and reduces the costs associated with intermediaries, which makes the system more cost-effective.
  9. Improved Efficiency: Distributed Ledger Technology reduces the time and costs associated with traditional transaction methods. It offers faster settlement times, reduced paperwork, and increased efficiency.
  10. Auditing: Distributed Ledger Technology makes auditing easier as every transaction is recorded and the ledger cannot be altered. This improves the transparency and accuracy of financial audits.
  11. Resilience: Distributed Ledger Technology is more resilient than traditional databases as it is spread across multiple nodes. This means that even if one node goes down, the network can still function as the rest of the nodes can continue to validate transactions.
  12. Traceability: Distributed Ledger Technology offers complete traceability of assets, from their creation to their current ownership. This improves accountability and reduces the risks of fraud and theft.

Disadvantages Of Distributed Ledger Technology

  1. 51% Attack: The 51% attack is a bit concerning part of this distributed ledger technology that is to be checked routinely.
  2. Costs of Transaction: The connected nodes are expected to validate the transaction of a given Distributed Ledger Technology which gives high transaction cost as the other nodes are paid incentives to validate the transaction.
  3. Slow Transaction Speed: The major disadvantage of this DLT is the slow speed of transactions as multiple nodes are attached to this network and it takes time to validate the transaction by all the other nodes.
  4. Scalability Issues: Due to low speed and high transaction costs DLT faces very difficulties to expand on a large scale.
  5. Lack of Regulation: As DLT is a decentralized technology, it operates outside the control of any centralized authority which can lead to a lack of regulation, making it difficult to hold accountable any wrongdoings or fraudulent activities on the network.
  6. Energy Consumption: Distributed Ledger Technology requires a significant amount of energy to maintain the network and validate transactions, especially in the case of Proof of Work consensus mechanisms, which can lead to a negative impact on the environment.
  7. Complexity: Implementing and managing Distributed Ledger Technology can be complex and requires a high level of technical expertise, which can be a barrier to entry for many organizations and individuals.
  8. Privacy Concerns: While the anonymity of participants on the network is considered an advantage, it can also be a disadvantage as it can lead to privacy concerns and illicit activities on the network.
  9. Lack of Interoperability: Different Distributed Ledger Technologies may use different protocols, which can lead to interoperability issues, making it difficult for different networks to communicate and transact with each other.

Future of Distributed Ledger Technology

  1. Experts in this area promote DLT as a solution for many problems that are present on the internet and will drastically be able to solve all these problems. Distributed Ledger Technology is termed the “Internet of Value”. Transactions and processes will occur in real-time with the help of the internet.
  2. Distributed Ledger Technology has the potential to impact problems in financial or banking, cyber security, healthcare, government, data security, etc. sectors with effective solutions.
  3. Enterprises and visionaries are now faced with the challenge of establishing networks of entities that together can take advantage of DLT to radically change how they share and keep records, and innovate where DLT can enable entirely new processes and business models.

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