How Do Blockchain Transactions Work?

Salomon Kisters

Feb 17, 2023

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A blockchain is a digital system where transactions are spread across a network of computers and stored on distributed ledgers.

Multiple transactions are present on individual blocks, and as soon as a new transaction takes place on the blockchain, a copy of the said transaction is immediately recorded on the ledger of each participant.

There are many integral steps that a transaction goes through before it can be included on the blockchain.

It is important to understand each of these steps individually to grasp the bigger picture of blockchain technology.

What is a Blockchain?

The diffused database of blockchain is shared among nodes of multiple computers. A blockchain acts as a form of virtual storage for transactional data. Blockchains are an integral part of many cryptocurrencies, most notably Bitcoin.

It is primarily used for keeping decentralized documentation of transactions. What really sets blockchain technology apart from traditional financial systems is the maintenance of security and precision of transaction records without the involvement of a third party.

The major difference between blockchain and traditional databases is the structure of the data stored on them. The information present on a blockchain is grouped and held in blocks. Once the storage capacity of a block has been reached, it is closed and connected to the previously stored block.

This linking of stored blocks together gives blockchain its name. All the newly organized information is collected in the newly created block, which will subsequently be linked to older blocks once their storage reaches full capacity.

In a typical database, the information is collected in tables. In a blockchain, on the other hand, such pieces of information are strung together. This type of data structure leads to the creation of a chronological schedule for the addition of information when utilized in a decentralized fashion.

Once a block has been completed, it cannot be changed or corrected. Each block gets a timestamp instantly after being added to the chain.

How Blockchain Transactions are Carried Out

The Foundations of Technology

Blockchain transactions are based on the union of three modern technologies: cryptographic keys, a peer-to-peer system that houses the collective ledger, and a computational system that can keep a record of the transactions being carried out on the network.

There are two types of cryptographic keys, namely private and public keys. These are essential for performing successful transactions between individuals or parties. Each participant in the blockchain possesses these two keys that are used to generate a secure reference for digital identity.

A protected identity is one of the most integral parts of blockchain technology. This identity is used for the approval and control of transactions and is referred to as a digital signature.

This digital signature is combined with the peer-to-peer administration system, which allows individuals to consolidate network resources, computing power, and storage capacity. Numerous computers on the blockchain network serve as the authority on the blockchain and utilize the digital signature to come to a unanimous decision on the execution of transactions.

When a deal is approved, it undergoes verification through a mathematical system. This leads to a successful and secured monetary exchange between the network-connected entities.

Parties Involved

There are multiple parties involved in the process of every blockchain transaction.

The first is the user who puts transactions into motion using the blockchain system. But how do these transactions undergo execution without any central system to keep them in check? This is where the miners lend their resources. Let’s talk about this in more detail so you can better understand it.

Blockchain is based on a trustless system where individuals are guaranteed that their transactions will be completed even without the presence of a governing body. Miners make sure this occurs by verifying the incoming blocks of transactions.

Groups of transactions that have been ordered remain in the mempool, which is the phase originating from the request of a transaction to its addition to the blockchain. Miners are incentivized to carry this out through rewards.

The last involvement is that of nodes, which can be a role played by anyone with access to the blockchain. Nodes are necessary for the safety and security of the system as they verify the blocks that miners have sent.

This verification is performed before the blocks can be added to the chain. This is done by looking at the blockchain’s transaction history and comparing it with the incoming information. The network nodes that are scattered all across the world then agree on the block’s authenticity before it is added to the blockchain.

Steps Involved in a Blockchain Transaction

The entire process of blockchain transactions can be broken down into a few simple steps. There is an initial request for a transaction that can include cryptocurrency or other information such as contracts and records.

The transaction is then sent out to all member computers of the P2P system of that particular blockchain. These participants represent the nodes. The transactions are then put into the mempool, marked as pending.

The verification and processing of transactions on the blockchain network occur in exchange for a payment labeled as ‘gas fees’. This cost is covered by the users requesting the transaction. The authentication of the transaction by miners follows, where the transaction is checked against validity rules predetermined by the creators of the blockchain.

The transactions that have been authenticated are collected in the block and sealed with a lock called Hash. This completes the transaction, making it a part of the blockchain that cannot be changed.

The Advantages of Using Blockchain Transactions

One of the greatest benefits of using blockchain is the security it can provide, which also extends to the protection of critical information from malicious activities. It also provides the user with a proper system to carry out rapid and convenient transactions.

Blockchain transactions can be completed in a few minutes compared to the multiple days taken by traditional transaction methods. Since blockchain technology is decentralized, it is immune from the interference of outside enterprises and government authorities.

The Disadvantages of Using Blockchain Transactions

Although blockchain technology offers many benefits, it is not without some flaws. For starters, problems have been discovered when using cryptography keys, especially private ones. These keys are an integral part of the blockchain ecosystem. Losing a private key can cause many verification and operational difficulties for the user.

Another problem is that a limited number of transactions can be carried out simultaneously on a single node. This can cause issues with scalability due to the greater amount of time required to complete many transactions and other connected processes.

Moreover, once a transaction has been recorded, it is almost impossible to make any additions or changes to the block, which can be considered a major disadvantage.

Types of Blockchain

There are four main types of blockchain networks, the most widely utilized of which are public blockchains.

Private Blockchains

These blockchains are positioned on closed networks, which makes them a great option for use by private businesses and corporations. This type of blockchain network can give the entities using it the ability to tailor the authorization and accessibility protocols and security options according to their requirements.

Public Blockchains

Public blockchains serve as the point of origin for many cryptocurrencies, such as Bitcoin. They also play a key role in the DLT system’s rising popularity. Security challenges and difficulties with centralization were also removed with the help of public blockchains.

Through distributed ledger technology, instead of being stored in a single location, the data is spread across a vast P2P network. Proof-of-Stake and Proof-of-Work are some of the most widely-used consensus algorithms for verifying public blockchains.

Permissioned Blockchain

Considered a hybrid network, this type of blockchain allows for special authorized access to private blockchains. Corporations mostly use permissioned blockchains due to their combined benefits of private and public blockchains. A permissioned blockchain, therefore, allows for a better system when delegating who can work in the network and on which particular transactions.

Consortium Blockchain

Like permissioned blockchains, consortium blockchains also consist of attributes from both private and public blockchains. The difference comes from multiple organizations having control over a single consortium blockchain. While the initial setup can be more complicated, they offer a better security level. They also allow for improved collaboration between different corporations.

Final thoughts

The innovation of blockchain technology has made the world of digital currencies even more accessible. With the large, interconnected networks of individuals working in different capacities for the execution of blockchain transactions, it gives a lot more people the opportunity for financial gain and independence.

The lack of third-party involvement, at the same time, allows users to have complete autonomy over their work without the risk of adhering to strict rules and regulations. The relatively simple step-by-step process of a blockchain network makes it easier for interested parties to jump on the bandwagon of digital monetary exchange.

The various methods of verification at various steps, thus, allow for complete confidence in the system’s security and transparency.

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