How Blockchain Technology Enables Trustless Transactions

Financial assets and personal information are two things that people are very sensitive about and tend to guard it dearly, which makes sense, since losing money or your bank account credentials leads to the same result — a bad situation for your everyday life expenses. That’s why people are very careful how and where they store their money, or documents that can give third parties unauthorized access to their cash.

Unfortunately, the contemporary financial system didn’t prove to be very reliable and trustworthy, since banking systems are prone to security breaches, they are slow, expensive, and cyber attackers are getting very creative with ideas on how to steal your bank account credentials through various hacking tactics.

The need for trust is a key aspect for asset and data storage solutions, and people are very wary of being scammed through online payment services or e banking apps. Blockchain technology addressed the issue of trust in financial and informational transfers, by introducing trustless transactions, with the help of decentralized network architecture and smart contracts.

Let’s take a look at how blockchains do this and why trustless transactions are the future of finance.

Traditional finance relies on a robust system of banks, processing gateways, and payment services that are designed to facilitate transactions of money. All of these institutions and companies work on a strictly centralized basis, where processing capacities are facilitated by central servers and validator points responsible for checking transactions. The security of these networks depends on the various cyber safety measures used by company programmers responsible for maintaining the networks operational.

Naturally, all banks and payment services tend to implement top quality security mechanisms, but the fact that they use centralized technology presents a huge risk, which many users aren’t aware of, because a single breach of a centralized network can give hackers access to the whole system, potentially resulting in massive hacks and asset or data theft.

This means that when users are trusting a payment service provider while conducting an international transaction, they are actually trusting the security measures of the company whose services they are using, without knowing anything about those measures, because companies tend to keep their network security measures classified information.

In sharp contrast to the heavy centralization of TradFi companies, blockchain technology has enabled developers to create networks that don’t rely on trust between parties to securely conduct transactions, and subsequently eliminate trust related security risks.

Blockchains don’t have central servers that store all of the network data. Instead, they utilize distributed ledger technology that enables network nodes to store copies of the whole network on their computers, and update their copies in real-time, in line with network traffic.

A blockchain consists of data blocks that are set from the first, to the most recent block, chronologically and the data within those blocks is immutable. Once a block has been added to the blockchain and validated by the consensus mechanism, the contents of the block can’t be changed. This is why the security of a blockchain largely depends on the consensus mechanism it is using to validate transactions.

The Proof of Work (PoW) mechanism pioneered by Bitcoin (BTC) was the most popular consensus mechanism until Proof of Stake (PoS) blockchains were introduced. While PoW chains rely on the computing power of network nodes, crypto miners, to confirm the validity of each transfer by finding the appropriate hash, PoS chains use the validation authority of staked coins to confirm transactions.

When users stake coins, they contribute to the functioning of the network, and in case they participate in the confirmation of an invalid transaction, they lose their staked crypto, which is a great way to make sure nodes aren’t validating scam transactions. Both PoW and PoS chains award their network nodes. PoW validators get awarded with freshly mined coins and transaction fees, while PoS nodes get staking rewards that are derived from network transfer fees.

Regardless of the blockchain type, decentralized network nodes are of key importance for the validation process and by automatically checking each other’s work, the decentralized nature of blockchains dramatically lowers the possibility of a successful security breach. Also, no one can just shut down a blockchain, because even if a hacker takes control of a certain number of nodes, the rest of the network can continue operating and validating transfers.

Blockchains can be used for much more than just transferring digital cash, which was clearly demonstrated by the introduction of smart contracts on the Ethereum (ETH) blockchain, and the subsequent mass adoption of this technology by popular chains like Solana (SOL), Algorand (ALGO), Avalanche (AVAX), Fantom (FTM), and others.

A smart contract is a self-executing agreement between two parties that can automate various complex processes in order to speed up operations and eliminate the need for human governance. Smart contracts are widely used by blockchain developers to build, launch, and operate decentralized apps. When you’re conducting an Ethereum transaction for example, you’re initiating a smart contract that is instantly created once you click on the Send button of your crypto wallet. If you’re looking to conduct a cross-chain swap or connect your wallet to a decentralized exchange, you’re also using a smart contract.

These contracts are utilizing blockchain technology to eliminate trust issues and create a trustless crypto environment in which no one can pull a scam on the other party during a transaction. This is possible because smart contracts are immutable, just like any blockchain transaction, and once they are set in motion they can’t be stopped or changed.

Smart contract lock mechanisms, also referred to as timelocks and safelocks, are responsible for making sure both sides stick to their end of an agreement before letting them reap the benefits of a deal.

A smart contract is responsible for delivering you the crypto you bought on an exchange platform from another trader, and it prevents the trader from withholding the traded crypto, once you’ve initiated the transaction.

In this situation, a smart contract acts as a temporary custodian for both yours and the other trader’s assets, and only once both of the implicated parties have deposited their assets, can the smart contract process the funds and execute the trading deal.

The combination of blockchain decentralization and smart contracts enables companies to considerably shorten transaction time, costs, and scale up their business. The fact that blockchain transactions don’t depend on centralized validation mechanisms means that they can get checked and processed much faster. Blockchains such as Solana can process as much as 65,000 transactions per second, thanks to the trustless validation mechanism.

Efficient PoS blockchains don’t consume much computing power and they can process data at very low fees that are often as much as a couple of cents.

Blockchains are trustless because they truly eliminate the need for trust, since the consensus mechanisms and smart contract functionalities don’t depend on the network security of a centralized company server. Instead, they harvest the computing power and validation authority of a decentralized cryptographic network of nodes.

Despite the efficacy of blockchain transactions, there are also various security issues that plague blockchains, and one of the key issues are insecure blockchain gateways that don’t keep user data and transactions sufficiently protected.

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