When you make a transaction using fiat currency, for example INR, a third party is responsible for verifying and recording the details of this transaction. This third party may be a bank or other transaction facilitator such as Visa and Mastercard, among others. We know and trust these entities to store our money and track our transactions.
The entire financial sector is based on trust. You invest in the stock market, confident that your money will not disappear overnight. If you didn’t trust the system, you could never invest in the market. Also, in this system, we have an idea of the person or entity that manages our finances.
However, this is not the case with blockchain. This is because most blockchains use a trustless mechanism in which no party knows or trusts each other. This trustless system was first introduced in 2010, when Bitcoin came into existence. Since then, it has become the foundation of the cryptocurrency industry.
But what does without trust mean?
In common language, we all know that without trust means someone or something that is not trustworthy or untrustworthy. However, in blockchain terminology, trustless refers to a system where we do not depend on a stranger, institution or third party to run a network or payment system. †
Instead, every transaction is verified by thousands of other users on the network. These users do not know each other. Spread all over the world, they are tasked with verifying and tracking transaction records. They come to a mutual consensus on the authenticity of a transaction before sending it to be stored on the blockchain. In return, they receive newly minted coins. Once a transaction is verified, it is added to a distributed ledger that any network user can access and store a copy of.
This distributed ledger ensures that once a transaction has been verified and added, it cannot be tampered with. Moreover, since no single entity is responsible for verifying transactions, the blockchain is decentralized.
Is it really unreliable?
Well not really. Blockchains don’t work without trust. Instead, they reduce the amount of trust given to an entity, such as a bank or fund house. This is done by distributing the trust across multiple network participants. In addition, complex encryption, advanced algorithms and autonomous protocols allow the blockchain to operate without a central authority.
Power and trust are distributed among stakeholders in the network rather than concentrated in a single person or entity. That said, the term “trustless” is a bit misleading. Rather than labeling blockchains as trustworthy, we could describe them as built on the foundation of distributed trust.
Are reliable systems more secure?
Centralized systems such as banks are the most susceptible to hacks and attacks. This is because traditional financial services have a single authority to verify data and make decisions. This creates a single point of failure that malicious actors can exploit to commit thefts and hacks. It is also possible that the data is changed or manipulated.
This does not mean that cryptocurrencies cannot be hacked. Anyone who follows blockchain updates knows that hacks and attacks are very common in the crypto space. However, the decentralized nature of cryptocurrencies and the ability to not have to trust a central body has been touted as one of the greatest strengths of crypto assets.