Database definition

What is a Distributed Ledger: Definition of a Distributed Ledger

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A distributed ledger is a database that is used to record various transactions. Similar to how electronic transactions and digital banking apps have transformed the way consumers spend money, distributed ledgers have the potential to simplify transactions in a way that enhances convenience and lowers costs. Although blockchain is currently the best-known form of distributed ledger, the technology can be used in multiple industries. By learning more about distributed ledgers, you can better understand how the technology is used now and will likely be used in the future.

What is a distributed ledger?

A distributed ledger is a database updated individually by each participant in a large network in an automatic voting and updating process called consensus. Computing devices operated by individuals (called nodes) construct the network at different locations. Instead of depending on a trusted third-party authority (like a bank) to oversee transactions, a distributed ledger allows transactions to have public witnesses who confirm and record the transaction. By omitting a third party, the process eliminates errors or intentional changes to the transaction. It also increases the speed at which transactions occur by eliminating bank hours and tedious manual processes from the equation.

Ledgers have always been used to record financial transactions. However, the registers we are used to using are centralized registers, controlled by a trusted third-party authority, such as a bank. This traditional accounting model is based on accounts. The most common form of financial ledger used by individuals is a checking account ledger. When deposits are added or purchases are made, the bank records the transactions. Centralized registries are overseen by a single authority and can be edited or modified from a single destination. Conversely, a distributed ledger is recorded by each node, and once a transaction is finalized it cannot be modified, only deleted via another approved transaction. While distributed ledger technology shows promise for use in a variety of industries, including supply chains and real estate, it is still in the early stages of development. The most recognizable use of distributed ledgers is currently in cryptocurrency exchange and online NFT exchange.

How does a distributed ledger work?

A distributed ledger is created by individual participants with complex computing devices (nodes) that form a network. Each database participant builds the network independently. When a transaction occurs, it is processed by each node and then voted. If 51% of the participants agree, the new transaction is accepted on the database. All nodes then update the database, so the registry reflects the same version on all devices. These transactions and all ledger changes are reflected in seconds.

Since a distributed ledger depends on a peer-to-peer process, it makes sense to ask who are the participants who make up the database and vote for approval of transactions. Distributed ledger participants are sometimes called miners, because the race to calculate the equation and be the first to enter a new transaction is called digital mining. Miners can be anyone from an individual mining their own rig to pools of miners who band together to cut costs. The first miner to solve the equation is rewarded with digital currency. Since the system provides compensation and a correct response is required, the system maintains a balance.

How is a distributed ledger different from a centralized digital ledger?

In order for a business or individual to track their income and expenses, they need to record economic data in a ledger. Until recently, the most common form of individual accounting was done on paper. Bank transactions were completed with a paper check and the account holder recorded the transaction in a book called a check book register. Each month, a bank statement could be used to compare the account holder’s record to the bank’s official transaction record. With the digital age, applications have shared transaction information with account holders in real time. Virtual transactions have become commonplace and individuals can now track transaction data on their own devices. Even though the information for these transactions is available in different places, the general ledger (and the activity surrounding the transaction) occurs from a centralized entity. Traditional electronic payments are processed through accounts opened in centralized locations.

A distributed ledger processes and records transactions in an entirely different format. The simplest explanation of a distributed ledger transaction is an entry/exit system. When a transaction occurs, the associated data enters the system as inputs. The exit occurs when the transaction is voted on and approved, completing the “block” that represents the journal entry. The distributed ledger does not require an account but still records the value of the transaction.

Benefits of Using Distributed Ledgers

Distributed ledger technology targets distinct issues of reliance on a central authority for economic transactions. It also has the potential to reduce the costs and tasks associated with trading certain goods and supply chain requirements. Using distributed ledgers can eliminate the expense of a third-party trust in a variety of exchanges, including those that require notaries, contract witnesses, and complex transactions. Although decentralized ledgers have yet to be adopted in most formal environments, they have the potential to deliver these benefits:

  • Difficult to tamper with: Paper records and digital records are easy to tamper with with modern technology. Distributed ledgers are registered by each node and therefore exist in multiple places. The complex nature of the technology also makes them difficult to forge. This is also true for NFTs which make it virtually impossible to tamper with works of art.
  • Highly transparent: Since all stored information is freely and easily searchable, full transparency exists.
  • More secure: The decentralized nature of a distributed ledger makes it more secure against potential attacks. Since the database is distributed worldwide and updated individually, it is difficult to attack.
  • Faster processes and lower costs: Without the need for a third party and the manual work done in third-party transactions, distributed ledgers can eliminate delays and reduce costs.

At first glance, distributed ledgers appear to be a complex process that will not change financial transactions in the near future. However, having fully understood the process, it is easy to see that distributed ledgers could contribute to significant changes in several sectors.