Understanding Blockchains: Cryptography, distributed systems, and game theory at work
This post is part of a series on how everyday investors can understand blockchain networks like Solana, Ethereum and Bitcoin.
The best way to understand blockchains is to compare them to the internet. The internet is a distributed set of protocols for transferring information. No one company owns it and it doesn’t run on a single computer. Instead, shared standards allow computers around the world to communicate freely. Blockchains are similar, but instead of transferring information, they transfer value. They are decentralized protocols for owning, verifying, and moving assets without relying on any single institution.
The internet as we know it today didn't emerge from one discipline. It required breakthroughs in networking, hardware, and software layered on top of each other. Blockchains are similar. They are built on three well-established fields, cryptography, distributed systems, and game theory. Each plays a specific role in making the system work.
A Shared Public Ledger
When you use a bank or brokerage, your balance lives in that company's private ledger. You trust them to keep accurate records. You trust them to stay online. You trust them to let you access your money when you need it. If something goes wrong internally, you might not find out until it's too late.
Before the internet, information worked the same way. There were many fragmented networks for communicating. Also, a lot of data that should’ve been publicly available was hard to access. To understand this better, read about the famous programmer Aaron Schwartz. The internet made free information transfer and access possible by creating shared, open protocols that anyone could use. Suddenly, information could flow freely around the world.
Blockchains do the same thing for value. Instead of one company keeping a private ledger, thousands of computers around the world all maintain the same ledger simultaneously. Every computer has a complete copy. Every copy stays in sync. Every transaction is visible and verifiable. This means anyone, anywhere can transfer value using this ledger.
This is where distributed systems come in. Distributed systems is the field of computer science focused on getting many independent computers to coordinate reliably. It's the same field that makes the internet work, ensuring that data find its way across the globe and that websites stay online even when individual servers fail. Blockchains use these techniques to ensure thousands of machines around the world stay synchronized without any central coordinator. If one computer goes offline or tries to cheat, the others keep running with the correct information. You don't have to trust any single party because the system is designed to function even when individual participants fail or act maliciously.
Why “Blockchain”
In traditional finance, transactions are processed through layers of intermediaries. Each institution maintains its own ledger, and those ledgers must be reconciled with each other. This is why moving money between banks takes days and moving stocks between brokerages can take over a week.
Blockchains take a different approach. Transactions are grouped into batches called blocks. Think of it like a shipping container: instead of sending packages individually, you load many packages into one container and ship them together. It's more efficient.
Each block is cryptographically linked to the one before it, forming a chain. This is cryptography at work. Cryptographic hash functions create a unique fingerprint of each block's contents, and that fingerprint is included in the next block. Change anything in an old block, and every fingerprint after it breaks. Any attempt to alter history becomes immediately obvious to every computer on the network. Unlike private ledgers that can be edited behind closed doors, the blockchain's history is permanent, tamper-evident, and auditable by anyone.
How a Transaction Works
When trading through a brokerage, your request passes through multiple intermediaries. Each one maintains their own records, charges their own fees, and operates on their own timeline. You wait for these separate systems to coordinate and settle.
On a blockchain, the process is direct. You sign the transaction with your private key, proving you authorized it. This is cryptography at work. Digital signatures, similar to passwords, allow you to prove ownership and authorize transactions without revealing secret information. It's like a signature that cannot be forged or copied. No one can move your assets without your private key, and any attempt to forge a signature is detected by the network.
Your transaction gets broadcast to the network and waits in a queue with other pending transactions. Every node independently verifies that your signature is valid and that you actually own what you're trying to send. Cryptography makes this verification instant and definitive. A fraudulent transaction isn't a matter of opinion; it's mathematically invalid and will be rejected by the entire network.
Validators select valid transactions and bundle them into a block. But why would validators do this work honestly? This is where game theory enters the picture. To become a validator, you must put up a significant stake, real assets locked in the network. If you process transactions correctly, you earn rewards. If you try to cheat, you lose your stake. The potential loss always outweighs the potential gain from dishonesty.
This isn't about trusting validators to be good people. It's about designing a system where honesty is the rational choice. Validators are self-interested actors, but the incentive structure channels that self-interest toward maintaining an accurate ledger. Cheating isn't just risky; it's economically irrational. And even if a validator wanted to cheat, cryptography constrains what they can do. They cannot forge signatures, fabricate balances, or alter history without detection.
Other computers verify everything follows the protocol. The block gets added to the chain, and your transaction is now permanent and visible to anyone. The entire process typically takes seconds to minutes depending on the network. No intermediaries. No reconciliation between separate ledgers. No waiting for business hours.
Conclusion
This architecture is why blockchains can operate without banks or clearinghouses. Cryptography secures ownership, links the chain together, and makes cheating mathematically detectable. Distributed systems keep thousands of computers in sync. Game theory aligns incentives so that honesty is the most profitable strategy. Together, these fields replace institutional trust with mathematical verification.
The internet gave us open protocols for information. Blockchains give us open protocols for value. When you hold assets on a blockchain, you're not relying on a single company's private ledger. You're relying on a global network running transparent, verifiable software. By creating a shared public ledger instead of fragmented private ones, blockchains offer something traditional finance cannot: a system where trust is built into the infrastructure itself.