Understanding Blockchain: How Do On-Chain Transactions Work
When it comes to digital currency transfers, on-chain transactions are the preferred modus operandi.
How do they work? And what are their advantages and drawbacks?
Let’s find out.
What are on-chain transactions?
Investopedia.com defines on-chain transactions as:
“…transactions that occur on the blockchain and remain dependent on the state of the blockchain for their validity.”
Owing to their immutable nature once recorded on the blockchain network, on-chain transactions offer a great deal of security and transparency, factors that lend themselves well to prospective investors.
But how does this all happen?
How on-chain transactions work
Blockchain is the technology that forms the basis of digital currencies such as Bitcoin. It’s a ledger upon which every single transaction is recorded.
For an on-chain transaction to occur, one party must own a digital asset on the blockchain that they wish to sell. This asset, typically a cryptocurrency is locked in an address that can only be accessed through a corresponding private key.
This cryptocurrency can be signed off and sent to a new address. But in order for this to happen, a transaction fee must be paid so the deal can proceed and the order formalized in the block.
A transaction will only become valid when there are six or more confirmations or 51% of the participants in the network have verified that the transaction is correct.
Now, let’s delve a little deeper into the advantages and the inevitable drawbacks that surround these transactions.
Advantages of on-chain transactions
There are reasons why on-chain transactions are so popular and here are just a few of them:
1. Unparalleled security
Blockchain is an incredibly secure technology that rivals legacy banking systems in terms of security sophistication. Looking at Bitcoin’s own history, the digital currency has never once been hacked.
2. Unrivalled uptimes
Not only has Bitcoin’s blockchain never been hacked but it’s had a record uptime of 99.986% since its inception on January 3, 2009. That’s a pretty impressive 12-year streak.
3. Transaction immutability
No one can change, alter or revert any transaction carried out on the blockchain once it’s been ratified by the majority of the network. This assurance acts as a guarantor giving investors peace of mind about their investments.
Drawbacks of on-chain transactions
While on-chain transactions present numerous benefits there are a few cons such as:
1. High transaction fees
One of the biggest limiting factors for smaller investors is the high transaction fees associated with completing on-chain transactions.
2. Congested networks
The time taken to complete a transaction depends on how congested the network is. The higher the transaction volumes, the slower the transaction. To overcome this delay, you have to pay higher transaction fees.
Conclusion
As more people move to include digital assets as part of their diversification plan for their investment portfolios, it’s imperative to understand exactly how these virtual transactions work.
This blog is the second part of a multi-series on Understanding Blockchain. To read part 1 How Off-Chain Transactions Work click here.
