What is Bitcoin and How Does it Work?

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Bitcoin Definition: A Number Guessing Game

The white paper describes Bitcoin ( BTC ) as a “peer-to-peer electronic money system.” But where does Bitcoin come from?

According to the algorithms, new bitcoins are generated and delivered to users who solve previously specified mathematical problems. The math problems refer to a hash, which is a 64-digit hexadecimal number that is less than or equal to the target hash. Thus, Bitcoin is simply a number, such as 12345.

As an example, suppose that Mrs. Rosa takes out of her purse a 1 dollar bill with the number G6607081974P. No other banknote bears the number G6607081974P, taking into account that the Federal Reserve System (in the United States) operates with a minimum degree of competition.

Since this bill has a face value of $ 1, Ms. Rosa can use it to buy a cup of coffee.

Now, let’s say two people agree that the R7607081974P ticket is actually worth $ 4,000. The only difference between Bitcoin # 12345 and the 1 dollar bill # R7607081974P is that the 1 dollar bill exists in the real world and has a face value that is worth something. Bitcoin, on the other hand, has no intrinsic value and is simply a number. The number may have a value agreed upon by two people, but it has no value in itself. Therefore, Bitcoin is created by a group of individuals who play number guessing.

So what is the point of this game in the first place? Gambling is important because it is a technique that helps to verify and secure the transaction history of the Bitcoin network. Anyone who wants to contribute new transactions to the network must first play and win a round, which requires computing power. As a result, it will be difficult and expensive for an attacker to cause any damage to the network.

What Supports Bitcoin and How Does it Work?

Unlike the currencies we all know, Bitcoin is not issued by a central bank or backed by a government. Consequently, inflation rates, monetary policy, and economic growth indicators that traditionally influence the value of the currency do not apply to it.

Bitcoin is based on a blockchain, which is a distributed digital ledger. The chain of blocks (Blockchain) is a set of linked data made up of units called blocks that contain information about each transaction, such as the buyer and the seller, the date and time, the total value, and a unique identification code for each operation. The inputs are connected in chronological sequence, forming a digital chain of blocks.

When a block is uploaded to the blockchain, it is made available to anyone who sees it, thus acting as a public record of cryptocurrency transactions. The blockchain is decentralized, which means that it is not controlled by a single entity. The digital blockchain is similar to a Google document that anyone can edit. It is not owned by anyone, but anyone with a link can contribute to it. As different individuals make changes to it, its copy is updated as well.

Although the idea that everyone can edit the blockchain may seem insecure, it is precisely what makes Bitcoin reliable and secure. To be included in the Bitcoin blockchain, a transaction block must be validated by most Bitcoin miners.

Unique codes used to identify user wallets and transactions must follow the correct encryption pattern. Since these unique codes are long random numbers, their forgery is extremely difficult. The statistical randomness of the blockchain verification codes required for each transaction dramatically minimizes the likelihood that anyone connected to the network will conduct a fraudulent Bitcoin transaction.

Why Was Bitcoin Created?

During the 19th and 20th centuries, many of the world’s most popular currencies were convertible into fixed amounts of gold or other precious metals. However, most countries abandoned the gold standard between the 1920s and 1970s, in part due to the stresses of financing two world wars and the inability of global gold production to keep up with economic development.

Furthermore, physical values, such as gold and silver, were formerly exchanged for goods and services. However, since physical assets were difficult to transport and prone to lose and theft, banks safeguarded them for users, producing banknotes that confirmed users’ bank holdings.

Users trust banks to maintain the value of their currency and protect their funds. Between 2008 and 2009, however, several banks and other financial organizations went bankrupt around the world and governments had to bail them out at the expense of taxpayers.

The failure of banks (as custodians of public funds) highlighted how fragile the modern financial system can be and the need to decentralize financial services to improve the customer experience. Consequently, Bitcoin was seen as a response to the Great Financial Crisis and the financial world’s dependence on banks as intermediaries for transactions.

Satoshi Nakamoto had the idea of ​​excluding banks from financial transactions and replacing them with a peer-to-peer payment (P2P) system that did not require third-party confirmation, eliminating the need for banks to be facilitating each transaction. The blockchain, a network-based ledger, is how Bitcoin and other cryptocurrencies develop trust. So when was Bitcoin created?

When the first block, known as the genesis block, was mined on January 3, 2009, the blockchain was officially launched. A week later, the first test transaction took place. The Bitcoin blockchain was only available to miners who confirmed transactions for the first few months of its existence.

Bitcoin had no real monetary value at the time. Miners – the machines that solve complex mathematical problems to discover new Bitcoin and verify that existing Bitcoin transactions are valid and accurate – traded Bitcoin for fun.

The first real economic transaction took more than a year to complete when a Florida man agreed to be delivered two $ 25 Papa John’s pizzas for 10,000 bitcoins on May 22, 2010. The day has since been celebrated as Bitcoin Pizza. Day.

Bitcoin’s real-world starting price or the value was set at four BTC percent in the wake of this transaction. Supply chain management, cross-company resource planning, logistics, energy trading, DAOs or decentralized autonomous organizations, and many other applications are currently being explored with Bitcoin.

When Was Bitcoin Created?

Bitcoin was created in the wake of the 2008 financial crisis through a white paper written by a pseudonymous entity or group of people called “Satoshi Nakamoto”. The crisis served as a strong motivation for the development of Bitcoin. This guide aims to provide an insight into how long Bitcoin has been around, who started it all, and what the cryptocurrency is used for.

The financial crisis of 2007 and 2008 – often referred to as the subprime mortgage crisis – was a global event that caused a major liquidity contraction in global financial markets (starting in the United States) due to the collapse of the housing market.

As the world was mired in a global recession caused by excessive speculation in financial markets and banks risking millions of dollars in depositors’ funds, the white paper laid the foundation for the first fully functional digital money based on book technology. distributed major (DLT) called a blockchain. So what is Bitcoin and how does it work?

The Bitcoin white paper was the first document laying out the fundamentals of a cryptographically secure and trusted electronic payment system (P2P), fundamentally designed to be censorship-resistant and transparent while regaining power. financial for individuals.

Bitcoin is digital money, also known as a cryptocurrency, that works independently of any central authority. A cryptocurrency is a digital exchange medium that secures and verifies transactions through encryption. Encryption refers to a method of transforming plain text into nonsense or random text called ciphertext. The study of secure communication techniques that allow only the sender and recipient of a message to read its content is known as cryptography.

Bitcoin was created as an alternative to existing fiat currencies that could become recognized as a world currency. Today, fiat currencies, such as the British pound and the US dollar, are the most widely used types of money around the world. Fiat currencies are controlled by a national government in supply and creation and are backed by trust in that government that controls them.

However, Bitcoin uses peer-to-peer technology to facilitate transactions between users who believe that the asset being transferred has intrinsic value. P2P refers to the direct exchange of an asset, such as Bitcoin, between individuals without the need for a centralized authority.

What is Bitcoin Made of Public and Private Keys In Bitcoin?

At its most basic, Bitcoin is an autonomous public-key cryptosystem that facilitates the exchange of digital value between peers through a sequence of digitally signed transactions, rather than messages. The basic process flow of a Bitcoin transaction is identical to that of a series of encrypted messages found in public-key cryptography and digital signature scheme.

To protect data from unauthorized access or use, public-key cryptography uses a key pair to encrypt and decrypt it. A digital signature is an electronic signature that uses a mathematical algorithm to verify the validity and integrity of a digital message. Therefore, Bitcoin is a chain of digital signatures.

Each owner sends Bitcoin to the next one by digitally signing a hash of the previous transaction and the public key of the next owner and adding them to the end of the coin. The chain of ownership can be confirmed by the beneficiary through signature verification.

Users must have access to the associated public and private keys to transfer the required amount of Bitcoin. By referring to someone who owns Bitcoin, it actually means that they have access to a key pair that includes both the public and private keys.

A public key refers to an address to which some Bitcoin has previously been transmitted. The accompanying unique private key (a password) allows Bitcoin to be sent elsewhere once it has been sent to the previous public key (address).

Bitcoin addresses, also known as public keys, are randomly generated sequences of letters and numbers that act similar to an email address or username on a social network. They are public, as the name suggests, so users can share them safely with others. Actually, if users want someone to send them Bitcoin, they have to provide them with their Bitcoin address.

The private key is made up of a different set of randomly produced letters and numbers. Private keys should be kept confidential, just like passwords for email or other services. Never share your private key with someone you don’t fully trust so that they won’t steal from you.

A Bitcoin address can be compared to a transparent safe. Others can see what’s inside, but only the owner of the private key can open the safe and access the money.

1. Entry and Exit of Transactions

Although handling the coins individually is conceivable, doing a separate transaction for each penny in a transfer would be inconvenient. Transactions have many inputs and outputs that allow the value to be split and merged.

Typically, there will be a single entry from a larger previous transaction or multiple entries combining smaller amounts with up to two exits: one for payment and one to return any changes to the sender.

Now, let’s imagine that Romeo wants to send Juliet 1 BTC. To do this, he signs a message with specific information about the transaction with his private key. This message, which should be broadcast to the network, will include the following:

Entries: Entries contain details about the amount of Bitcoin delivered to Romeo’s address previously. Let’s consider the case where Romeo received 0.7 BTC from Alice and 0.7 BTC from Bob. Now, to send 1 BTC to Juliet, there can be two inputs: one of 0.7 BTC from Alice and one of 0.7 BTC from Bob.

Amount: The amount that Romeo wants to send is 1 BTC.

Outputs: Initial output is 1.4 BTC to Julieta’s public address (0.7 BTC + 0.7 BTC). The second output is 0.4 BTC returned to Romeo as “change”.

2. Transmission and Confirmations Through the Network

In the example above, Romeo will stream his intended transaction to the Bitcoin network through his wallet software. The entries (that is, the address (es) from which Romeo previously obtained the Bitcoin he claims to own) are verified by a specific group of network members known as “miners.”

The miners also create a block by combining a list of additional transactions issued to the network around the same time as Mark’s. Any miner who has completed the proof of work, or PoW, can propose a new block to add to the chain or “connect” to it by referencing the previous block. The network is then notified of the new block.

Other network participants (nodes) will transmit it if they agree that it is a valid block (that is, the transactions it contains meet all protocol requirements and make proper reference to the previous block). By proposing the next block, another miner will end up building on it by referencing the previous block. The next miner will have “verified” any transactions that have been added to the last block. The number of confirmations for Romeo’s transaction grows as blocks are added to the chain.

What is Bitcoin mining and how does it work?

The process of adding new transactions to the Bitcoin blockchain is known as Bitcoin mining. It is difficult to work. Bitcoin miners employ a PoW technique, in which computers/computers compete to solve mathematical problems that validate transactions.

In general, miners try to generate a 64-digit hexadecimal number, called a hash, that is less than or equal to the target hash. The Bitcoin hash rate indicates the estimated number of hashes created by miners trying to solve the current Bitcoin block or any given block.

Bitcoin’s hash rate is measured in Hashes per second or H / s. Miners need a high hash rate, measured in megahashes per second (MH / s), gigahashes per second (GH / s), and terahashes per second (TH / s), to mine successfully.

The Bitcoin code rewards miners with additional Bitcoin to encourage them to keep competing to solve the riddles and maintain the entire system. This is how new blockchain transactions are added to the system.

It is vital to note that the Bitcoin hash rate has no relation to the speed at which each block is resolved. The Bitcoin mining difficulty value (adjusted up or down on each block) ensures that the blocks are resolved in a fixed time called the block time.

Bitcoin mining is considerably less profitable than it once was, making it even more difficult to recoup the increased costs associated with acquiring and operating equipment by consuming electricity.

When the system was first introduced in 2009, miners received a stamp each time they obtained an amount of Bitcoin greater than the current one. The reward per block is halved every 210,000 blocks (approximately every four years).

For example, a block of Bitcoin was worth 50 BTC when it was initially mined in 2009. It was reduced to 25 BTC in 2012. In 2016, it was halved again, to 12.5 BTC. The reward was lowered again on May 11, 2020, to 6.25 BTC.

As the number of transactions increases, the amount miners receive for each stamp decreases. By 2140, all bitcoins are expected to have entered circulation, leaving miners with no choice but to rely on transaction fees to make a profit from validating the network.

What is a Bitcoin Wallet and How Does it Work?

A Bitcoin wallet is a digital wallet that can store Bitcoin and other cryptocurrencies such as Ethereum ( ETH ). A Bitcoin wallet (or any other cryptocurrency wallet) is a digital wallet that stores the encryption key that gives access to a public BTC address and allows transactions to be made. There are five types of Bitcoin wallets: mobile, web, desktop, hardware, and paper.

Not only do Bitcoin wallets store your digital currencies, but they also protect them with a unique private key that only you and anyone else you provide the code to can access. A cryptocurrency wallet allows you to store, send, and receive various currencies and tokens. Some handle basic transactions, while others include built-in access to decentralized blockchain-based applications or DApps.

When creating a Bitcoin wallet, you will receive a private and a public key that is linked to your wallet.

A public key is comparable to an email address in that it can be shared with anyone. When your wallet is created, a public key is created that you can share with anyone to receive funds.

The private key is a secret that must be very well kept. It is similar to your password in the sense that it should not be hacked and should not be shared with anyone. Instead, you spend your money using this private key. If someone gains access to your private key, there is a great chance that your account will be hacked and you will lose all your cryptocurrency deposits.

What is a Bitcoin Exchange, and How to Buy and Sell Bitcoin?

A Bitcoin exchange is a digital marketplace where traders can buy and sell BTC using various fiat currencies and altcoins. A Bitcoin exchange is an online platform that operates as an intermediary between buyers and sellers of BTC.

Exchanges can buy and sell Bitcoin using a market order or limit order, just like on a typical stock exchange. To trade Bitcoin on an exchange, the user must first register on the platform and then go through a series of identity verification processes. Once successfully authenticated, the user’s account is created and the user must fund it before they can buy or sell BTC.

However, there are a few things you need to do before delving into how to invest in Bitcoin. These are some of them:

To allocate your funds to invest in Bitcoin, follow our guide here. Similarly, to withdraw your BTC holdings, follow our guide here.

How Anonymous is Bitcoin?

Bitcoin is often called “anonymous” since it can be sent and received without revealing any personally identifiable information. However, obtaining reasonable anonymity with BTC can be difficult and complete anonymity can be unattainable.

Sending and receiving Bitcoin is similar to writing anonymously. If an author’s pseudonym is ever linked to his real identity, everything he has written under that name will also be linked to him.

Your pseudonym is the address where you receive Bitcoin on the Bitcoin network. Every transaction involving the address is recorded on the blockchain at all times. Each transaction will be linked to you if your address matches your identity. Therefore, Bitcoin is pseudonymous and not anonymous.

Advantages and Disadvantages of Bitcoin

Advantages

No government controls the Bitcoin network. Each user who participates in the Bitcoin network automatically guarantees the operation of the protocol. Bitcoin users have much more control over their personal information and financial data than users of fiat currencies and other digital forms of payment such as credit cards, compared to traditional financial infrastructures. They also face less risk of identity theft than users of fiat currencies and other digital forms of payment such as credit cards.

When scammers have access to enough information about a person’s identity, such as their name, current or previous address, or date of birth, they commit identity theft. The risk of identity theft when using crypto is low due to cryptographic private keys, which hide a user’s identity behind a publicly visible Bitcoin wallet address.

The Bitcoin network hash rate, which is a measure of the aggregate collective power of the computers/equipment involved in validating transactions on the Bitcoin blockchain at any given time, is continuously breaking records.

Fortunately, greater network security has been established as the Bitcoin blockchain grows more resilient against the possibility of a 51% attack, ensuring that the shared truth of the blockchain ledger is protected, but the threat of a 51% attack is always possible. When one or more miners gain control of more than 50% of the mining power, computing power, or hash rate of a network, a 51% attack occurs. If successful, the miners in charge effectively control the network and some transactions on it.

A 51% attack would allow miners to prevent the recording of new transactions, prohibit transactions from being validated or completed, change the order of transactions, restrict other miners from mining coins or tokens within the network, and reverse transactions to double-spend coins.

A double spend situation, for example, would allow miners to pay something with said cryptocurrency and reverse the transaction later. This means that the miners keep whatever they bought, as well as the cryptocurrency used in the transaction, thereby scamming the seller. However, as a blockchain grows in size, it becomes more difficult for rogue miners to attack it. On the other hand, smaller networks can be more vulnerable to a blocked attack.

Disadvantages

Governments may attempt to restrict, regulate, or ban the use and sale of Bitcoin, as some jurisdictions have already done. Also, the volatility of Bitcoin is always in the news, which is a crucial reason to avoid accepting Bitcoin as a form of payment for many traders as they are afraid of a price drop. Unfortunately, Bitcoin is still used to pay for illegal operations and to launder money. On the other hand, secret agencies around the world are beefing up their cybersecurity and crime-fighting capabilities using cryptocurrencies.

The irreversibility of Bitcoin transactions is not always a good thing. In the event of an attack, a wrong transaction, or a fraudulent product exchange, it can quickly turn into a big problem.

Everything electronic must be reversible, according to a fundamental principle of modern finance. If Bitcoin is really the internet applied to money, it should also have a “go back” button. You can only prevent fraud without an undo / back button. However, fraud can be detected and minimized with an option to undo when realizing something suspicious has happened and correcting it.

On the contrary, in the case of the theft of BTC, a thief needs the private key to take a million dollars in Bitcoin from a company. BTC balance transfers are irreversible as there is no way to get it back if hackers steal Bitcoin. Also, the password of the Bitcoin wallet is unrecoverable: if a user forgets their password, the money in the wallet will be worth nothing.

The Future of Bitcoin

The next ten years could be crucial for the development of Bitcoin. Aside from the financial revolutions, there are some aspects of the Bitcoin environment that investors should pay special attention to. At the moment, the cryptocurrency is torn between becoming a store of value and a means of making transactions.

Although governments around the world, such as Japan, have recognized that it is a viable means of payment for goods, institutional investors are eager to join the action and capitalize on its price volatility.

However, scalability and security issues have prevented both events from becoming a perfect medium of exchange. In addition, concerns about security, safekeeping, and capital efficiency remain a challenge to be resolved.

Since the industry is new and there is no user-friendly manual, do your own research and read articles like: What is cryptocurrency?, What is the Bitcoin blockchain? , How to mine Bitcoin?