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What are bitcoins?

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Bitcoin is the world’s first successful decentralized cryptocurrency and payment system, launched in 2009 by a mysterious creator known only as Satoshi Nakamoto. Bitcoin is represented as market value by the ticker symbol BTC.

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Bitcoin is the world’s first successful decentralized cryptocurrency and payment system, launched in 2009 by a mysterious creator known only as Satoshi Nakamoto. The word “cryptocurrency” refers to a group of digital assets where transactions are secured and verified using cryptography – a scientific practice of encoding and decoding data. Those transactions are often stored on computers distributed all over the world via a distributed ledger technology called blockchain. Bitcoins can be broken down into smaller units known as satoshi (up to 8 decimal places) and used for payments, but are also considered a store of value like gold. This is because the price of bitcoin has increased significantly since its inception - from less than a penny to tens of thousands of dollars. Bitcoin is represented as market value by the ticker symbol BTC.

The term “decentralized” is often used when talking about cryptocurrencies and simply means something that is widely used and does not have one central location or controlling body. In the case of Bitcoin and many other cryptocurrencies, the technology and infrastructure that governs their creation, deployment, and security do not rely on centralized entities such as banks and governments to manage them. Instead, Bitcoin is designed in such a way that users can exchange value with each other directly over a peer-to-peer network; a type of network in which all users have equal performance and are directly connected to each other without a central server or intermediary company operating in the middle. This allows data to be shared and stored or bitcoin payments to be sent and received seamlessly between the parties.

The Bitcoin network (uppercase "B" in relation to networks and technology, lowercase "b" in relation to the actual Bitcoin currency) is completely public, meaning that anyone in the world who has an internet connection and a device that can connect to it, can participate with it without limitation. It is also open source, which means anyone can view or share the source code on which Bitcoin is built. Perhaps the easiest way to understand Bitcoin is to think of it as the internet for money. The internet is purely digital, no one owns or controls it, it has no limits (meaning anyone with power and devices can connect to it), it works around the clock and people using it can easily exchange data with each other. Now imagine if there was an “internet currency” that anyone using the internet could use to help protect, spend, and pay directly without the need to involve a bank. This is basically Bitcoin.

Alternative to fiat currency

Nakamoto originally designed Bitcoin as an alternative to traditional money so that it would eventually become a globally accepted legal tender for people to use to buy goods and services. Bitcoin's usefulness for payments, however, is somewhat hampered by price volatility. Variability is a word used to describe how much the price of an asset changes over time. In the case of Bitcoin, its price can change dramatically from day to day - and even minute to minute - making it not an ideal payment option. For example, you don't want to pay $3.50 for a cup of coffee and 5 minutes later it's $4.30. On the other hand, it doesn't work well for traders if the price of Bitcoin drops drastically after the coffee ships. In many ways, Bitcoin works the opposite of traditional money: it is not controlled or issued by a central bank, has a fixed supply (meaning new bitcoins cannot be created at will), and their price is unpredictable. Understanding these differences is key to understanding Bitcoin.

How does Bitcoin work?

It is important to understand that there are three separate components of Bitcoin, all of which together make up a decentralized payment system:

bitcoin network

The original cryptocurrency of the Bitcoin network, called Bitcoin (BTC)

Bitcoin Blockchain

Bitcoin operates on a peer-to-peer network where users – usually individuals or legal entities wishing to exchange Bitcoins with others on the network – do not need an intermediary to execute and validate transactions. Users can connect their computers directly to this network and download its public ledger, which records all historical Bitcoin transactions. This public ledger uses a technology known as "blockchain", also called "distributed book technology". Blockchain technology allows cryptocurrency transactions to be checked, stored and ordered transparently and always. Consistency and transparency are important requirements for a Zero Trust based payment system. Whenever a new transaction is confirmed and added to the ledger, the network updates each user's copy in the ledger to reflect the latest changes. Think of it as an open Google Doc that automatically updates when anyone with access edits its content.

As the name suggests, the Bitcoin blockchain is a digital chain of chronologically organized "blocks" - pieces of code that contain data about Bitcoin transactions. It is important to mention, however, that transaction validation and Bitcoin retrieval are separate processes. Refunds can still occur regardless of whether the transaction is added to the blockchain or not. Likewise, the bitcoin transaction boom does not necessarily increase the rate at which miners discover new blocks. Regardless of the volume of transactions pending confirmation, Bitcoin is programmed so that a new block can be added to the blockchain every 10 minutes. Due to the public nature of the blockchain, all network participants can track and evaluate Bitcoin transactions in real time. This infrastructure reduces the possibility of an online payment problem known as double fees. The fees are doubled if a user tries to spend the same cryptocurrency twice.

Bob, who has 1 bitcoin, can try to send it to Rishi and Eliza at the same time and hope the system doesn't notice. Double fees are avoided in the traditional banking system, as coordination is carried out by a central authority. This is also not a problem with physical money, as you cannot give the same dollar bill to two people. However, Bitcoin has thousands of copies of the same ledger and therefore requires the entire network of users to unanimously agree on the legitimacy of every Bitcoin transaction that takes place. This agreement between all parties is known as "consensus". Just as banks keep their customers' balances up to date, whoever has a copy of the Bitcoin ledger is responsible for verifying and updating the balances of all Bitcoin holders. So, the question is: How does the Bitcoin network ensure consensus even though countless copies of public ledgers are kept around the world? This is done through a process known as "proof of work".

What is proof of work?

Computers on the Bitcoin network use a process called Proof-of-Work (PoW) to validate transactions and secure the network. Proof of work is the “consensus mechanism” of the Bitcoin blockchain. While proof-of-work is the first and most commonly used consensus mechanism for cryptocurrencies running on the blockchain, there are others, most notably Proof of Bet (PoS), which tend to consume less overall computing power (and therefore less energy). Evidence of performance elevates some network participants to the role of "validator" - more commonly known as "miner" - only after they demonstrate their commitment to the network and invest a lot of computing power in finding new blocks - a process that usually takes about 10 minutes. When a new block is discovered, miners who managed to find it in the mining process must fill it with a validated 1 megabyte transaction. This new block is then added to the chain and each copy of the ledger is updated to reflect the new data. In return for their efforts, miners are allowed to keep all fees associated with the transactions they add and receive a certain amount of newly minted bitcoins. New Bitcoins, created and awarded to successful miners, are known as the "block price".

All Bitcoin users must pay a network fee (usually based on their size) each time they send a transaction before the payment can be queued for validation. Think of it as buying a brand to issue a letter. The purpose of additional transaction fees is to meet or exceed the average fees paid by other network participants so that your transactions are processed on time. Miners have to pay their own electricity and maintenance costs while working with their machines all day to validate the Bitcoin network, so they prioritize transactions with the highest fees in order to make as much money as possible by filling new blocks. You can see the average cost in a Bitcoin memepula, which can be compared to a waiting room where unconfirmed transactions take place until they are selected by miners and added to the blockchain.

How are Bitcoins created?

The Bitcoin network automatically releases newly mined Bitcoins to miners when they find a new block and add it to the blockchain. The total bitcoin supply is limited to 21 million coins, meaning the protocol will stop minting new coins as soon as the number of coins in circulation reaches 21 million. Somehow, bitcoin mining functions as a transaction validation process and a bitcoin issuance process (until all coins are extracted, it only functions as a transaction validation process). It is important that increasing the computing power of Bitcoin mining does not mean that more Bitcoins will be mined. Miners with more computing power only increase their chances of getting the next block, so the number of bitcoins mined remains relatively stable over time.

The Bitcoin network uses a coin distribution strategy known as “half bitcoin” which causes the amount of Bitcoin distributed to miners to decrease over time. Gradually reducing the supply of new bitcoins in circulation is the idea that this will help keep the asset's price in place (based on the basic principle of supply and demand). Bitcoin's decline (sometimes referred to as a "halving") occurs every 210,000 blocks, or about four years. When the Bitcoin protocol was first introduced in 2009, every successful miner received 50 Bitcoins (BTC) as the block price. Fast forward to 2021: The block reward is now 6.25 BTC, 12.5 BTC before bitcoin halved in May 2020.

The next half is expected to be around 2024, with block rewards dropping back to 3,125 BTC. This process continues until there are no more coins until min. There are currently over 18.7 million BTC in circulation, which means there are only 2.25 million BTC in circulation. However, taking into account the half principle and other network factors such as mining difficulty, it is estimated that the last bitcoin will be mined around 2140.

What is a Bitcoin Wallet?

A Bitcoin Wallet is a software program that runs on a computer or special device and provides the necessary functions to protect, send, and receive bitcoins. In contrast, Bitcoin itself is not stored in a wallet. In contrast, a wallet protects a cryptographic key - essentially a very special type of password - that proves ownership of a certain number of bitcoins on the bitcoin network. Each time a Bitcoin transaction is made, ownership of the Bitcoin is transferred from the sender to the recipient, with the network providing the recipient's key as the new Bitcoin access password.

Bitcoin uses a system called public key cryptography (CCP) to maintain the integrity of its blockchain. Originally used to encrypt and decrypt messages, CCP is now widely used as a blockchain to protect transactions. This system only allows people with the correct set of keys to access certain coins. There are two types of keys required to own and execute Bitcoin transactions: private keys and public keys. Both keys are randomly generated strings of alphanumeric characters used to encrypt and decrypt transactions. On the Bitcoin network, the CCP implements a one-way mathematical function that in some cases is easy to solve and almost impossible to undo.

Blockchain uses a one-way mathematical algorithm to generate a public key from a private key. This makes it nearly impossible to recover the private key from the public key, which means it's better not to lose your key (or forget your password to access it). You are also given a public address, which is a hash or shorter form of your public key. This address functions similarly to a private address and is shared to receive bitcoins. On the other hand, the private key must remain hidden from prying eyes, just as the PIN code of your debit card is for your eyes only.  To make transactions, you need to use your private key and public key to encrypt and sign your Bitcoin transactions. You must also provide the recipient's public address. This means that only the recipient can activate or request the bitcoins transferred with the correct private key.

 

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