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What Is Bitcoin? A Beginner’s Guide
Bitcoin Introduction
The first step to getting a hold of the finance industry’s future is knowing what bitcoin and bitcoin mining is and how they work. Also, the growth in bitcoin prices has sparked interest among many investors. However, knowing the key concepts of this technology is what every beginner needs to pay keen attention to.
So, in this article, we will look at what bitcoin is, bitcoin mining, how it works, its public and private key, when and why Satoshi created it, etc.
Bitcoin (A Game of Guessing Numbers)
Its whitepaper described the digital currency as a “peer-to-peer electronic cash system.” However, the big question is, where did Bitcoin originate from?
The system gives a new Bitcoin to every computer user who solves complex mathematical problems from its algorithms. Another name for these mathematic problems is hash. So, what is a hash? A hash is a hexadecimal 64-digit number. Usually, the number is at most equal to the specific hash. Therefore, the digital currency is just a number like the regular 1234567.
Example
For example, if Mr. Brian gets out $1 from his pocket, the bill will have a specific number. Let’s assume that the number is G890776899Z. Now, the number on this dollar bill will be unique to it. According to the United States Federal Reserve System, no other dollar bill will bear that number.
So, since the bill is worth $1, Mr. Bill can use it to buy a pen. Again, let’s assume that Mr. Bill and Mrs. Lydia agree that another bill with the number F3465982165H is worth $5,000. Now, the only difference between Bitcoin 1234567 and the bill with the number F3465982165H is this; the bill exists physically, and at face value, it is worth something. However, this digital currency is just a number with no intrinsic value. The value will be the bitcoin price agreed upon by the parties involved.
Although two people may have agreed on the number, however, of and in itself, the number has no value. Eventually, its value is based on the agreement by individuals. Therefore, a group playing the number game invented the digital currency.
Another big question will be, “why did people even start playing the game? Well, here is the simple reason. The numbers help in verifying and securing transaction history on its network. So, if you want to add a new transaction will first need to win the game of numbers. However, playing the game and winning requires a lot of computer energy.
What Backs Bitcoin and Its Working Model?
Digital currencies do not work like traditional currencies. The federal government does not back it, and no central bank issues it. So, inflation rates and economic issues do not affect the bitcoin price. The basis of bitcoin mining is the blockchain. The technology is a shared digital ledger.
Furthermore, a blockchain is a link joining blocks of data. The blocks contain data details like the sellers and buyers, date and time, unique identity and total value, and the exchange codes. All these data are set chronologically.
Also, no one can edit the data on the blockchain. The inability to edit blockchain transactions makes it secure and transparent. The people who include transactions in the chain are called miners. Again, the unique codes in the hash make counterfeiting impossible.
The Reason for Bitcoin Creation
Before the 21st century, people converted their currencies to gold, silver, and other precious metals. However, most people and countries stopped that between the 1920s to 1970s. Again, these precious metals were too heavy to carry about as means of exchange. So, people kept them in banks and collected bank notes as proof of ownership.
From that time till 2008, people relied hugely on banks to protect their money and the value of their currency. However, in 2008, there was a global financial crisis. Banks relied on the government to pull them out of this crisis using taxpayers’ money.
This problem revealed the weak regular finance system, leading to the need for decentralized banking. So, the answer to this global crisis and decentralized banking was BITCOIN.
The currency came into play to remove banks’ use in transactions. Also, the currency will use a network-based ledger to ensure that transactions are transparent. The bitcoin price when it was launched was $0.
The Creation of Bitcoin
Satoshi mined the genesis (first) block in 2009. Satoshi Nakamoto launched its blockchain on the 3rd of January, 2009. After seven days, people ran the first test transaction on the blockchain. Bitcoin mining was only available to those verifying transactions (miners) for the first few months.
At this time, there was no monetary value attached to Bitcoin mining. So these miners use their machines to solve mathematical problems. Then the bitcoin mining system gives them digital currency for having fun. After a few months, the bitcoin price began to soar.
The digital currency’s first economic transaction happened in Florida on the 22nd of May 2010. A man bought two boxes of pizza worth $25 with 10,000 Bitcoins. Today, the 22nd of May is known as Bitcoin Pizza Day.
When Was Bitcoin Created?
The 2008 crisis was before its creation. A person or group wrote the paper under the pseudonym, Satoshi Nakamoto.
The 2008 crisis, known as the subprime mortgage crisis, was a worldwide event. This crisis causes very low liquidity in the banks. However, the crisis started because of the housing market’s collapse in the US.
The global recession put people’s money in the bank at risk. So, it paved the way for the first digital currency in a blockchain-distributed ledger.
How Does Bitcoin Work?
The first documentation of the whitepaper carried the fundamentals of cryptography. Also, it showed how the technology would be a P2P electronic payment system. Furthermore, the whitepaper showed that the electronic payment system would be secure, trustless, permanent, and decentralized. Also, it showed that a central authority would not control the bitcoin price.
Bitcoin is a cryptocurrency, also known as digital money functioning without a central authority. In summary, a cryptocurrency is a digital exchange that uses encryption to verify and secure transactions.
Encryption means turning actual texts into random or meaningless texts. Another name for encrypted text is cipher text. So, through secure communication, the sender and receiver can know the content of the encrypted texts.
The creation of this digital currency was to be an alternative to fiat money. However, the fiats have governmental backing, and central banks issue these currencies. Digital currency uses P2P technology to carry out transactions between two people. Although, these two people will agree that this digital currency has intricate value. Also, these people will transact without needing a trusted third party.
Private and Public Keys in Bitcoin
Fundamentally, digital currency uses a public key cryptosystem. The public key is used for digital value exchange between people in the digital ecosystem. Also, the users involved facilitate the transactions through digital signatures.
As the sender encrypts with a public key, the receiver can decrypt via a public key. Again, a digital signature is a signature done electronically. Primarily, the signature uses mathematical algorithms to verify the integrity of the encrypted message. So, Bitcoin is a group of digital signatures linked together.
For a user to transact with digital currency, the person must have access to public and private keys. So, a person who has this digital currency is a person that has access to both private and public keys. A public key also refers to an address to which a sender can send digital currency. Then the private key is a special key that allows the receiver to access the digital currency that a sender sent.
So, while private keys are not to be shared, you can share your public keys with other people. Finally, both keys are alphanumeric keys.
Transaction Outputs and Inputs
For transactions to occur on the blockchain, three elements are involved.
- Am amount
- An input
- An output
An input address is an address from which the sender sends the amount. However, the output address is an address that the sender sent to. In other words, it is the address of the receiver. The reason for multiple transaction inputs and outputs is value splitting or merging.
For example, if Romeo wants to send 1BTC to Juliet, he sends a transaction-specific message. The message will carry a signature done with his private key. Then he will have to broadcast the message to the network.
Broadcasting and Confirmations over the Network
Romeo will broadcast this transaction to the network through his wallet. Then his input will be verified by miners. Also, these miners will add other transactions to the block where Romeo’s transactions are. Although, it is just one miner that the system will select to do it.
After this, the miner informs the network of a new block to be added. If the other nodes agree that the block is valid, the miner can add the new block to the network. Subsequently, this process will continue with other different miners. They will build on the existing block that the first miner added. Finally, as more blocks are added to the chain, Romeo’s transactions will keep growing.
Bitcoin Mining and How It Works
Bitcoin mining is a process through which the network adds new blocks to the blockchain. The process is a difficult one, so miners use the PoW technique. Primarily, the technique involves using computers to solve complex mathematical transactions. In the end, the miner that solves the mathematical transaction validates the transactions and adds a new block.
Generally, miners during bitcoin mining attempt to produce a hexadecimal number (64-digits). This number is a hash equal to or less than a target hash. Also, a lot of miners in the network try to solve and produce this hash at the same time. The number of hashes produced for a given problem is called the Hash Rate.
Generally, hash rates are measured in Hashes per Second. To win the hash race, miners need to mine with machines that can produce high hash rates. For example, MH/S (Megahash per Second).
Moreover, the system gives anyone who wins the bitcoin mining race the digital currency as a reward to encourage others to keep racing. Again, after every 210,000 blocks mined, the reward is halved. This halving will continue until the network mines all the unmined bitcoins. Specifically, the network is going to mine every bitcoin by 2140.
The halving of the bitcoin reward influences how profitable mining is even with the increase in bitcoin price. For example, a 12.5 BTC mining reward when the bitcoin price is $25,000 will be worth more than 3.12BTC even if the bitcoin price is $50,000.
To further decrease mining profits, the bitcoin price is not always on a positive trend.
Bitcoin Wallet and How They Work
A wallet is a digital safe for storing digital currencies. Also, Wallets store encryption keys that give users access to their public keys. Moreover, wallets protect digital currencies in them via a private key.
When you create a wallet, you will get a private and a public key linked to your wallet. Also, with these keys, you can access your wallet (private keys) and send and receive this digital currency (public keys). Furthermore, you can share your public key but do not share your private keys. They are like passwords. So, if you share them anyhow, you will open your wallets to hacks.
Bitcoin Exchange and How to Buy and Sell Bitcoin
An exchange is a digital marketplace where bitcoin traders buy and sell using fiats. Also, traders can buy bitcoin from these digital marketplaces using altcoins. Moreover, the exchange acts as a middleman between sellers and buyers. Also, most exchanges allow traders to see the bitcoin price in real-time.
As a trader, you can buy bitcoin using limit and market orders like in a stock exchange market. However, before you buy and sell, you must register with your preferred exchange. After registration, you will go through verification checks. So, if the verification is a success, you must fund your account with fiat to either buy or sell bitcoin.
Bitcoin’s Anonymity
Bitcoin is popular for being called ANONYMOUS. The reason is that you can see the transactions without knowing the parties transacting. However, you might not get total or complete anonymity.
Typically, transacting digital currency is like anonymously writing a document. If you can trace the author’s pseudonym to their identity, you can link other things under that name to them.
In this case, your pseudonym is your public key address with which you receive bitcoin. Every transaction in the blockchain is linked to your address. So, if someone identifies you as the address owner, they will trace all transactions under that address to you. Therefore the digital currency is not anonymous. It is pseudonymous.
Advantages and Disadvantages of Bitcoin
Advantages of Bitcoin
- Any governmental authority does not control it.
- Everyone in the network is involved in the operations of the system protocols.
- Bitcoin users can control their personal information.
- Its users face a lower identity theft risk than other fiat currency users.
- You cannot double-spend with this digital currency.
Disadvantages of Bitcoin
Although this digital currency has advantages, it also has disadvantages. Here are some of its disadvantages.
- This digital currency may face heavy restrictions from governmental authorities because it is difficult to regulate.
- It is very volatile.
- It is easy to use for fraud because of its pseudonymity.
- Its transactions are irreversible.
- Bitcoin price fluctuates.
Bitcoin’s Future
The next decade might be very important for the development of digital currencies. Although, bitcoin can change the financial systems. However, it struggles between being a transaction medium and a value store.
Moreover, it has security and scalability issues. These issues have prevented it from being an ideal exchange medium. Moreover, the concerns with custody, security, and efficiency with capital are still issues that need addressing.
Conclusion
This article shows the basics of bitcoin mining, its advantages and disadvantages, wallets, how it works, and its future. Digital currency will be a disruption in the traditional finance sector. Knowing the basics will keep you informed and prepared for this positive disruption.
