Bitcoin is becoming more popular and is gradually creeping into the mainstream. However, it is often still misunderstood, which is why it earned some unfair notoriety from the media. As a result, a lot of people are poorly informed on what Bitcoin actually is, how Bitcoin is created or how Bitcoin works.
There is nothing wrong with this of course. It is a new technology and you can only learn about it on your own initiative because there are no schools that teach this. In light of this fact, we are happy that you found us as we always make an honest effort to educate!
In this blog post, we will give you all the basic information you need to know about Bitcoin, and we will give you a better understanding of why we believe it is such an interesting technology.
Let’s jump in!
TABLE OF CONTENTS
What is Bitcoin?
Bitcoin was created in 2008 by a mysterious person or organization under the pseudonym of Satoshi Nakamoto. Their identity is still unknown, and it will probably remain like this forever.
The initial idea for the Bitcoin cryptocurrency was published by Satoshi in a scientific article titled Bitcoin: A Peer-to-Peer Electronic Cash System. It summarizes the following:
A purely peer-to-peer version of electronic cash would allow online payments to be sent directly from one party to another without going through a financial institution. Digital signatures provide part of the solution, but the main benefits are lost if a trusted third party is still required to prevent double-spending. We propose a solution to the double-spending problem using a peer-to-peer network. The network timestamps transactions by hashing them into an ongoing chain of hash-based proof-of-work, forming a record that cannot be changed without redoing the proof-of-work. The longest chain not only serves as proof of the sequence of events witnessed, but proof that it came from the largest pool of CPU power. As long as a majority of CPU power is controlled by nodes that are not cooperating to attack the network, they’ll generate the longest chain and outpace attackers. The network itself requires minimal structure. Messages are broadcast on a best effort basis, and nodes can leave and rejoin the network at will, accepting the longest proof-of-work chain as proof of what happened while they were gone.
The abstract above uses scientific terminology, so let’s look at Bitcoin in a more down-to-earth language.
Bitcoin is a decentralized digital currency because the system operates without a central bank or a single administrator. The value and supply of this digital currency are governed by the users themselves. In a sense, it is a currency that truly belongs to the people.
Bitcoin is a cryptocurrency because it is a digital currency that acts as a means of exchange and uses cryptography for securing financial transactions, controlling the creation of additional units (new coins), and verifying the transfer of funds.
Bitcoin is an open source system, therefore no one owns it and everyone can participate in its use and development.
Bitcoin thus removes at least one type of intermediary: banking institutions. Let’s say that you have to transfer 1000 EUR from Slovenia to your relatives in Germany. Money goes through a bank in Slovenia and fees are charged for processing the transfer of funds. The German bank of your relatives charges additional fees, and the entire process can last several days, especially when you send money to a country with a different national currency.
There are no centralized institutions in the Bitcoin ecosystem to collect fees, and transactions can be processed within a few minutes, even if you send funds to the other side of the world. In addition, it is a currency that isn’t limited by national borders.
Now we know that banking institutions have high fees, are generally sluggish in their operations, and have certain geographic restrictions. But that’s not all. For example, banks can, at any time, freeze accounts of their clients, sometimes on very poor grounds. As a result, some people believe that banks hold too much power.
Perhaps you noticed that Bitcoin was created shortly after the 2008 financial crisis. Some people even believe that the crisis helped spark the idea for a decentralized currency and was one of the main reasons for the emergence of Bitcoin. It’s not such a far fetched idea because Bitcoin represents one of the possible futures of our monetary system.
What is Bitcoin: The Basics
Bitcoin is a completely digital currency. It can be used for various types of transactions, online payments, cheap international transfers, etc.
In short, it is the first widespread adoption of a payment system which is not controlled by any world government.
Government organizations and banks virtually indefinitely print or generate new money (EUR, USD, GBP, etc.), while Bitcoin has a built in limited supply of 21 million coins. At present, some 17.5 million coins have already been created, but the last Bitcoin is expected to be mined around the year 2140.
The commonly accepted abbreviation of Bitcoin is BTC. One Bitcoin can be divided into 8 decimal places and the smallest unit is unofficially called satoshi. This is one hundred millionth of a single Bitcoin or 0.00000001 BTC.
What is Bitcoin: What is blockchain?
So how does Bitcoin work? In this chapter, we will look at the blockchain technology in more detail.
Each transaction on the Bitcoin network is recorded on something called the blockchain. This is a public ledger (basically a list of all the transactions) that is maintained and updated by thousands of miners worldwide (more on mining below). All transactions are anonymous but are publicly available for anyone to view.
How are Bitcoins created? Find out in the next two chapters.
What is Bitcoin: What is Bitcoin Mining?
Bitcoin is created by computers that participate in the management of this public ledger or database. Computers verify and validate Bitcoin transactions and are rewarded with new Bitcoins when they successfully add a new block to the blockchain. This process is called mining, and computers are known as miners.
Mining is a distributed consensus system. It is used to validate transactions waiting to be included in the blockchain. This is how a chronological ordering of transactions is achieved and the network neutrality is protected.
Stringent encryption rules prevent any modifications as each block contains a record of the latest transactions and a special mathematical function that points to the previous block in the blockchain.
Any fraudulent or malicious attempts to change the data in the block would cause all subsequent blocks to be invalidated. You would never be able to add such a block to the blockchain because the consensus would not be reached.
Individuals can’t influence the blockchain, nor can they replace parts of the chain in hopes of manipulating transactions. This ensures that the recorded transactions remain on the blockchain forever and cannot be subsequently modified.
How is Bitcoin created?
Now that we better understand the blockchain technology, we can take a closer look at the process of creating new Bitcoins.
A new block is added to the blockchain every 10 minutes. The most successful miners are awarded the newly created Bitcoins. You have to understand that the award is never given to a single person since no one in the world has sufficient computing power to solve the complex mathematical operations required for a successful block. A higher number of miners results in a more secure network.
As a result, miners collaborate and group their computing power into so-called “mining pools“. The prize is then distributed in proportion to the work that they put in (those with a larger input of computational power receive a higher prize).
The prize is halved every 210,000 blocks. Initially, the miners were rewarded with 50 Bitcoins, and in 2012 the prize was halved for the first time (to 25 Bitcoins). The second halving followed in 2016. This is where we are currently with a prize of 12.5 Bitcoins. The next halving is projected for May 2020.
The prize is halved approximately every four years. We get this timeframe by multiplying ten minutes (the average time for a new block) with 210,000 (the number of blocks required to achieve the halving). As a sports fan, I find it interesting that the halving events are in the same year as the Summer Olympics.
The gist of it is this: More miners provide a safer network, but also cause a higher mining difficulty. This is because the system ensures that the block is added every 10 minutes (and not sooner or later).
What are the core Bitcoin values?
To help us understand the main advantages of Bitcoin, we can also look at the main Bitcoin values that can be summarized in the next three points.
- Decentralization: solving the double-spending problem (transactions cannot be duplicated, which prevents the infinite creation of new coins).
- Limited supply: there can be no more than 21 million Bitcoins (providing a predictable supply and increased demand).
- Cryptography: it’s impossible to know the details of the sender/recipient (the transactions are anonymous).
Let’s explain each point in more detail …
What is Bitcoin: Decentralization
In order to understand how Bitcoin works, it is essential to understand what a decentralized network is. The concept of decentralization has already been described above, but we can look at it from another point of view. When you visit your web browser and enter “www.google.com,” your computer starts a conversation with Google servers. The browser then shows you various search results. If Google’s servers were not available for whatever reason, you would not be able to see those results. This is because the data is stored in a centralized network.
In a decentralized network, we can avoid such problems.
What is Bitcoin: Limited supply
The main advantage of limited supply is the concept of supply and demand. People always attribute a higher Bitcoin value to rare things, which means that a smaller supply usually leads to higher demand and thus a higher price. Imagine rare (old) cars or rare gemstones.
Bitcoin is built on the same concept as its supply is limited to 21 million coins, and there will never be more coins in circulation.
What is Bitcoin: Cryptography
Bitcoin uses cryptography (a technique for secure or encrypted communication) for converting transaction data. One of the most famous historical devices for cryptographic communication is Enigma, which was used during the Second World War.
Unlike Enigma, in which allies have managed to find a solution for decoding messages, Bitcoin’s cryptography is unsolvable. At least for now, although it is expected that it will remain so for a long time, unless an unforeseen jump in computational power occurs (quantum computers may pose a threat, but they are far from becoming a reality anytime soon).
The cryptographic algorithm used in Bitcoin is called Elliptic-curve cryptography.
It could also be called cryptography of public and private keys. This technology allows you to prove ownership of your Bitcoin wallet with a pair of cryptographic keys: a private key and a public key.
A combination of these keys creates a digital signature. The main purpose of using such cryptography is to create a secure digital reference of user’s identity.
The identity of the wallet holder is therefore based on possession of a combination of private and public cryptographic keys. Digital signatures prove ownership of your assets and allow you to control your assets.
A Bitcoin wallet is always composed of two parts:
- The first part is the public address (or public key). It’s like an email address and you can freely share it with others.
- The second part is the private key. It’s like a password and you must never reveal it publicly.
Similar to a handwritten signature, the digital signature is used to verify the identity prove ownership over a particular wallet. In addition, your actual identity remains anonymous, as other people only need your public key if they want to send you Bitcoin.
In the case of Bitcoin, digital signatures are a mathematical function that matches with a given wallet. If you attach a digital signature to a transaction, nobody can argue that this transaction actually came from your wallet.
A private key is used to encrypt transactions while the public key is used to decrypt a transaction. Therefore, we have to reiterate that the private key must always be secure. The public key is intended for sharing with third parties and ensures that you are the owner of the address that can receive funds. The sender encrypts the transaction with his private key, which can be decrypted only by the recipient with the public key of the sender.
What Is Bitcoin: How to Buy Bitcoin
There are a lot of different options for buying Bitcoin. The most convenient method for beginners is certainly buying through an online exchange.
If it is a licensed and regulated exchange, then you will have to use your name, address and a passport or a national identity card. I recommend Kriptomat because it is easy to use, reliable and you can use different payment methods.
Another option is to use a Bitcoin ATM. It’s an instant purchasing method and you can stay more anonymous. At least until you stay within the smaller amounts. You can use the ATM to buy Bitcoin directly with cash or with a credit card.
But it is a slightly less convenient method because you need to find a physical location of the nearest ATM. However, depending on your current whereabouts, this is not necessarily such an easy task.
Read our article on How to Buy Bitcoin if you wish more information.
What Is Bitcoin: what can you pay with Bitcoin?
You can use Bitcoin to buy and sell goods or services.
For example, it should become increasingly easier to travel the world with Bitcoin because you will only need one currency. Can you imagine that you don’t need physical money in your pocket? Or that you don’t need to exchange money when going to a new country? You will be able to use Bitcoin from any device anywhere in the world.
Even if you lose your physical wallet, Bitcoin is always there for you; safely stored in your virtual wallet. Therefore, Bitcoin is one of the most convenient means of payment when you’re traveling. You can use bitcoin to buy plane tickets, rental cars, and hotels; aside from pizzas and properties, of course. Let’s see how we can do it.
You can use Kriptomat as your go-to personal crypto bank account when you’re traveling or going about your day-to-day life. You can then use your crypto funds however you wish; send them to your private wallet, to your friends and family, or to other services.
What Is Bitcoin: Infographic
Bitcoin represents a revolution in the monetary system, and the technology is still very young. It is a digital currency and a payment system. Transactions don’t need an intermediary and more traders are accepting it every day.
The Bitcoin creator Satoshi Nakamoto remains anonymous, but his identity doesn’t really matter. His idea now has a life of its own and it doesn’t seem that Bitcoin’s popularity will decline anytime soon.
Comment below if you have any questions! 🙂