How Bitcoin works?


The interesting thing about Bitcoin is that the majority of the people that use it do so without having the slightest idea and understanding of how it actually works. In a nutshell, Bitcoin presents itself as a new generation decentralized digital currency created and functional only on the Internet.

What does that mean exactly? Decentralized means that no single individual or organization can control it. No matter if you are the state, a programmer, or a businessman, no one has control over the bitcoin network, which is what makes it so attractive. All transactions are transparent and anonymous. In other words, you can follow all of the transactions made with Bitcoin, but you will not know who the senders and receivers are.

How is Bitcoin’s value defined then?

Gold is backed by gold reserves, which is slowly and surely increasing in value. Believe it or not, Bitcoin’s value is identified by the interest of its user base.

One of the biggest disadvantages of Bitcoin, if it can be considered that, is that there is no single financial institution backing the currency, meaning it is not secure, and in the event of a loss, no one will return your losses to you. If in the case of money theft from a bank card, your lost funds can be returned to you, then in the case of Bitcoin and Altcoins, it is no one’s job to do that. On the other hand, this is a big plus, since the transactions you make cannot be canceled and denied by anyone else.

The price then grows only on the basis of the clients’ faith in the cryptocurrency and speculations on the stock exchange. If a million bitcoins are thrown onto the market at the same time, it will collapse. If everyone suddenly stops believing in Bitcoin, the market will collapse as well.

How can you get returns of 1000% and more?

On the other hand, like any high-risk product, Bitcoins and Altcoins have enormous volatility (a statistical financial indicator characterizing price volatility, one of the most important financial indicators). You can get returns of around 1000% and more, as experience shows, which is what makes it both attractive and unattractive at the same time, with the constant threat of the price experiencing a drawdown looming nearby. In contrast, everything is a lot simpler with gold and the EUR/USD pair, for example. Last year’s volatility was at only 4%. Although slow, the momentum is at least stable.

How does Bitcoin Blockchain work?

The key element of the system is the register that tracks the history of all transactions. The blockchain can be represented as a large collective register in which all confirmed transactions are included. Based on this register, wallets calculate your balance and check all expenses. The integrity and chronology of the blockchain register is based on cryptography. Those who want complete anonymity usually use a new bitcoin address for each new transaction, which bloats the blockchain even more. Bitcoin is a vivid example of the implementation of a single registry on the network. It is independent from banks and you do not need to pay a commission to use it. It is free from state regulation, and since it has no physical form, bitcoin can be split up to one millionth.

Are Bitcoin transactions safe?

Nowadays most people are familiar with the term transaction. When you buy something in a store and pay with a credit card through a terminal, you are partaking in a transaction. In the case of bitcoins, a transaction refers to the transfer of funds between Bitcoin wallets. Wallets contain secret keys which are used to sign transactions. An analogy would be an electronic key with which you can sign documents or a PIN code that you enter in the terminal.

Transactions are broadcasted between all users and begin their confirmation stage via the network through a process called mining.

How does Bitcoin mining work?

It is likely that you have heard this word even more often than bitcoin and read about expensive farms that operate and mine bitcoins with video cards. Mining is the processing of data in a distributed system that is used for historical confirmation of transactions before their inclusion in the blockchain. Prior to this, transactions must be packaged in blocks that meet the cryptographic requirements, after which they must be verified by the network. The blocks also record information about past transactions, the hash of the previous block to ensure the connectivity of the chain, and the fact that new Bitcoins were issued. As a result, solving the problem is the essence of mining.

Mining is not controlled by anyone, and the substitution of parts is impossible, but it is an integral part of the secure payment scheme nonetheless, as it serves to verify network operations, preventing duplicate payments and fraudulent activity. Basically, users can exchange their computing for bits of bitcoin.

Now the race between amateur miners has practically come to an end, seeing how professionals have entered the game that are working with the so-called ASIC chips, created only for mining. Now, any investments into super expensive and power GPU’s are no longer worth it or justifiable. Businesses can invest tens of thousands of dollars into industrial mining farms, displacing enthusiasts and newcomers from the mining market. This is especially the case where electricity is cheap.

Hash functions

A hash function is a mathematical transformation that operates based on a certain algorithm that turns a set of information into a unique alphanumeric value of a certain fixed length – a hash, or in other words – a cipher code. You can draw an analogy with torrents. Since they are part of a decentralized network, they also use a hash to verify the uniqueness of a particular torrent. Therefore, sometimes people can compare bitcoin with torrents, but the first is much more complex. Even the smallest change to any one character causes the long hash to change drastically, with the original value being impossible to restore because the process is irreversible.

The future of bitcoin

If at the very inception of bitcoin, the reward for mining was 50 Bitcoins, now it stands at 12.5 Bitcoins, and this number is halved every 4 years.

The number of bitcoins that can ever be mined and brought into the network is limited to 21 million, with around 17,6 million currently in circulation.

This means that over the course of the last decade, we have already mined 83% of all bitcoins, and it will take 100+ years to mine the rest.

This genius move by Satoshi Nakamoto to implement bitcoin halving is what will potentially drive bitcoin towards becoming a universal world currency.

Halving bitcoin every 4 years means a fewer number of bitcoins will be appearing each year, and since that turns it into a limited supply commodity, prices will increase, as their scarcity also increases proportionally.

It is estimated that the last bitcoin will be mined sometime around the year 2140.

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