Bitcoin- What & How- All Your Questions Answered


Bitcoin explained
Image credit: bitcoin.org
What is Bitcoin?

Bitcoin refers to two things. Bitcoin is a digital currency. It is also an online payment system in which bitcoins are used.

The idea behind the Bitcoin technology was introduced by an unknown person, under the pseudonym Satoshi Nakamoto in the year 2008. He released the software in the public domain in the year 2009.

The bitcoin system process transactions in a peer to peer fashion, that is, transactions take place between users directly without any intermediary like bank, credit card companies etc.

Also, it is not regulated by any central authority and therefore, it is the world’s first decentralised currency.

There are two main issues in designing a decentralised payment system without any intermediary:

  1. Recording and Verification of transactions
  2. The problem of double spending: When we spend money through debit card, the bank will debit (deduct) the money from our account and we will not be able to spend it again. But, without an intermediary, a person could spend bitcoins, delete that transaction from the record and spend the same money twice. We can look at it as, spending more than the amount we actually have in our bank accounts.
So, how does the Bitcoin system solve this problem of double spending?

The technology used to verify and record bitcoin transactions is the blockchain.

The Blockchain is a shared public ledger. It records every transaction done through the bitcoin system. Most ledgers are private, but blockchain can be accessed by anyone. Everyone can track how much money each wallet has. But, it is not possible to know anything about the sender and the receiver. The parties to the transaction can remain anonymous.

We will explain blockchain technology in this post. But, before that,

How to use bitcoin for transactions?

A user can acquire bitcoins through bitcoin exchange or by accepting bitcoins as payment.

The user has to set up a bitcoin wallet. 

The wallet will have two keys: Private and Public key. The private key is used by the user to transfer ownership of the currency. The private key is confidential and is to ensure that only the owner is able to spend or transfer money from his wallet.

The public key is available to all and other people will send money to this public key/ address. It is akin to an email address.

Who records transactions in the Blockchain/ shared public ledger?

Miners. Miners are the individuals who contribute their specialised computers to the system.

If any transaction is initiated, information is sent to all miners.

About every 10 minutes, mining computers collect a few 100 pending transactions and turn them into a mathematical puzzle. Basically, the mining computers take the amount, sender address, receiver address and private key and turn it into a difficult puzzle.

This is to keep the private key secure and also to make it difficult to tamper with the blockchain.

Then, the mining computers compete with each other to solve the problem. The first miner to solve the complex problem checks whether spender has the right to spend the money.

If there is enough approval (51%) of other miners that there is no attempt to spend the money twice, the transactions are added to the ledger as a block.

Block is a group of verified transactions and it is chained to prior blocks.

A person who wants to steal the coins or hack into the system cannot rewrite the blockchain. They will have to control more than 50 % of the mining capacity. It is very expensive and requires a concerted effort by lots of miners. Hence, it prohibits hackers.

What is in it for the miners?

The miner who solves the puzzle first gets awarded with newly generated bitcoins.

Hence, the blockchain is the technology behind bitcoin. It is used for verifying and recording transactions.

It protects the record from deletion, tamper and revision.

This technology also serves the purpose of mining new bitcoins.

The Bitcoin network is designed in such a way that no more than 21 million bitcoins will be issued.

Hence, the number of bitcoins generated keeps on decreasing.

Mining has also become increasingly difficult. Initially, a person with a desktop and CPU could become a miner. Then, they started using graphic cards instead of CPUs. Now, they have moved on to computers designed specifically for Bitcoin mining known as ASCIs or Application Specific Integrated Circuits.

Is the blockchain technology completely secure?

The miners can pool their computing power and consolidate to seize control of the blockchain. But, it is extremely difficult. Blockchain has remained resistant to hacking.

What are the advantages of Bitcoin?
  • Though Bitcoin has not become that popular as a currency, it could be a foundation for future revolutions in the payment system which is faster, cheaper and secure.
  • It could become easier to carry out international transactions.
  • It can be used in emerging countries with a dysfunctional financial system. An organisation called Stellar is already using this technology in countries like Nigeria and Africa to provide affordable financial services.
  • The technology used in blockchain could be used in other areas like transferring ownership of a property, debt, shares etc. It will eliminate all intermediaries involved in such transactions. The organisations who want to replicate the blockchain technology can choose to keep the identities of the parties public.

(Read: Applications of the Blockchain technology in India)

What are the disadvantages of Bitcoin?
  • As it is anonymous, it has become a medium of transaction in illegal trade and drugs dealing.
  • It can be easily used in money laundering.
  • It is difficult to store bitcoin safely as the wallet can be hacked
  • The transaction once done and recorded on blockchain cannot be rolled back
  • If you lose your private key, you lose all bitcoins. There is no way of getting the key and the coins back
  • Bitcoin is a highly volatile currency.

To conclude, Bitcoins have many disadvantages and might not become that popular. But, the technology behind bitcoin (blockchain) can have applications in many areas and have profound implications for commerce. Financial organisations like NASDAQ, Bank of America, JP Morgan, New York Stock Exchange are exploring the possibilities of using this technology.

 

If you like this article, do share and comment. You can explore other articles on this blog:

The Paris Climate Agreement Demystified

What is One Belt, One Road (OBOR) Initiative?

The Financial Crisis 2008 Explained

BREXIT Explained

The Trans-Pacific Partnership Deal (TPP): Demystified

 

 

Have any Question or Comment?

2 comments on “Bitcoin- What & How- All Your Questions Answered

Ritika

Can you please explain why bitcoins can be only 21 million? Why is there a cap?

Reply
Mridusmita

Let me ask you a counter-question. What will happen if the RBI starts printing an unlimited amount of rupees? The value of rupee will fall drastically and people will ultimately stop using rupee for day to day transactions. Therefore, Satoshi designed the bitcoin system in a way that only 21 million coins can be generated. After that, the production will stop.

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