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What is Bitcoin?
Bitcoin is a decentralised peer-to-peer digital currency that can be safely and instantly sent to any person in the world. It is the best known and most popular digital currency - also known as cryptocurrency. The term cryptocurrency comes from the underlying encryption technology that makes it so secure.
The origin of Bitcoin
Bitcoin was first referenced back in 2008 by a pseudonymous character(s) that goes by the name of Satoshi Nakamoto.
On October 31st Satoshi published a white paper on an open-source technology titled “Bitcoin: A Peer-to-Peer Electronic Cash System” which was posted to a cryptography mailing list - also know as the Cypherpunks Mailing List.
Then on January 3rd 2009 the Bitcoin network came into existence with Satoshi Nakamoto mining the genesis block of bitcoin - block number 0 - which had a reward of 50 BTC (bitcoins). Embedded in the coinbase of this block was the text:
The Times Jan/03/2009 Chancellor on brink of second bailout for banks.
This was both a timestamp and a ‘dig’ on the instability of the financial system caused by fractional-reserve banking.
On January 9th 2009 the first open-source Bitcoin client was released to the world and hosted at SourceForge.
How does it work?
Bitcoin is not a physical or digital object per se. Rather bitcoin (BTC) is more of a representation of value in the form of a record of ownership on the Bitcoin blockchain.
To help you understand bitcoin - the record of ownership - it helps if you understand Bitcoin the network.
First of all you have Bitcoin - with an upper case ‘B’ - which is the network, then you have bitcoin - with a lower case ‘b’ - which is the record of ownership, the ‘currency’.
The Bitcoin network is made up of three crucial parts:
the Bitcoin blockchain,
the bitcoin transactions,
the entities that verify and secure transactions.
The Bitcoin blockchain is a public ledger which is distributed between tens of thousands of nodes which is updated in real time. Due to this vast distribution of nodes, it is extremely decentralised. Not controlled by any one business or organisation. Anyone can run their own node and contribute to the Bitcoin network.
Now bitcoin transactions are no different to any other transaction you are familiar with - the exchange value from one person to another. But, instead of the transaction getting routed through a centralised bank or other financial provider, it is recorded and secured directly onto the blockchain - a public ledger - by the nodes, for everyone to see. This makes the Bitcoin blockchain extremely secure and verifiable.
This leads onto how the transactions get validated. This is done by specific nodes called miners. They do this by taking every transaction in the latest block - a block is simply a bundle of transactions - and the miners run the block through the SHA-256 algorithm, they then take each transaction and create a unique identifying signature which is called a hash. Once the transactions are compressed into hashes, each hash is then compressed further by pairing two hashes together and creating a further new hash. That new hash is then paired up with another to form yet another new hash and so on until there is only one hash. The previous hash is then added to the block which acts as the “chain” between the previous block and a new one hence the term blockchain. This is what makes the Bitcoin network so robust, if someone was to alter a previous block - to say they had more bitcoin for example - then all future blocks would then become invalid because the hashes wouldn’t match up. but this would only invalidate their side of the blockchain, as EVERYONE else carries on running the un-altered, validated blockchain. Lastly, to complete the block there is a random number called a nonce (number only used once). Now the nonce is added to all of the data in a specific block prior to hashing. This number is what makes it so difficult for the miners to mine a block. The two hashes alongside the nonce need to create a hash which meets a certain set of criteria which is set by the software which powers the Bitcoin blockchain. And, the only way to figure out a valid hash is by going through random nonce numbers until the specific criteria is met.
This whole process is extremely power intensive and is called Proof of Work (PoW), which is why the miners who are able to mine a block successfully are rewarded with bitcoin (BTC). As I mentioned earlier, the genesis block was rewarded with 50 BTC, this was the case for every other block mined for 210,000 blocks - roughly 3 years. After then, the block reward is halved, so it dropped to 25, 12.5 and most recently 6.25 as of May 2020.
Now this isn't the end of the blockchain, someone has to check that the miners are carrying out their work correctly. Come forth, validation nodes. Now these nodes are far less power intensive and far easier to get up and running and can be set up with a Raspberry Pi. These are basically little computers which are not too much bigger than an iPhone. The way I like to explain how these node don’t use as much power and have a far easier job than the miners is like this:
Picture a sudoku, now it can take some time and brainpower to complete one (the miners), but once it is completed you can easily look over to see if it and check it is done correctly in a fraction of the time and far less effort (the nodes).
Summary
Bitcoin was first referenced back in 2008 by a pseudonymous character by the name of Satoshi Nakamoto
The Bitcoin protocol came to life in January 2009.
Transactions are compressed down into hashes.
Those hashes are then compressed further until there is only one hash remaining.
That hash and the hash from the previous block are combined.
Those two hashes are then combined with a nonce to create a unique hash for the new block.
That new block’s hash is then verified by the Bitcoin network, which is then added to ALL copies of the blockchain.