This video offers a technical explanation of bitcoin that builds on the previous chapter.
- With bitcoin, there are two core function or roles. One role is a person who simply buys and sells existing bitcoin using their own dollars or a local equivalent with the intent to use Bitcoin as currency. The other role is a person who wants to earn new Bitcoins for being a miner. We'll explore each individually. If you've decided to buy some bitcoin, you'll need a service that will give you bitcoin in exchange for your currency. There are several of these, including Coinbase and Kraken.
You typically buy bitcoin with a credit card. The value of the bitcoin is determined by market price at the time of purchase. If you're using dollars, the exchange rate will be how much bitcoin you will get for one dollar. Once you buy the currency, it can be registered as yours at the vendor, or you can choose to move it to a bitcoin wallet on your own personal device like a smartphone or PC. You'll also recall that this wallet contains your public and private keys.
At this point, you can now use bitcoin. You are effectively now part of the bitcoin network of users, the bitcoin blockchain. What is the underlying process that happens when you send bitcoin to somebody. First, the recipient needs a mechanism to receive the money. That means they also need to be part of the bitcoin blockchain. Everyone on this network has an address. When you want to send money, you specify the address. The address is typically derived by a hash of a person's public key.
Let's say Alice wants to send 10 btc to Bob. The btc is the bitcoin currency designation, just like dollars or euros. Alice uses her bitcoin wallet to initiate the transfer of 10 bitcoin. Of course, she must have that amount available. She specifies Bob's address as the destination. A small processing fee is added to the 10 bitcoin. It's relatively negligible, but will be used later to pay miners.
The transaction is distributed across the blockchain network, every computer that is on the bitcoin blockchain, and it is queued up to be processed. The processing of bitcoin transactions takes approximately 10 minutes. What's involved in this processing? To add Alice's 10 bitcoin to Bob's account requires two transactions in the blockchain ledger, adding two blocks. That is Alice's will have 10 bitcoin less, while Bob's will have 10 bitcoin more.
There's no such thing as a personal account on the bitcoin block chain. A person's account is simply calculated by tallying older transactions, all the additions and deletions of bitcoin in the entire blockchain and deriving a total. Tracing blocks back to individuals is maintained through the public private key architecture discussed earlier. If the owner of a public key is known, then it's possible to associate them with the transactions that were created with that particular key.
Also, should a person lose their private key, they lose access to any bitcoins associated with it. It's these keys that represent the crypto in cryptocurrency. Now blocks don't automatically get added every 10 minutes, a block is added only when two conditions are met. Number one, there must be consensus by all the distributed databases that the transaction is legit. For example, Alice must have 10 bitcoin and Bob must be able to receive it.
The second condition is that a miner on the network succeeds in resolving to a specific hash output based on a specific input. This results is what we call proof of work, and it ensures that blocks cannot be added without significant rigor. It also solves the big problem of ensuring that people do not spend the same amount of money twice or more during the processing window. Since it takes about 10 minutes for a winner to emerge from many miners trying to solve a given hash and generate proof of work, no blocks will be accepted as authentic, until that work is complete.
For their part, miners are rewarded for their effort with new bitcoin. Every new block added is dependent on the prior block. So trying to insert a block, edit one, or delete prior blocks becomes almost impossible. They are dependents because each new block's address is a hash of the previous one. If someone tries to change a previous block, thus changing the hash, the subsequent block would screen foul and it would not be permitted.
Once all the criteria are met, confirmed, and approved, the blocks are now added to the chain, and the transaction is complete, irreversible, and immutable. Let's look more deeply at the role of the miner. The miner's role is to provide proof of work by completing the math problem and thus give permission for a bitcoin block to be added to the block chain. Miners do this because they can earn money. Miners compete to solve every problem that is required for each block transaction, and the winning miner is provided with a specific amount of new bitcoin and the transaction fee.
They are creating this new currency one transaction at a time. Once a miner gets bitcoin, they can keep it or exchange it for local currency. Why doesn't everyone become a miner? Because lots of computing power is required. Miners typically have banks and banks of computing processors. It's expensive and complex to manage. Well, that's it. I've explained how you buy and trade bitcoins, and we've explored how bitcoin is literally created out of thin air.
If you're in the financial world, what I've just described is very disruptive as you can imagine, and that's what we'll discuss next.
- Blockchain basics
- Public and private keys
- How blockchain enables bitcoin
- Blockchain and the electrical grid
- Blockchain and identity management
- Risks of blockchain