Bitcoin Is Here To Stay, Whether You Like It Or Not
Bitcoin is decentralized peer-to-peer electronic cash, which means that there is no third party(like a bank or other financial institution) involved in transactions. The goal of Bitcoin is to avoid any centralized control of funds when making a transaction.
Bitcoin is also seen as an eventual currency replacement, which will be free of inflation since the government or anyone else can’t make more Bitcoin whenever they want to, as it follows a fixed issuance schedule. The government can’t control any aspect of the technology because it’s decentralized, which will be touched upon later.
Before we get into Bitcoin, how it works, getting involved, and looking to the future, let’s take a look at the problems Bitcoin was made to solve in the first place.
What’s the problem with our current monetary system?
Currently, the United States and almost all countries around the world use fiat money.
“Fiat money is government-issued currency that is not backed by a physical commodity, such as gold or silver, but rather by the government that issued it. The value of fiat money is derived from the relationship between supply and demand and the stability of the issuing government, rather than the worth of a commodity backing it as is the case for commodity money.” — Investopedia
Before fiat money, most national economies had a currency backed by gold. You could also exchange your money for gold at a bank, which meant that the government couldn’t inflate the currency and print more money than they had.
Since the adoption of fiat currency, the governments can inflate their currency, printing more than it should be, which devalues the currency and reduces the incentive to save money, because it will devalue over time.
This is in stable governments but in countries with government instability, this problem greatly increases and becomes a lot more prevalent in the everyday lives of its citizens.
In his book The Bitcoin Standard, Saifedean Ammous highlighted the three characteristics of a good medium of exchange or currency:
- Salability across scales: can be used in very small or very big amounts.
- Salability across space: can be transported from one party to another easily.
- Salability across time: maintains its value as time progresses.
While fiat currency does fairly well when it comes to salability across scales and space, when it comes to time, it doesn’t fulfill its goal. This is because of inflation. One dollar in 1973(when fiat money was adopted) is worth six dollars today.
The problems with fiat currency are far more prevalent in developing countries than in developed ones. For example, in Venezuela, where the citizens have been dealing with hyperinflation of their currency.
There is another problem with digital transactions, in that you are required to trust a third party, like a bank or other financial institution. This is because of the double-spending problem.
“Double-spending is the risk that a digital currency can be spent twice. It is a potential problem unique to digital currencies because digital information can be reproduced relatively easily” — Investopedia
While third parties solve the double-spending problem by being the intermediary, trusted by both parties, ideally you shouldn’t need a centralized authority to perform online transactions. The third-party can shut down, decide not to accept transactions, and even be dishonest on how they deal with your money.
Bitcoin eliminates the need for trust, being an “electronic payment system based on cryptographic proof” instead. Bitcoin also controls inflation since there is a maximum amount of Bitcoin which can’t be altered. Perhaps most importantly, it is nearly impossible to ban or shut down Bitcoin, since that would be almost like trying to shut down the internet.
How Bitcoin Works
The Bitcoin whitepaper was published in 2008 by Satoshi Nakamoto, a person or group whose identity remains unconfirmed, though speculations have been made. The revolutionary white paper introduced Bitcoin, and exactly how the technology works.
The Ledger & Transactions
Bitcoin is essentially a ledger of transactions, except instead of being stored on just one centralized server, in Bitcoin, there are multiple servers, which we call nodes in the network, which all have a copy of this ledger. In Bitcoin, this digital ledger containing all of our transactions is actually called a Blockchain.
Every owner has a public and a private key. The owner is the only one who has their private key. Your public and private keys are cryptographically related. When you send money to someone through a blockchain, to make sure that it’s actually from your digital wallet and not just someone with your public key, each transaction is signed with a digital signature.
A digital signature is made using your private key and the transaction, and it can be verified using your public key so that someone can’t make a signature with your public key, but they can verify the digital signature with one. A Bitcoin wallet is used to store these keys and allows you to create signatures. Additionally, each transaction has a hash which is made by using a cryptographic hashing function on the owner’s public key and the previous transaction.
In addition, the Blockchain doesn’t keep track of your balance, only your transactions from which your balance can be derived. This means that to send someone Bitcoin, you also need to show transactions where you received Bitcoin the same or a larger amount of Bitcoin. So in a transaction, you input enough previous transactions to make up the amount you would like to give, the correct amount is sent to the recipient, and from there whatever is left, what we would think of as “change”, is sent back to you, the sender.
It would seem like privacy isn’t maintained in the Bitcoin world because of how everyone has a copy of the ledger and can see all of the transactions, but the public keys make it so that it is pseudo-anonymous. You also have the ability to generate new key pairs each time you make a transaction, which is recommended to further maintain privacy.
Transaction Order & Bitcoin Mining
Now that we’ve discussed how transactions are performed, let’s discuss what happens when someone sends a transaction. First, that transaction is broadcast to all of the nodes in the Bitcoin network and goes into the mempool with other unconfirmed transactions. From there, people called Bitcoin Miners, who use specialized mining technology to confirm transactions, start working on compiling these transactions into a singular block, which is done by way of hashing pairs of transaction until we’re left with just one block. This is how we condense and encode all of the transactions into one hash. From here all of the miners try to solve the special problem associated with their block. Whoever solves their problem first, thereby confirming their block and adding it on to the blockchain, gets rewarded for their work.
The incentive for people to run mining technology is because when the Miner successfully solves their problem first, giving it a proof of work, then they get Bitcoin sent to their address from block rewards. There is a set amount of Bitcoin sent to those who are successful, and this amount is divided in half every four years. This amount is currently 6.25 Bitcoins are “mined” every time a block gets confirmed. This Bitcoin is “brand new”, and this is the only way in which more Bitcoin can be created. Unlike the fiat system, there is not an unlimited amount of Bitcoin, removing the risk of inflation that’s out of control. Satoshi Nakamoto designed Bitcoin so that the maximum number of Bitcoins is 21 million, which means that, according to estimates, there will be no more Bitcoin mined after 2140. After 2140, people will be incentivized to mine Bitcoin by transaction fees, which a sender can optionally include in their transaction. Senders are incentivized to add a transaction fee because then more people will want to solve their problem, increasing the speed of the transaction.
The Network & Nodes
The Bitcoin network is made up of nodes that can join and leave the network as they please as long as there is always one node running. Another key aspect is that because each node has its own copy of the ledger, nodes must agree on the transaction order. If two nodes are able to confirm their block at once, and the broadcast reaches different computers at different times, the node will note the difference and save the late broadcast as well. Now, we have two versions, which is a problem. When the next block is added to one of the branches, all of the nodes revert to the longest blockchain as a way of making sure that everyone has the same thing. This is why it’s a good idea to wait for a few blocks before considering a transaction as confirmed.
It should also be noted that you don’t need to be running a node to make Bitcoin transactions.
Double-Spending in Bitcoin
When someone tries to double-spend on Bitcoin, these means that this person creates two transactions with the same input, bit different outputs/destinations of where they want the Bitcoin to go. Both of these transactions enter the mempool but can’t both be confirmed, the first one is compiled into the block, while the other is invalidated by the block. This is what will usually happen, but sometimes one block may only include one transaction, while another block includes the second. Whichever block gets confirmed first is added onto the blockchain.
There is also a fairly small chance that two blocks are confirmed at almost the same time, and there are two different blocks being broadcast to all of the nodes in the network. The nodes in the network will consider the block which was broadcasted to them first as the correct one. This means that there are now temporarily two “branches”, with some nodes adding on top of one, and other nodes adding on top of the other. This is clearly a problem, but Bitcoin provides a fairly simple way to solve this.
As the nodes continue adding onto the blockchain, whichever blockchain becomes the longest gets to stay, while the other alternative branch is discarded, or“orphaned”. This is why it’s usually considered a good idea to wait until 3–6 more blocks have been mined on top of the block containing your transaction before considering your transaction as immutable.
The Future of Bitcoin
Bitcoin is for everyone. Not just the rich, not just those who have extensive knowledge of the technology. It’s for all of us. In terms of buying Bitcoin, you don’t need to buy a whole Bitcoin. One Bitcoin, which as I’m writing this article is currently worth around $35,000, can be divided up to 8 decimal places.
What many living in developed countries with stable governments don’t realize is how lucky they are to have a (relatively) stable currency. While inflation in the US might seem bad, it’s almost nothing when compared to inflation in developing countries like Nigeria, Sudan, and Ethiopia. For people who previously had an untrustworthy currency to have a decentralized currency which no government can take away or control is liberating.
On that note, El Salvador recently made Bitcoin a legal tender! This is a big step towards using Bitcoin in our everyday lives!
The whole purpose behind Bitcoin is described beautifully in the following excerpt from Bitcoin Magazine regarding Bitcoin in Sudan:
“Where there were once financial walls cutting off Sudan from the world, Bitcoin has made bridges. It is now easy for Mo in Europe to send money back to his friends and family. What once took days now takes minutes. And he does not have to trust any third parties or require his family to deal with thieves in government.” — Bitcoin Magazine
Bitcoin is bigger than any one person, that’s the beauty of it. Bitcoin isn’t going anywhere. That’s both technically very hard, if not impossible, and it’s also an incredibly useful, potentially life-changing technology for many.
Sources & Helpful Resources
Bitcoin: A Peer-to-Peer Electronic Cash System(Fermat’s Library)
About Me
Ishaana Misra is a 13-year-old interested in AI, Medicine, and Blockchain.
LinkedIn: https://www.linkedin.com/in/ishaana-misra/
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