Bitcoin

Wiki: What is Bitcoin and how does the digital currency work?

Bitcoin explanation: all facts concerning Bitcoin – how does Bitcoin work?


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Wiki: What is Bitcoin and how does the digital currency work? (c): Roman Bodnarchuk - Fotolia.com

25.11.2017

Bitcoin is a digital currency (crypto currency) which is mined (created and stored electronically). Bitcoins are not printed physically and not created by central banks either – it is a decentralized currency, which is produced by people.





Bitcoin is decentralized and there is no no state control. Satoshi Nakamoto, a software developer, presented the crypto-currency in 2008.

Today it is still unknown, who is behind the pseudonym. Bitcoin is based on mathematics. Moreover there is no institutional structure, that lies behind Bitcoin and is responsible for impairment.

 

More than 80% of Bitcoin have already been mined: the maximum will be reached with 21 million.

 

One additional inflation protection is the basic code. The code itself is stated that there cannot exist more than 21 million Bitcoin. With 20.999.999,9769 there will not be produced any Bitcoins any more. This is the reason why Bitcoin is protected against inflation and why you cannot produce an unlimited amount of Bitcoin.

 


What is so particular about Bitcoin?

Buy Bitcoin © "ulchik74 - Fotolia "

But why are so many people interested in Bitcoin? Some countries, for example Australia and Japan, have acknowledged Bitcoin as official mode of payment. It is the different characteristics and advantages, of course, which make Bitcoin something special. Moreover it is the development of price – at the beginning of the year 2017 a Bitcoin was 900$, today the price is close to 8000$.

 

Decentralized and independent

 Bitcoin network is decentralized – this means, that Bitcoin is not controlled through a central bank, government or any institution. Every single computer producing and transferring Bitcoin is automatically part of the network. Bitcoin is therefore an independent currency.

 

No bureaucratic hurdles

When you open an account at a bank, you have to overcome some bureaucratic hurdles. The Bitcoin account (known as wallet) can easily be registered – you neither need any proofs and certificates, nor other prerequisites. The only hurdle is: you need internet access.

 

Anonymous

Additionally sender and receiver stay anonymous. Transactions do not show any names, addresses or other information.

 

Transparency

Although sender and receiver remain anonymous, the network is transparent. Every single transaction is stored in the so called blockcain.

 

Worldwide

Bitcoins can be send worldwide – the transactions only takes a few minutes. Transfer is made according to “peer-to-peer” concept – there is no agent or intermediary.

 

The advantages of Bitcoin at a glance

You have to keep in mind, that the Bitcoin network is free and independent – there are no governmental institutions, no banks and no payment service providers acting in the background.

 

  • Bitcoin is ultimately invulnerable, because for processing the “peer-to-peer” concept is tracked
  • it is a worldwide accessible crypto-currency, which can be used by everyone, as long as the user possesses Bitcoins on the one hand and a wallet on the other hand
  • Bitcoin is forgery-proof; automatic checking by the participants as well as the open-source-code guarantee, that there are no fakes
  • Transaction only just takes a few minutes
  • Because of the fact, that there are only 21 million Bitcoins available, the currency is protected against inflation

 

How can you earn Bitcoins?

What do you need, if you want to pay with Bitcoins? First of all you need Bitcoins, of course – then, as a consequence, a wallet that has to be installed on your computer in order to receive and send Bitcoins. Attention should be paid to the fact, that the sender knows, what the address of the receiver is. Transactions are carried out through the Bitcoin network.

Bitcoins cannot only be received or sent – there is also mining. The mining process produces new Bitcoins, the transactions in the Bitcoin network are confirmed and secured. because of the fact, that you need powerful computers, many users decide on a mining pool. You can find several users in this pool, whereas computer power is combined. Every user receives – if Bitcoins are produced – a certain share of coins, which is directly transferred to the wallet. In Germany Botcoin mining is not profitable anymore due to electricity expenses.

 

Earning money with Bitcoin: Bitcoin mining

One of the major functions of the Bitcoin system is Bitcoin mining. Basically Bitcoin mining fulfills two purposes at the same time:

On one hand Bitcoin mining produces new coins,

on the other hand the Bitcoin network is kept alive and transactions are confirmed.

 

Confirmation of the transactions: proof-of-work

The second aspect, namely the confirmation of transactions, is the more important aspect than producing new Bitcoins. The principle of confirming through Bitcoin miners is calld proof-of-work (“pow”). With this it is made sure, that the network is nearly unforgeable and Bitcoin cannot be copied. Almost every ten minutes a new Bitcoin block is found by the Bitcoin miners. in this block ideally all transactions are included and confirmed. This does not improve processing power of the bitcoin network, but the security of it.

 

Security through computing power

The second aspect, i.e. the production of ne Bitcoins, is very important, particularly during the initial period of Bitcoin genesis, where we are at the moment. Due to incentives of the Bitcoin miners the Bitcoin network gets huge processing power, which increases network security. After a Bitcoin miner has mined a new block, he receives transaction fees as well as the reward of 12.5 Bitcoins (at the moment ca. 85.000 Euros).

This reward is halved every “Bitcoin halving” 210.000 blocks. Thus the amount of freshly produced Bitcoins is decreasing. Overall approximately 21 million Bitcoins can be mined – more is, according to the Bitcoin algorithm, not possible. It will probably take a hundred years to reach this limit.

 

How do Bitcoin transactions work?

Sending Bitcoins includes only three different pieces of information: sender’s address, amount, receiver’s address. The sender’s address is a record, from which sender’s address Bitcoins were sent. The amount is – as the name suggests – the amount of sent bitcoins. The receiver’s address is the address where the Bitcoins are to be sent to.

Public key = public account number of the Bitcoin wallet – this can be forwarded to third parties.

Private key = secret key, which should never be passed to someone else and is to be secured.

The sender’s as well as the receiver’s address are similar to account nu,bers (“public keys”) of the corresponding accounts (“wallets”).

Bitcoin Private Key / Public Key © "https://www.bitaddress.org/ Screenshot"

Bitcoin Private Key / Public KeyWhoever wants to send Botcoins, will need, apart from Bitcoin address and public key, also the so called “private key”. Bitcoin addresses are generated randomly and consist of a number and letter sequence. The private key is a number and letter sequence as well, whereas – compared to the Bitcoin address – it remains secret. If Bitcoins are to be sent, the private key is used, with which the transaction is signed. Transaction only takes a few minutes.

 

The Bitcoin account: the Bitcoin wallet

Bitcoin Wallet © "3dsculptor - Fotolia.com"

A Bitcoin wallet is not a wallet in the narrowest sense. In comparison it is closer to an account. Using the Bitcoin wallet you can manage, send and receive Bitcoins. The coins are not really kept in this wallet, but the wallet just manages the two keys of the Bitcoin: the public key and the private key. The Bitcoins themselves are still in the bitcoin-blockchain.

Today’s wallets often manage the corresponding keys in the background, so that the user does not really have to think about it. Nevertheless it is important to understand the principle between public key and private key.

Bitcoin Transaction © "Hulacoins - Exodus Screenshot"

 

The public addresses of the Bitcoin wallet: public key

The purpose of the public address of the Bitcoin wallet, the public key, is, as the name says, giving it to the public. This does not mean, that it is not to be sent worldwide, but if you want to receive Bitcoins yourself, you pass the address to the respective sender, who can then carry out a Bitcoin transaction.

Attention: since the bitcoin network is transparent and every single transaction can be checked in the Bitcoin blockchain, everyone knowing the public key can check the balance of the wallet. This is the reason why the public key should only be passed carefully and why you should use several public keys. Some wallets also offer the possibility automatically generating a new public key after each transaction. This definitely increases the security.

The password of the Bitcoin-wallet: private key

The private key is the secret key, the password, of the Bitcoin wallet. It should not be passed on to third parties and be securely stored. With the private key you have absolute control about the respective Bitcoin Bitcoins, which are deposited for this key in the Bitcoin blockchain.      

 

The Bitcoin year 2017

Coinbase Chart © "coinbase.com Screenshot"

At the moment the Bitcoin exchange rate is almost 8.000$. Price developments of the last few months have shown, that 2017 was the so called Bitcoin year. In January Bitcoin was at 960$; in June the crypto-currency reached 2500$. Is there an end of price increase in sight? According to analysts and experts the crypto-currency is far from over. The chance that Bitcoin – compared to the real estate bubble – bursts and experiences a dramatic loss of value, is extremely unlikely.

 

Which disadvantages have to be kept in mind?

Even if Bitcoin offers lots of advantages, downsides should not be ignored. First and foremost, when investing in the crypto-currency, you should be careful. Even if it is rather unlikely, that exchange rate crashes, software failures can be responsible for unexpected losses.

 

  • Still some people are sceptic because they do not trust the crypto-currencies (Bitcoin, Ether, Ripple or other digital currencies)
  • Bitcoin software is being developed – faulty updates can cause absolute turmoil
  • There is a deflation risk in the Bitcoin system – when Bitcoin owners speculate for rising courses, they treasure up coins and do not spend them
  • If a state prohibits Bitcoin trading, sharp falls in prices can occur

Moreover a potential fall in prices can destroy the funds of investors, even a total loss cannot be ruled out. 



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