Bitcoin is the world’s first cryptocurrency, created in 2008. However, it is more commonly known as a digital form of money and payment system. Bitcoin was created as a decentralized platform. This means that nobody has full control, and that intermediaries such as banks are no longer needed. Bitcoin transactions are thus carried and processed directly between two individuals.
This decentralization is also one of the main reasons for Bitcoin’s creation. It is a system to send money to each other in an alternative manner, without the intervention of third parties. Meanwhile, Bitcoin is by many investors regarded as a valuable investment, comparable to gold.
While it is too early to speak of mass adoption, Bitcoin has grown enormously since 2008, indicating significant interest.
What is Bitcoin?
Bitcoin is a decentralized, digital form of money, created in 2008 by Satoshi Nakamoto. This name is a pseudonym, because nobody knows who he or she really is. In January 2009, the first Bitcoin was mined. The operation and technology of Bitcoin is explained in the Bitcoin white paper.
In this white paper, Satoshi Nakamoto explains that Bitcoin was created as a direct response to the financial crisis, in which banks abused their power and no one was held accountable.
Bitcoin makes it possible to digitally transfer money with lower transaction costs. Bitcoin uses the blockchain technology to achieve this.
With Bitcoin, Nakamoto has solved the reversibility problem. It rules out the possibility that a transaction is reversed by a third party. Instead of having a trusted third party approve a transaction, Nakamote has designed a chain of cryptographically signed transactions that are secured by the Proof of Work (PoW) protocol. Bitcoin’s decentralization is important, and is emphasized by the PoW consensus algorithm, which removes the need for intermediaries.
Nakamoto has also found a solution for the so-called ‘double spending’ problem. Specifically, it means that a single Bitcoin cannot be spent more than one time, because every transaction must be approved by nodes in the blockchain’s network.
Nodes are computers that are connected to each other and that verify transactions. This prevents a Bitcoin from being spent several times.
Contrary to fiat currencies, like the euro or dollar, Bitcoin is not a physical coin. Bitcoin is simply a balance on a ledger visible by everyone, since the blockchain technology is fully transparent. Every transaction that takes place on a blockchain is recorded in the ledger and cannot be changed. Moreover, every transaction is publicly accessible. The transactions can be monitored publicly, but it is not possible to find out the identity of the parties involved.
Who is Satoshi Nakamoto?
Satoshi Nakamoto is the name of a person or of a group of people who came up with the idea of Bitcoin. Not much is known about Nakamoto, and it is not sure either that he is Japanese, as he or she claimed on an online forum. It is a pseudonym that was first used on 1 November 2008 on the ‘Cryptography Mailing List’. This is when the idea of Bitcoin was introduced. After December 2010, Satoshi Nakamoto disappeared from public life. He made all important updates for the network himself in the first year, and then handed over all information to people he trusted, and Bitcoin has continued running since.
Various people have been named suspected of being Satoshi Nakamoto. However, everyone called out to date has simply denied this.
What is the Bitcoin white paper?
The Bitcoin white paper explains exactly how Bitcoin works. Every cryptocurrency has its own white paper, which can at times be quite technical and complicated. Many developers therefore choose to publish a ‘light paper’ for their cryptocurrency, which explains their cryptocurrency in a simple manner.
It was published by Satoshi Nakamoto on 31 October 2008 and comprises just nine pages. The official title is; ‘A Peer-to-Peer Electronic Cash System’. The original was published in English, but the Bitcoin white paper is now available in multiple languages, including Dutch.
The network behind Bitcoin was launched on 3 January 2009, and except for the electricity costs associated with the mining of Bitcoin, didn’t cost anything then. On this day, the first block was also mined on Bitcoin’s blockchain. This first block is called the genesis block, which is true for every blockchain.
How does Bitcoin work?
When someone wants to use Bitcoin for the first time, all they need to do is create a Bitcoin wallet. This wallet will provide too addresses to its owner. One address that can be publicly shared to receive Bitcoin. This is called the public key. For every wallet created, the user will get a new public key from which a wallet address is created. Bitcoins can be sent to this wallet address.
The second address that is created is called a private key. This is an important part of every wallet, because it is used by every owner of wallet that sends Bitcoin to show that it is truly him or her. By digitally signing a transaction, no one can change the transaction. These private keys are exactly what their name suggests, namely private, and are shared with nobody. The person holding the private keys also controls a wallet and its content.
The decentralized network behind Bitcoin
The Bitcoin blockchain functions via so-called nodes. These nodes can be compared to computers that connect to each other. Each of these nodes has a complete copy of the Bitcoin blockchain on its hard drive. It is estimated that there are a total of 14,700 functioning Bitcoin nodes.
The Bitcoin protocol is open source, meaning it’s accessible to everyone. Anyone can use, edit and redistribute the software. This is how many new crypto coins were added that are based on Bitcoin’s source code.
What is the Proof of Work consensus algorithm?
Proof of Work (PoW) is a decentralized consensus mechanism. Consensus means agreement, because agreement between all nodes is needed for the blockchain’s security. The blocks in the blockchain chain are all numbered sequentially. This ensures that bitcoins cannot be issued twice.
The first time they are issues, the transaction is recorded in the ledger (the blockchain). Because the transaction cannot be undone, the bitcoins of this transaction cannot be issued again.
The private keys and the Proof of Work consensus algorithm together secure the same blockchain.
It’s the miners who do the work of adding new blocks to the blockchain. This is also called mining. Every 10 minutes, a new block is added to the blockchain with all new transactions. The miners are rewarded for their work, the mining of a new block, by solving a difficult mathematical puzzle. The group of miners that is first to solve the puzzle is rewarded. This is the Proof of Work. Once all nodes agree on validity of the new block, the new block is added to the blockchain.
This reward is currently 6,25 BTC. At Bitcoin’s start, it was 50 BTC per new block. After 210,000 blocks are added to the blockchain, ‘halving’ takes place, which means that the reward for the miners is halved. This happens approximately every four years. Once halving is no longer possible, the miners earn their money by approving transactions. This is also the second way in which miners can earn money, including at the moment, by approving transactions. At the end of 2021, that was between $50 and $60 million per day, with outliers above $70 million. That is up 171,8% from 2020.
What is the maximum stock of Bitcoin?
An important feature of Bitcoin described in the white paper is that there will be no more than 21 million bitcoins. This feature is so important because it protects Bitcoin against inflation. An anti-inflation cryptocurrency is at the same time one of the reasons Nakamoto invented Bitcoin.
Because there is a limited amount of Bitcoin, scarcity will occur at some point. This makes it very likely that the value of Bitcoin will increase, because demand will increase while the supply will remain the same or decline. The latter happens for example when Bitcoin users hold on to their bitcoins and refuse to trade them. A study showed that about 20% of Bitcoin were lost because owners lost their private keys.
It is not necessary to buy a full Bitcoin each time. Bitcoin can be divided up to eight digits behind the comma, and if needed, this can be increased further in the future. It is therefore very well possible for someone to hold 1.63981673 BTC This then is 1 BTC and 63981673 Satoshis or Sats, the acronym used for these small bitcoin parts.
How can Bitcoin be used?
The most important reason to use Bitcoin is to send Bitcoin directly peer-to-peer or from one person to the next. Bitcoin, however, is not yet used to pay for a lot of material objects, but this will change, as it is becoming possible to pay in Bitcoin at more and more places. El Salvador in 2021 became the first country in the world to accept Bitcoin as legal tender.
Many people also invest in Bitcoin, since Bitcoin has a limited supply and specific applications. This gives it value, similar to precious metals such as gold. So far, Bitcoin has increased on average between 100% and 200% in value each year. Nothing else in the world has done this since 2009. Neither gold, real estate or shares have achieved this.
Between January 2009 and February 2021, growth reached an impressive 48.22.525%. In 2014 online, the price increased by 5.690%, its highest annual increase to date.
What is a blockchain explorer?
When someone wants to view transactions on the blockchain, they can do so with ‘explorers’. These can be compared to a variation on Google, but for blockchain and, in this specific case, meant just for Bitcoin. They are search machines that allow anyone to find all transactions made on a blockchain.
On these explorers, general information can be found about a transaction’s size, origin and destination. However, the names of the parties involved will never be visible. For example, it is possible to see all transactions of a certain wallet address, or to see whether a certain transaction arrived at the right address. These blockchain explorers therefore explore the transparent character of all blockchains.
Has Bitcoin had updates?
Changes to the Bitcoin protocol are submitted via so-called Bitcoin Improvement Proposals (BIP). These BIPs can propose changes to the consensus layer of Bitcoin, to community norms, or to the development process. New ideas for Bitcoin are raised in this manner, since Bitcoin does not have a formal structure.
Bitcoin has had several updates as a result of these BIPs. These may concern so-called soft forks, whereby the blockchain is only upgraded to improve the functionality.
However, when miners and developers disagree about the direction of Bitcoin, a spin-off may occur that results in a new cryptocurrency and a change in protocol. This is also known as a hard fork. Before a hard fork takes place, there first need to be enough node operators wanting to participate in a hard fork, since the original blockchain is being split. If following a hard fork a smaller number of nodes are active on the new blockchain than on the original pre-fork blockchain, this can compromise the security of the new fork.
What are soft forks?
These updates are updates to the protocol whereby all operators of the Bitcoin nodes agree that an update or soft fork is needed. With a soft fork, the original protocol is being split, but the new nodes still communicate without problems with the old nodes. As a result, there is no need to create an entirely new blockchain, and the entire project continues on the same blockchain.
SegWit
In 2017, the Segregated Witness update, or SegWit, was implemented. The work ‘segregate’ means to break out, and a witness is just that, a witness, in this case a signed Bitcoin transaction. What happened was that ‘signatures’ were being removed from the transactions. As a result there was more room on the blockchain blocks, allowing them to store more transactions. This meant that the scalability increased, and transaction were handled faster with lower costs. SegWit was implemented on 24 August 2017, and one week later Bitcoin’s value had increased by 52%. From $1,835 to $2,748.
After the SegWit update, a Native SegWit update occurred, also known as bech32. This update made the transactions a little faster and cheaper with greater scalability. Native SegWit addresses started with “bc1…..”.
The original Bitcoin address is called ‘Legacy’. Transactions can take place between all three addresses without problems.
Taproot
The Taproot update is another soft fork, and was installed in November 2021. This upgrade made it possible to bundle multiple signatures and transactions. This made transactions easier and faster to approve on the Bitcoin network.
Moreover, transactions with single and multiple signatures were bundled. This increases privacy, because it becomes more difficult to determine which signatures belong to which transactions. Transactions are once again meant to become cheaper with this upgrade.
What are hard forks?
There were also a few hard forks. A hard fork is when the owner or operators of nodes and the miners have a disagreement about the direction of a certain cryptocurrency. There will be a spin-off from the original protocol, and a new cryptocurrency created on a new blockchain. The transaction history is shared with the original cryptocurrency up to the time of the hard fork. Bitcoin has to date experienced three such hard forks:
- Bitcoin Cash – on 1 August 2017, after the SegWit upgrade.
- Bitcoin Gold – on 24 October 2017.
- Bitcoin SV – on 15 November 2018.
At every spin-off, each Bitcoin owner received the same amount of Bitcoin Cash or Bitcoin Gold on top of the existing Bitcoins he or she held at the time of the spin-off.
Bitcoin SV was a spin-off from Bitcoin Cash, and for every amount of Bitcoin Cash someone held, they received the same amount of Bitcoin SV. So all Bitcoin holders received new cryptocurrencies without having to do anything.
A hard fork can also happen with other cryptocurrencies.
Summary
Bitcoin has a relatively short history. Nevertheless, this first crypto coin has achieved a lot since 2009. The decentralized nature of Bitcoin plays an important role, since it makes intermediaries redundant and allows for transactions to take place directly between two persons. No one has full control over Bitcoin. The Proof of Work consensus mechanism ensures the blockchain’s security.
An important aspect of Bitcoin is the limited and recorded quantity of 21 million coins that will ever exist. This will create scarcity, and in theory this should increase Bitcoin’s price.
To find information on a blockchain, there are ‘explorers’, which is kind of like a Google function but specific to a blockchain. Bitcoin has also had multiple upgrades. These are in the form of soft forks or hard forks, whereby a hard fork is a spin-off from the original protocol. A new cryptocurrency then carries on on its own blockchain.
Bitcoin wants to change the current financial system by a system whereby everyone has direct control of their own money.