What is Bitcoin?
The most common question by far. When people hear about Bitcoin they ask: “What exactly is it?” We’re going to explain it here, starting with the basics and working all the way up to the super advanced stuff. We’re also Going to provide plenty of links to useful resources where you can find more information.
So what exactly is Bitcoin?
From Wikipedia: “Bitcoin is a digital currency created in 2009 by Satoshi Nakamoto. The name also refers to the open source software he designed that uses it, and the peer-to-peer network that it forms. Unlike most currencies, Bitcoin has no central authority or issuer. Bitcoin uses a distributed database spread across nodes of a peer-to-peer network to journal transactions, and uses digital signatures and proof-of-work to provide basic security functions, such as ensuring that bitcoins can only be spent by the person who owns them, and never more than once.
Bitcoins can be saved on a personal computer in the form of a wallet file or kept with a third party wallet service, and in either case bitcoins can be sent over the Internet to anyone with a Bitcoin address. Bitcoin’s peer-to-peer topology and lack of central administration make it infeasible for any authority, governmental or otherwise, to manipulate the quantity of bitcoins in circulation or induce inflation by producing more of them.”
Who created Bitcoin?
Satoshi Nakamoto is credited with creating Bitcoin.
Who is Satoshi Nakamoto?
There are quite a few theories on who Satoshi Nakamoto actually is. The official story tells that he is a secretive Japanese programmer.
There are also countless conspiracy theories ranging from a CIA group to Keyser Soze.
How can I get bitcoins?
There are three common ways to get bitcoins:
- Buy them on exchanges such as TradeHill and Mt. Gox
- Accept bitcoins as payment for goods or services.
- Create a new ‘block’ (currently yields 50 bitcoins).
How are new bitcoins created?
New coins are generated by a network node each time it finds the solution to a certain mathematical problem (i.e. creates a new block), which is difficult to perform and can demonstrate a proof of work. The reward for solving a block is automatically adjusted so that in the first 4 years of the Bitcoin network, 10,500,000 BTC will be created. The amount is halved each 4 years, so it will be 5,250,000 over years 4-8, 2,625,000 over years 8-12 and so on. Thus the total number of coins will approach 21,000,000 BTC over time.
In addition, built into the network is a system that attempts to allocate new coins in blocks about every 10 minutes, on average, somewhere on the network. As the number of people who attempt to generate these new coins changes, the difficulty of creating new coins changes. This happens in a manner that is agreed upon by the network as a whole, based upon the time taken to generate the previous 2016 blocks. The difficulty is therefore related to the average computing resources devoted to generate these new coins over the time it took to create these previous blocks. The likelihood of somebody “discovering” one of these blocks is based on the computer they are using compared to all of the computers also generating blocks on the network
What’s the current total number of bitcoins in existence?
The number of blocks times the coin value of a block is the number of coins in existence. The coin value of a block is 50 BTC for each of the first 210,000 blocks, 25 BTC for the next 210,000 blocks, then 12.5 BTC, 6.25 BTC and so on.
How divisible are bitcoins?
Technically, a bitcoin can be divided down to 8 decimals using existing data structures, so 0.00000001 BTC is the smallest amount currently possible. Discussions about and ideas for ways to provide for even smaller quantities of bitcoins may be created in the future if the need for them ever arises.
Is Bitcoin anonymous?
Participants in Bitcoin transactions are identified by public addresses – those are the long strings of around 30 characters you see in a person’s Bitcoin address, usually starting with the numerals ‘1’ or ‘3’. For every transaction, the sending and receiving addresses are publicly-viewable.
Since these numbers are virtually incomprehensible, difficult to remember without a computer and don’t contain a person’s name or identifying information, it is often claimed that Bitcoin is an “anonymous currency”. This is also often used as an argument to attack Bitcoin as a currency for example like with illegal transactions.
But it’s not as simple as that. If you publish your address anywhere, it can be linked to your real-life identity. Even if you don’t publish it, simply re-using the same address many times can show a pattern that an analyst with basic skills could link to your identity by looking at transaction times, amounts and regularity – and connecting it to other data sources like receipts, exchanges, and shipped items.
It’s recommended for privacy and security that you use a new address for every single transaction, and most modern wallet software is designed to do just that. But even though this increases the amount of effort and skill required to uncover your identity, it doesn’t make you 100% anonymous. Freely available blockchain explorers and analytical tools have been used to link addresses with only single transactions to other addresses, forming a chain or pattern that eventually reveals its owner. These have been useful in investigating cases of theft at companies like Mt. Gox and Bitcoinica, but can potentially be used to identify anyone.
Due to all of this, it’s more accurate to say Bitcoin is “pseudonymous” and not anonymous. Think of it as a less memorable email address or online handle. Even if it’s not your real name, someone out there can potentially find out who the real person behind the pseudonym is.
There are ways to make Bitcoin more private, but they come with risks. One is to use a “mixer” or “tumbler” which effectively takes your bitcoins and moves them around between a confusing array of addresses until it’s virtually impossible to trace. But do you trust the mixing service to spit your money out the other end, especially since most of them are run by anonymous entities themselves? Usually they do, sometimes they don’t.
Another way is to trade Bitcoin for a digital currency designed to have greater anonymity, like Monero or DASH – effectively making your own mixer. Trade Bitcoin for the other currency, perform one or more transactions to break the link, and trade back into Bitcoin. These transactions increase the complexity, though, and probably require an online exchange, which increases the potential to identify users. Price volatility of all digital currencies may affect how much comes out the other end. And finally – like mixers – if the destination Bitcoin address is one that can be linked to you somehow, the entire process has been pointless.
“Blockchain forensics” is a growing industry with increasing levels of expertise and tool technology. The Bitcoin blockchain is public and permanent record. Your current OPSEC (Operational Security) may beat all methods of investigation available now, but will it stand up to scrutiny in 30 years’ time? How likely is anyone to look? If private transactions are something you care strongly about your operational security should stay as ahead of the curve as possible.
What Is A Public Key?
Every Bitcoin address contains both a public and a private key. The public key allows others to send bitcoins to your address, and verifies the signature of the transaction to ensure everything is in order and finalizes the transaction. The private key, on the other hand, allows you to ‘unlock’ and spend your bitcoins. It does this by signing transactions, which tells the Bitcoin network that you are indeed the owner of the address in which the bitcoins are held and that the transaction is valid. Whoever holds the private key for a Bitcoin address is able to spend the bitcoins which that address holds, so in a very fitting analogy your private key is essentially the key to the safe which is holding your bitcoins. You can also use the private key of an address to sign a message, verifying that you are the owner of the bitcoins held at any given address. This is all secured through mathematics, using asymmetric cryptography.
How does the halving work when the number gets really small?
The reward will go from 0.00000001 BTC to 0. Then no more coins will likely be created.
The calculation is done as a right bitwise shift of a 64-bit signed integer, which means it is divided by 2 and rounded down. The integer is equal to the value in BTC * 100,000,000. This is how all Bitcoin balances/values are stored internally. Keep in mind that using current rules this will take nearly 100 years before it becomes an issue and bitcoins may change considerably before that happens.
How long will it take to generate all the coins?
The last block that will generate coins will be block #6,929,999. This should be generated around year 2140.
Then the total number of coins in circulation will remain static at 20,999,999.9769 BTC. Even if the allowed precision is expanded from the current 8 decimals, the total BTC in circulation will always be slightly below 21 million (assuming everything else stays the same). For example, with 16 decimals of precision, the end total would be 20999999.999999999496 BTC.
If no more coins are going to be generated, will more blocks be created?
Absolutely! Even before the creation of coins ends, the use of transaction fees will likely make creating new blocks more valuable from the fees than the new coins being created. When coin generation ends, what will sustain the ability to use bitcoins will be these fees entirely. There will be blocks generated after block #6,929,999, assuming that people are still using bitcoins at that time
But if no more coins are generated, what happens when bitcoins are lost? Won’t that be a problem?
Not at all. Because of the law of supply and demand, when fewer bitcoins are available the ones that are left will be in higher demand, and therefore will have a higher value. So when bitcoins are lost, the remaining bitcoins will increase in value to compensate. As the value of bitcoins increase, the number of bitcoins required to purchase an item decreases. This is known as a deflationary economic model.
If every transaction is broadcast via the network, does Bitcoin scale?
Yes. With some modifications to the software, Bitcoin nodes could easily keep up with both Visa and Mastercard combined, using only fairly modest hardware (a couple of racks of machines using today’s hardware). It’s worth noting that the Mastercard network is structured somewhat like Bitcoin itself – as a peer-to-peer broadcast network..
Why do I have to wait 10 minutes before I can spend money I received?
The reason you have to wait 10 minutes is that’s the average time taken to find a block. It can be significantly more or less time than that depending on luck, 10 minutes is simply the average case. Blocks (shown as “confirmations” in the bitcoin client software) are how Bitcoin achieves consensus on who owns what. Once a block is found everyone agrees that you now own those coins, so you can spend them. Until then it’s possible that some network nodes believe otherwise, if somebody is attempting to defraud the system by reversing a transaction. The more confirmations a transaction has, the less risk there is of a reversal. Only 6 blocks or 1 hour is enough to make reversal computationally impractical. This is dramatically better than credit cards which can see chargebacks occur up to three months after the original transaction!
Why ten minutes specifically? It is a tradeoff chosen by Satoshi between propagation time of new blocks in large networks and the amount of work wasted due to chain splits. If that made no sense to you, don’t worry.
Do you have to wait 10 minutes in order to buy or sell things with Bitcoin?
No, it’s reasonable to sell things without waiting for a confirmation as long as the transaction is not of high value. When people ask this question they are usually thinking about applications like supermarkets or snack machines. Zero confirmation transactions still show up in the bitcoin client software, but you cannot spend them. You can however reason about the risk involved in assuming you will be able to spend them in future. In general, selling things that are fairly cheap (like snacks, digital downloads etc) for zero confirmations will not pose a problem if you are running a well-connected node.
It is possible to compare Bitcoin to writing a check. The difference is the Bitcoins will clear a lot faster than the check.
Why does my Bitcoin address keep changing?
Whenever the address listed in “Your address” receives a transaction, Bitcoin replaces it with a new address. This is meant to encourage you to use a new address for every transaction, which enhances
anonymity. All of your old addresses are still usable: you can see them in Settings -> Your Receiving Addresses.
Where does the value of Bitcoin stem from? What backs up Bitcoin?
Bitcoins have value because they are accepted as payment by many. eg. Bit Munchies, Bitcoin Wear, etc.
When we say that a currency is backed up by gold, we mean that there’s a promise in place that you can exchange the currency for gold. In a sense, you could say that Bitcoin is “backed up” by the price tags of merchants – a price tag is a promise to exchange goods for a specified amount of currency.
It’s a common misconception that bitcoins gain their value from the cost of electricity required to generate them. Cost doesn’t equal value – hiring 1,000 men to shovel a big hole in the ground may be costly, but not valuable. Also, even though scarcity is a critical requirement for a useful currency, it alone doesn’t make anything valuable. For example, your fingerprints are scarce, but that doesn’t mean they have any exchange value.
What if someone bought up all the existing bitcoins?
What if somebody bought up all the gold in the world? Well, by attempting to buy it all, the buyer would just drive the prices up until he runs out of money.
Not all bitcoins are for sale. Just as with gold, no one can buy a bitcoin that isn’t available for sale.
How does the peer finding mechanism work?
Bitcoin finds peers primarily by connecting to an IRC server (channel #bitcoin on irc.lfnet.org).
If a connection to the IRC server cannot be established (like when connecting through TOR), an in-built node list will be used and the nodes will be queried for more node addresses.
So your wealth is determined by the amount of CPU power you have?
No. There’s a constant average rate of new Bitcoins created, and that amount is divided among the nodes by the CPU power they use. When Bitcoins start having real exchange value, the competition for coin creation will drive the price of electricity needed for generating a coin close to the value of the coin, so the profit margin won’t be that huge. The easier way to gain a lot of wealth would be trading goods.
At the moment, though, you can generate new coins quite profitably, if you expect them to have real value in the future. If you choose to, be aware that Bitcoin is still experimental software.
Is Bitcoin safe?
Yes, as long as you make backups of your Bitcoin wallet, protect it with a strong password and keep keyloggers away from your computer. You need to make a backup of your wallet after each transaction, as the old wallet backup will be partially or completely invalid.
If you lose your wallet or if some unknown attacker gets it and manages to break your password, there’s no way to get your coins back. On the other hand, that is usually also the case if you lose your physical wallet.
Why should I use Bitcoin?
- Transfer money easily through the Internet, without having to trust middlemen.
- Third parties can’t prevent or control your transactions.
- Bitcoin transactions are practically free, whereas credit cards and online payment systems typically cost 1-5% per transaction plus various other fees up to hundreds of dollars.
- Be safe from the instability caused by fractional reserve banking and bad policies of the central banks. The limited inflation of the Bitcoin system’s money supply is distributed evenly (by CPU power) throughout the network, not monopolized to the banks.