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Bitcoin is the first cryptocurrency created by an anonymous user under the name of Satoshi Nakamoto in 2009 post the global financial crisis of 2007-2008.
With current Bitcoin protocol, there is only a total of 21 million Bitcoins that can be mined, meaning that each one will grow in value over time.
How Bitcoin works?
How new Bitcoins are generated?
New Bitcoins are generated through the "Mining" process. During the process, which is similar to a permanent lottery, hosts are awarded with
Bitcoins every time they find the solution to a mathematical problem (and thus create a new block). Creation of block is a work proof and
complexity of the process varies with the growth of network. Award for the creation of the block is adjusted automatically. Thus,
every four years of the networking half of bitcoins is created, that have been created over the past four years. During the first
4 years (January 2009 - November 2012) 10,499,889.80231183 Bitcoins (approximately) have been generated. Every four years, this
amount will be divided in two; it will be equal to 5,250,000 over the next four years, then 2,625,000, and so on. Thus, the total
number of Bitcoins will never exceed 20,999,839.77085749.
Blocks are mined every 10 minutes on average, and for the first four years (210,000 blocks) each block contained 50 new Bitcoins.
Since the amount of processing equipment used in mining increases, the difficulty of creating new Blocks (Also Bitcoins) is growing.
This complexity factor is calculated every 2016 blocks; it is based on the average time it took to create the previous 2016 blocks.
If the average is less than 10 minutes the difficulty is increased.
What is Bitcoin mining?
Bitcoin transactions are recorded distributively in a public ledger, therefore every transaction needs to be verified and stored into the public ledger
by computing power. Miners are the providers of the said computing power. Miners help ensure the proper operation of the network and receive Bitcoin
as reward in return. The process of maintaining the network is therefore called Bitcoin mining. Bitcoin is just like digital version of gold - scarce and valuable.
Hence the concept of producing Bitcoins is referred to as mining.
How does Bitcoin mining works?
Anybody can become a Bitcoin miner by running software with specialized hardware.
Mining software listens for transactions broadcast through the peer-to-peer network and performs appropriate tasks to process and
confirm these transactions. Bitcoin miners perform this work because they can earn transaction fees paid by users for faster transaction
processing, and newly created bitcoins issued into existence according to a fixed formula. For new transactions to be confirmed, they need
to be included in a block along with a mathematical proof of work. Such proofs are very hard to generate because there is no way to create them
other than by trying billions of calculations per second. This requires miners to perform these calculations before their blocks are accepted by
the network and before they are rewarded.
As more people start to mine, the difficulty of finding valid blocks is automatically increased by the network to ensure that the average
time to find a block remains equal to 10 minutes. As a result, mining is a very competitive business where no individual miner can control
what is included in the block chain. The proof of work is also designed to depend on the previous block to force a chronological order in
the block chain. This makes it exponentially difficult to reverse previous transactions because this requires the recalculation of the proofs of
work of all the subsequent blocks.
When two blocks are found at the same time, miners work on the first block they receive and switch to the longest chain of blocks as soon as the
next block is found. This allows mining to secure and maintain a global consensus based on processing power. Bitcoin miners are neither able to
cheat by increasing their own reward nor process fraudulent transactions that could corrupt the Bitcoin network because all Bitcoin nodes would
reject any block that contains invalid data as per the rules of the Bitcoin protocol. Consequently, the network remains secure even if not all
Bitcoin miners can be trusted.
How does the proof-of-work system help secure Bitcoin?
Bitcoin uses the Hashcash proof of work with a minor adaption. To give a general idea of the mining process, imagine this setup:
nonce = 1;
hash = SHA2(payload + nonce);
The work performed by a miner consists of repeatedly increasing "nonce" until the hash function yields a value, that has the rare property
of being below a certain target threshold. (In other words: The hash "starts with a certain number of zeroes", if you display it in the
fixed-length representation, that is typically used.) As can be seen, the mining process doesn't compute anything special. It merely tries to
find a number (also referred to as nonce) which - in combination with the payload - results in a hash with special properties.
The advantage of using such a mechanism consists of the fact, that it is very easy to check a result: Given the payload and a specific nonce,
only a single call of the hashing function is needed to verify that the hash has the required properties. Since there is no known way to find
these hashes other than brute force, this can be used as a "proof of work" that someone invested a lot of computing power to find the correct
nonce for this payload.
This feature is then used in the Bitcoin network to allow the network to come to a consensus on the history of transactions.
The payload also contains the header information of the previous block. An attacker that wants to rewrite history will need to do
the required proof of work for all the Blocks that succeed the block he wants to rewrite. But as long as honest miners have more computing power,
they can always outpace an attacker.
How are Bitcoins valued?
Bitcoin prices are determined by the market forces, very similar to the way Gold or Oil is priced.
When there are more buyers than sellers â demand is greater than supply the price increases and when the Supply exceeds the Demand,
there is a fall in the prices.
Why use Bitcoin?
Bitcoin was meant to eliminate the excessive reliance on financial institutions to facilitate monetary exchange.
Bitcoin puts the user in control and allows secure immutable transactions through use of blockchains. Bitcoin decentralises
the financial system, currently controlled by large monopolies. The transaction fees are decided by the network and the system is safe
from inflationary characteristics of fiat currencies by having a maximum cap for the supply.