To understand bitcoin, we need to first understand it as two components. The first is bitcoin-the-token which is a snippet of code to represent digital ownership of the concept. The second is bitcoin-the-protocol which the decentralized network that maintains the ledger of bitcoin-the-token. Both these concepts together can be called bitcoin. Also, a ledger is an account of all transactions ever taken place on the network.
Using free software, bitcoin can be created and validated. This creation process is called mining. Validation is done by special node or points on the network called miners. (It checks to see if the input and output expenses tally.) Once validated it can be sent to anyone in the world without a bank or centralized system in place. bitcoin does not exist physically it exists electronically as code.
Bitcoin was created by a pseudonymous software developer named Satoshi Nakamoto (their identity is still unknown) who wanted to create an electronic payment system that can operate without a central authority and wanted the system to be secure, verifiable and immutable.
Now, this new system had to be better than the old system for it to supersede it. Let’s look at what made bitcoin and blockchain so secure and popular.
- Decentralization: This just means that we are getting rid of the middlemen. With the blockchain system, it was now possible to do transactions between people anywhere in the world and have the transaction not go through third parties like banks. The network is maintained by a bunch of volunteers who have no control over the transactions. The network also eliminates the double spending problem which is when an electronic currency is duplicated and sent twice. For example, you have $100. You give $100 to friend A. But you duplicate your money before you give it. Now you give this $100 to friend B. You initially had $100 but you gave away $200. This is the double spending problem. The blockchain is used to nullify this problem as all valid transactions are recorded there. Therefore duplicating bitcoins is next to impossible in this system.
- Limited supply: Unlike traditional currency or fiat currencies where the central banks can issue an unlimited amount of money as they wish, bitcoin works on a tight algorithm that limits how much bitcoin is available at any one time. This reduces the chance of inflation and makes bitcoin a valuable currency to have.
- Anonymity: Under this system for a transaction to take place it is not necessary for people to reveal their identities. It is only necessary for them to have a valid transaction request and bitcoin address. But law enforcement has developed ways to identify people using their bitcoin addresses.
- Immutability: Once a bitcoin transaction is finalized, it is finalized. There is no undoing. There is no modifying it. This is why people say bitcoin network transactions cannot be tampered with.
- Divisibility: Unlike fiat currencies, it is possible to enable microtransactions where the bitcoin is divided into smaller units called satoshi (0.00000001 of a BTC). This again makes it more appealing than traditional currencies.
Even if all this does mean safe transactions and no hacking, it should not make us complacent. There will always be people trying to take advantage of you. Be careful and always do your own research before you put your money anywhere.