What is Bitcoin and how does it work? A beginner's guide to BTC

Bitcoin BTC -1.78% , the world's first decentralized digital currency, has been making headlines since its inception in 2009.

Despite its popularity, many people still struggle to understand what Bitcoin is and how it works. In this beginner's guide, we will explore the basics of Bitcoin, including its history, how it works, and how it differs from traditional currencies.

What is Bitcoin?

Bitcoin, often denoted as BTC, is a digital or virtual currency, also referred to as a cryptocurrency.

It was created in 2009 by an unknown entity using the pseudonym Satoshi Nakamoto, with the aim to create a new kind of money that was completely decentralized, meaning it wouldn't be controlled by any government or financial institution. The creation of Bitcoin was also a response to the financial crisis of 2008, highlighting the need for an alternative, more resilient financial system.

Bitcoin operates on a technology called blockchain, a kind of distributed digital ledger where all transactions are recorded and visible to everyone on the network. This transparency helps to maintain the integrity of the system and makes it difficult for any fraudulent activities to occur.

Bitcoins are generated through a process called mining, where individuals use powerful computers to solve complex mathematical problems. The person who solves the problem first gets a reward in the form of new bitcoins, hence incentivizing more people to participate in the network. This system also protects the network from attacks and maintains its security.

Bitcoin is stored in digital wallets, which can be software-based or hardware devices. Bitcoin transactions are sent from one wallet to another, with each transaction being recorded on the blockchain. This makes Bitcoin transactions pseudonymous — while the transaction data is public — the identities of the people conducting the transactions are not.

Despite its many advantages, Bitcoin also has its share of challenges. Its highly volatile nature makes it a risky investment, and its use in illegal activities has raised concerns. Moreover, since Bitcoin transactions are irreversible, it can result in permanent loss if bitcoins are sent to the wrong address.

How does Bitcoin work?

Delving deeper into how Bitcoin operates, it's crucial to understand that it functions on a peer-to-peer network, which is fundamentally decentralized. This means that Bitcoin isn't issued, controlled, or regulated by any central authority like a government or central bank, making it immune to government interference or manipulation. Bitcoin transactions happen directly between users on the network, with no intermediaries involved. Each transaction is verified by network nodes through cryptography and recorded on a public ledger called a blockchain.

Bitcoin miners add new transaction data to the blockchain. In return for their efforts, miners are rewarded with new bitcoins, thereby introducing new coins into the circulation. This process ensures the security and integrity of the Bitcoin network.

Furthermore, Bitcoin operates based on public and private keys. Your public key, similar to a bank account number, is your wallet address that others can use to send you bitcoins. The private key, akin to your ATM pin, is a secret code that allows you to access and send your bitcoins. It's essential to keep this private key secure as losing it means losing access to your bitcoins.

How do you mine Bitcoin?

Mining Bitcoin is a crucial process that involves solving complex mathematical problems using high-powered computers, a process known as proof-of-work. This process is fundamental to the functioning and security of the Bitcoin network.

Miners, the individuals who take part in this process, work to solve these problems, which are essentially cryptographic 'hashes' that secure each block of transactions on the Bitcoin network. The miner who solves the problem first gets a reward in the form of new bitcoins, thereby incentivizing more people to participate in the network. This robust system also helps protect the network from potential attacks.

However, it's essential to note that Bitcoin mining is a challenging and resource-intensive activity. It requires a high hash rate, which is measured in hashes per second (H/s) and indicates the number of hashes a miner can calculate each second. To successfully mine Bitcoin, miners need a high hash rate, typically measured in megahashes per second (MH/s), gigahashes per second (GH/s), or terahashes per second (TH/s).

The Bitcoin code provides additional Bitcoin as rewards to miners to encourage them to keep racing to solve the puzzles and maintain the entire system. This reward system is how new transactions are added to the blockchain. However, the reward for mining is halved approximately every four years, a process known as the bitcoin halving. This means that while a miner received 50 BTC for mining a block in 2009, the reward was reduced to 25 BTC in 2012, then to 12.5 BTC in 2016, and most recently to 6.25 BTC in 2020. By 2140, it is expected that all Bitcoin will have been released into circulation, leaving miners to rely on transaction fees to profit from validating the network.

What is a Bitcoin wallet?

A Bitcoin wallet is essentially a digital storage system for your Bitcoin. Much like a physical wallet, it holds your currency, but in this case, the currency is digital. The wallet doesn't actually store your Bitcoin, but rather the private key that you need to access your Bitcoin address and sign transactions. Your wallet also has a public key, which is a publicly known code that others can use to send Bitcoin to your wallet. It's important to note that while your public key can be freely shared, your private key should be kept secret and secure, as anyone with access to it can spend your Bitcoin.

There are various types of Bitcoin wallets, including mobile wallets, web wallets, desktop wallets, hardware wallets, and paper wallets.

Mobile and web wallets are convenient and user-friendly, allowing you to access your Bitcoin from anywhere with an internet connection. Desktop wallets are software applications that you can download and install on your computer, providing a higher level of security than web wallets. Hardware wallets are physical devices that securely store your private keys offline, making them immune to online threats. Lastly, paper wallets are physical printouts of your public and private keys, offering a secure way to store your Bitcoin offline.

Bitcoin wallets not only facilitate the storage and management of your Bitcoin, but they also enable you to send, receive, and monitor your transactions. When you want to send Bitcoin, you simply enter the recipient's public key and the amount you want to send, then sign the transaction with your private key. Once the transaction is confirmed, it gets recorded on the Bitcoin blockchain and the balance in your wallet is updated.

Despite its digital nature, using a Bitcoin wallet is as simple as using a traditional wallet, making it an accessible tool for anyone interested in using Bitcoin.