How the Bitcoin Blockchain Works


The blockchain is the foundation technology upon which all cryptocurrencies are built. The first implementation of a blockchain was in 2009 when the Bitcoin protocol was launched by Satoshi Nakamoto. While blockchain technology is relatively young, it is the basis for all digital currencies that exist today.

What is the blockchain?:

The Bitcoin blockchain continues to be the most popular and at this point, the most valuable blockchain in the world.

The blockchain is a publicly accessible ledger that isn’t stored in one particular location but instead shared among computers across the globe. Information on the blockchain is monitored, validated and updated in real time by a network of computers. Hence it lends itself to being immutable and hard to censor. This is seen as a valuable edge against traditional financial services and central banks.

More commonly known for providing the means of recording bitcoin transactions, the blockchain is decentralised – it isn’t owned by any single entity. In order to fulfill its purpose, it runs on a consensus-based protocol. This is when all relevant network participants agree that a transaction is legitimate by fulfilling the criteria required by the network. The transaction can not be processed or recorded in the blockchain until all network participants agree.

Decentralisation:

Decentralisation is the process of distribution that requires no central authority such as a government or bank. The blockchain, therefore, is a decentralised network allowing the creation and distribution of decentralised digital currencies (bitcoin). A peer-to-peer network has eliminated the need for a central entity within the network.

While decentralisation is costly, its benefit to users is that it makes transactions ‘censorship resistant’. This means that no third party can step in between senders and receivers on the bitcoin network and stop transfers of value from occurring. When making global payments, this also means that costs are lowered compared to traditional services, because the blockchain does not distinguish between someone next door and someone on the other side of the globe. The fees taken by miners on the Bitcoin network are typically much lower than that taken by the cross-border banking network.

Mining:

Mining is the act of essentially “digging” coins out of the network by solving complex mathematical problems using your computer. Only once the problem has been solved will the coins be unlocked from the network.

As a reward for solving these problems, miners are rewarded with a portion of the unlocked coins. Mining, however, is very expensive and requires specialised and powerful computers in order to successfully solve the mathematical problems.

Miners don’t just mine new coins out of the network. Miners are also essential in securing the network and preventing fraud by verifying transactions. When verifying transactions miners are again rewarded for their work with a small fee out of that transaction.

Mining is a system of completing mathematical problems to publish transactions. This is called Proof of Work (PoW). This ensures that an unfeasible amount of computing power would be needed to participate in the network maliciou.

Proof of work (PoW) ensures that the bitcoin blockchain is secure. PoW is a requirement of the Bitcoin network that involves a computing calculation (mining) to be performed in order to generate a new block (transactions) on the blockchain.

The transactions recorded on the blockchain cannot be reversed or erased. Meaning all errors made can only be undone by creating a new transaction in the blockchain. Security is ensured by the peer-to-peer network that is managed in an autonomous and decentralised way.

Nodes:

In order for the decentralised network to work e.g. the validation of transactions, the network requires more than just miners to process the transactions. The network needs to make use of “nodes” to broadcast messages across the network.

The best way to describe a node (or the simplest) is that it is a point of connection within the network. This means a node is a computer that is running the software of the network e.g. bitcoin client software, it downloads the entire copy of the blockchain and validates transactions based on the consensus protocol.

Nodes help to secure the network, therefore the more nodes there are the more secure the network is. This is because nodes are responsible for checking whether or not miners are following the consensus protocol accurately, and whether other nodes are publishing valid transactions. With too few nodes, an attacking party could easily flood the network with invalid transactions and degrade the overall accuracy of the network

Security:

Cryptographic techniques maintain privacy to provide participants with visibility to the ledger while masking the identity of transacting parties.

Anyone from anywhere in the world can send digital currency via the blockchain. To do so, you need to have an address on the blockchain, which is secured with a password. This address is called your ‘public key’, and the password your ‘private key’. This provides users with a new, alternative and a permissionless financial system where regulation is unenforceable on a protocol level.

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