Key takeaways
- Bitcoin is a decentralized digital currency operating without a central authority. It was created to address weaknesses in traditional financial systems.
- Bitcoin operates on blockchain technology, ensuring secure and transparent transactions, and it uses a mining process to add new blocks to the chain.
- Bitcoin’s benefits include decentralization, security, accessibility, and privacy, but it also faces challenges like scalability and high transaction fees.
- The future of Bitcoin includes developments like the Lightning Network for faster transactions and support for non-fungible tokens (NFTs), but it also faces competition from other cryptocurrencies and the rise of stablecoins.
Bitcoin for beginners
Bitcoin has become so mainstream that it has been mentioned on an album by global superstar rapper Eminem, appeared in the popular series The Big Bang Theory, and continues to grow in pop culture and everyday discourse.
Those who do hold Bitcoin can withdraw their crypto in cash anywhere in the world, with many online retailers and even physical stores accepting the digital currency as legal tender.
But what is Bitcoin?
A popular and often-used Bitcoin definition is:
Bitcoin is a decentralized digital currency that operates without a central authority.
However, questions still remain: How does Bitcoin work? Is Bitcoin real money? What is the blockchain? Even, “What is crypto?”
This article discusses the basics of Bitcoin to help people understand what it is today. It covers its history as the first crypto, its comparison with traditional money, how to buy it and its use as a speculative asset.
Why was Bitcoin created?
For centuries, people have relied on various forms of currency, from shells and stones to gold and government-issued paper money. However, these traditional financial systems have always carried certain vulnerabilities.
Centralized control by banks and governments means that single entities can print or manipulate money at will, leading to issues like inflation.
Traditional financial systems are often slow and inefficient. Transferring money across borders, for example, can take several days and incur high fees. For many people around the world, especially those in developing countries, access to banking services is limited or non-existent, leaving them excluded from the global economy.
The birth of Bitcoin
During the 2008 financial crisis, a mysterious figure named Satoshi Nakamoto proposed a radical solution: Bitcoin. Nakamoto’s vision was a decentralized digital currency that operated on a peer-to-peer network, allowing people to transact directly without the need for intermediaries like banks.
This innovation was built on a groundbreaking technology known as blockchain, which ensures the security and transparency of transactions.
Did you know? The first recorded use of a digital currency was in the early 1990s with a system called eCash. However, it wasn’t until Bitcoin’s introduction in 2009 that digital currencies truly took off, thanks to its innovative use of blockchain technology and decentralized network.
Bitcoin was created to address the fundamental monetary problems that emerged following the 2008 crisis. It offered a fixed supply of 21 million coins, making it a deflationary asset over time. Its decentralized nature meant that no single entity controlled it, providing protection against the risks of centralization.
As a result, Bitcoin transactions have become fast, borderless and cost-effective, opening up financial opportunities to millions of people previously excluded from the system.
Bitcoin history: A timeline of key events and milestones
Learn about the fascinating history of Bitcoin, its key events and the turning points that have influenced the cryptocurrency industry.
- 2008: Satoshi Nakamoto published the Bitcoin white paper on Oct. 31.
- 2009: The first Bitcoin block (Genesis Block) was mined on Jan. 3.
- 2010: The first real-world Bitcoin transaction occurred, with a Bitcoiner paying 10,000 BTC for two pizzas on May 22. BitcoinMarket.com — the first Bitcoin exchange — is established.
- 2011: Bitcoin reached parity with the United States dollar in February. The Silk Road darknet marketplace launched. Litecoin was released in October.
- 2012: The first Bitcoin halving occurs on Nov. 28.
- 2013: Bitcoin’s price surpassed $100 in April and $1,000 in November. The US Treasury Department’s Financial Crimes Enforcement Network (FinCEN) issued guidelines for digital currencies. China’s central bank prohibited financial institutions from using Bitcoin.
- 2014: Mt. Gox exchange collapses in February. Microsoft begins accepting Bitcoin.
- 2015: The BitLicense regulatory framework is introduced in New York.
- 2016: The second Bitcoin halving occured on July 9. By year-end, Bitcoin’s price rose to nearly $1,000.
- 2017: Bitcoin reached an all-time high of $19,000 in December. Bitcoin Cash was created on Aug. 1. The Chicago Board Options Exchange and Chicago Mercantile Exchange launched Bitcoin futures trading.
- 2018: Bitcoin’s price dropped to around $3,000 by December. Major companies were exploring blockchain technology. The Lightning Network is launched.
- 2019: Bitcoin’s price recovered to around $10,000 by mid-year. Facebook announced its cryptocurrency, Libra (later Diem).
- 2020: The third Bitcoin halving occurred on May 11, with increased interest in Bitcoin as a store of value due to the COVID-19 pandemic.
- 2021: Bitcoin reached a new all-time high of over $60,000 in April. Tesla bought $1.5 billion in Bitcoin and briefly accepted it for payments. El Salvador adopted Bitcoin as legal tender in June. China intensified its crackdown on crypto mining and trading.
- 2022: Bitcoin’s price fluctuates between $30,000 and $60,000. The SEC approves the first Bitcoin futures ETF. Ethereum transitions to proof-of-stake.
- 2023: Bitcoin gains acceptance among institutional investors and businesses. Brazil and Argentina explore adopting Bitcoin as legal tender. Developments in decentralized finance and NFTs integrate Bitcoin further into the crypto ecosystem.
- 2024: The fourth Bitcoin halving occurs, reducing the mining reward to 3.125 BTC. Bitcoin adoption continues to grow. Technological advancements and regulatory developments shape the future of Bitcoin.
How does Bitcoin work?
Bitcoin operates on a technology called blockchain. The blockchain is essentially a digital ledger that records all Bitcoin transactions ever made.
Things will get quite tricky here, so bear with us as we move through the technicalities of the blockchain, and then we’ll reward you with a neat metaphor that will make things much clearer.
This ledger is distributed across numerous computers, known as nodes, all around the world. This distribution ensures that the system is secure and transparent, as everyone can see the transactions, but no single entity controls the ledger.
This distribution also makes it difficult to make false transactions for the benefit of bad actors. If a person tries to change the Bitcoin ledger to add more funds to their account than they have, the whole distributed network would have to agree, which is virtually impossible to get right.
Another aspect of Bitcoin that adds to its security is the process known as mining. To record new transactions onto the blockchain, a “miner” must encode those transactions into a format that is acceptable to the network. In other words, the miner is tasked with “writing” the true transactions on a block in the Bitcoin blockchain.
This requires the use of a hashing algorithm called SHA-256, which turns readable data, such as the transaction information, the timestamp, the previous block header, and so on, into a single, long, cryptic alphanumeric string.
Sounds interesting? You can try playing around with this algorithm here.
The miner then adjusts the input bit by bit by adding meaningless letters and numbers (this added information is called the “nonce” value) until a hash that is small or “neat” enough is reached, as required by the network. This “neatness” is usually dictated according to the number of leading zeros in a hash and isn’t predictable, meaning there’s much trial and error involved.
Once a miner reaches an acceptable format, the rest of the network ought to validate its authenticity by checking that the inputs are valid and, of course, the miner isn’t lying about the neatness (which changes every two weeks, if you weren’t already confused enough).
Upon majority approval, the “proof” is verified, a new block is added to the chain and the miner is rewarded with some newly minted Bitcoin and the user transaction fees from the block that was just mined out.
Understanding Bitcoin mining
Bitcoin mining is notoriously complicated and can be difficult to understand, but the process is not too foreign if we use a more real-world example to explain it.
Imagine you’re in a classroom and have to write down a full page with about 2,000 transactions. You need to record who is sending what to whom and at what time.
The key is to write it in a way that impresses the teacher with a unique style and to do it before any of your classmates do. The tricky part is that no one knows what kind of handwriting the teacher likes, so everyone keeps trying different styles until the teacher approves one.
When the teacher approves someone’s work, they will ask everyone else in the class to check that the transactions that were written were valid (after all, she only cares about the handwriting). If 51% or more of the class agree that the transactions are correct, she’ll accept the work and reward the lucky author with new Bitcoin. Then a new teacher comes in, the transactions change, and the process starts all over again.
When it comes to Bitcoin mining, the pupils in the class are an example of mining computers. Each computer is trying to solve an equation by putting forward a random string of numbers that only the Bitcoin blockchain knows.
As soon as that number is correctly put forward, the blockchain accepts the equation, creates a new block (or page in the ledger), and rewards the miner who got it right with a Bitcoin reward — just as the pupil who used the right handwriting led to the teacher approving it.
In theory, the handwriting style (or the length of the target hash in the case of Bitcoin) doesn’t really matter, but it makes mining more difficult. This difficulty is important in controlling how quickly new BTC is created. The complex puzzles miners solve ensure that new blocks and new Bitcoin are added to the blockchain at a steady and predictable rate.
If the class starts making these lists too quickly with different handwriting styles, the teacher will get pickier. If it’s too hard and takes longer than usual, the teacher will be less strict about the handwriting styles.
The idea is to get the “block time” as close to 10 minutes as possible. This means transactions on the Bitcoin network — provided they are in the box of transactions (called a block) that the students should write down — shouldn’t take longer than 10 minutes to process.
