Bitcoin, Blockchains, & Cryptocurrency
One of the most widely-talked-about yet little-understood tech advances of the last ten years, bitcoin is many things to many people. Most who are at least moderately well-versed in the tech news landscape know it’s some kind of digital money, and have heard of its controversial use in online marketplaces like the infamous Silk Road, but what is it exactly? And how the heck does it work?
What is Bitcoin?
Beginning with a basic definition, bitcoin is an example of a cryptocurrency, a digital medium of exchange that uses cryptography to secure transactions and regulate the creation of new units of that currency.
Any given cryptocurrency is controlled and produced collectively by that cryptocurrency’s entire operating network using publicly-known rates and protocols, as opposed to fiat currencies governed by a small body of elite decision makers. Bitcoin was the first fully-implemented decentralized cryptocurrency to come into existence, though some non-decentralized digital currencies predate it, and newer cryptocurrencies generally known as altcoins have followed in its wake.
Bitcoin and other such cryptocurrencies operate in this decentralized fashion using blockchains as both a payment network and a distributed ledger of transactions. For any given bitcoin transaction, the time, date, amount, and participants for a given transaction are recorded (pseudonymously), and these individual transactions are grouped together in blocks. The blockchain records these transfers of value from one owner to the next, akin to a metaphorical chain where each block acts as a link. The blockchain extends backwards to the very first group of transactions, known as the genesis block.
Any given block is confirmed or discarded based on the validity of its connection to the blockchain via the previous block and on backwards. This is done by miners, individuals who dedicate their personal computers (or other purpose-built devices) to verifying blocks and adding them to the blockchain. Since the process of adding a block to the chain is relatively processor- and time-intensive, miners are rewarded by receiving a set bounty of newly-created bitcoins (hence the term mining – this is the sole process by which new bitcoins are created). Miners also receive any transaction fees included by the sender of funds, which are extra bitcoins present in the transaction that the sender didn’t assign specifically to the recipient. Such fees are intended to incentivize miners to prioritize adding a given transaction to the blockchain before others, which strengthens its connection to the blockchain and therefore its validity.
Blockchains are totally public and spread evenly over a distributed network of individual computers. Each node possesses a full copy of the ledger and is connected to many other nodes at any given time. Since the full blockchain is stored and updated on every node, it’s essentially impossible to falsify or otherwise alter a given block in the chain. If a bad actor tries to corrupt the ledger via a particular node, the surrounding nodes note that the entry doesn’t match the consensus, and the offender is discarded.
This distribution also makes a blockchain resistant to failure due to attack or hardware malfunction, since many nodes can be taken down while the network remains operational. In fact, a blockchain network can function with as few as two active nodes.
Money and More
So, bitcoin is a form of currency that is free from the control of a central entity, tracked in an extremely transparent manner, and very secure from hacking, fraud, and mechanical systems failure. And since the transactions are digital and direct, they settle in minutes instead of the hours or days other forms of electronic payments (with all their middlemen) can take.
But the possibilities of bitcoin and other blockchain-related technologies reach far beyond currency! This is because a bitcoin can represent not just a certain amount of money, but other forms of property, value, or information based on a user’s desire.
Bitcoins are divided into 100 million units known as satoshis (after bitcoin’s pseudonymous creator Satoshi Nakamoto), and each unit is both individually recognizable and programmable. Therefore a user can define a given satoshi as a monetary amount, a share of company stock, a certificate of ownership, a kilowatt-hour of energy, a vote in an election, and more.
This programmability of bitcoin units combined with the nature of blockchains – open, automated ledgers of bitcoin transactions, which as we’ve seen can be far more than money – enable a revolution in efficiency, security, and transparency for a wide variety of industries. But how, exactly?
No More Middlemen
Because a blockchain network eliminates the need for a central coordinating entity, they essentially act as (and replace) the various “trusted” third parties that enable global commerce, contract management, government, and so on. We allow such middlemen to verify and approve our transactions, votes, etc. due to the complexity and secrecy inherent in these processes; however, these transactions are susceptible to the whims of these third parties, errors on their part, hacking, and fraud.
Imagine, however, that instead of needing to trust the opaque and insecure actions of a relative few, such processes were conducted on a transparent, massively distributed, secure, and highly automated network. Suddenly, the need for accountants, notaries, and and all kinds of bureaucrats is drastically reduced.
A specific example of one such usage is encrypting proof of ownership of an invention, intellectual property, or other authorial work via blockchain. Users of a service like Proof of Existence can prove they own a document without filing a public patent or otherwise exposing the contents of the document itself. Like all blockchain transactions, the time and date are recorded in a massively distributed network and are eminently secure and verifiable. Say goodbye to the Patent Office and patent trolling, and the expenditure of resources used in maintaining the status quo in this area.
Another such example would be determining conditions for how certain money is spent. The website Bitcoin Properly describes a healthcare allowance that can only be spent on care provided by certified parties, ensuring compliance without the need for later verification by bureaucratic entities. They also imagine a corporate or governmental budget where given portions are only allowed to be spent on, say, payroll, advertising, maintenance, and so forth. Again, the need for human intervention and tracking is greatly reduced, saving time and money.
Blockchain technology also has a strong potential for ensuring transparency in governance and providing a secure and anonymous communication platform where political freedoms are suppressed. Venture capitalist Linda Yuan describes several possibilities on her blog. Voting, for example, is transitioning to an electronic process that requires verification of individual machines, software, and personal identities, and is subject to error, hacking, and other tampering. By using blockchain technology for voting systems, governments can eliminate the vulnerabilities of current e-voting methods while preserving anonymity and transparency. The Liberal Alliance of Denmark created just such a system for internal voting in 2014.
Blockchains can also be used to create a distributed communication network that can’t be censored or shut down, allowing those who live under suppressive regimes to send messages anywhere in the world without exposing their identity. Also in 2014, Dutch student Krzysztof Okupski created an affordable messaging system that piggybacks on the bitcoin blockchain.
So, while bitcoin is a legitimate innovation in and of itself, the blockchains that underlie the bitcoin economy promise wide-ranging transformation of many fundamental aspects of our society. Ledra Capital maintains a crowd-sourced, in-progress rundown of potential uses for blockchain technology (either the bitcoin blockchain or alternatives) and currently depicts 84 (mainly theoretical) distinct possibilities. While bitcoin itself may come and go, blockchain technology could very well be here to stay, disrupting industries and creating new paradigms for business, government, communication, and much more along the way.