The Bitcoin White Paper

The Bitcoin white paper

On October 31st 2008, someone published the Bitcoin white paper. Authored under the pseudonym Satoshi Nakamoto, the creator’s identity is unknown to this day. The paper outlines the design and operation of a decentralized, peer-to-peer electronic cash system, known as Bitcoin.

The white paper states that Bitcoin is a digital currency that no central authority, such as a government or financial institution, controls. Instead, it is based on a decentralized network of computers that verify and process transactions using complex mathematical algorithms. The white paper also introduces the concept of a blockchain. The blockchain is a public ledger of all Bitcoin transactions that have ever occurred. A decentralized network of computers maintains this ledger, making it highly secure and resistant to tampering or hacking.

In this blog, we will look into the key points of the white paper and share insights on its significance in the context of the emerging Cryptocurrency market.

The Problem with Electronic Cash

The white paper begins by addressing the key issues associated with electronic payments.

The whitepaper centers around the basic premise of moving away from using a third party of trust such as a Bank or other intermediary, to a simple peer-to-peer approach where no intermediary is needed. The main issue presented in the former approach, is that the third party determines the fees for holding and transferring an individual’s money.

Thought/impact: It is easy to see why Governments and Banks who currently pretty much monopolise the custody and fees connected to the managing and distributing of your money, may be against or concerned about the emergence of another system for ‘money management,’ where they have no control or influence.

The Proposed Solution

At its core, Satoshi’s solution is to completely remove the centralized third-party system. Put simply, this would allow the owner of the digital currency to be their own bank and not have to go through a company to complete a transaction.

The paper proposes a system based on “cryptographic proof”. This lays the foundation for the technology we know as the blockchain today.

Thought/impact: Whilst self custody if quite frightening to many people, the benefits of this solution could certainly outweigh the risks here.

What does this solution involve?

Satoshi’s solution involves many components. Below are the key ones:

The Timestamp

The timestamp records the exact time and date that each transaction is processed, providing proof of a transaction’s existence. Just like a transaction history in your bank account, a timestamp records all necessary information from the transaction at the moment that it takes place.

The main difference in the recording of this transaction however, is that it is publicly available and immutable. This means that everyone can see it and it will stay visible and recorded for total traceability.

Thought/impact: The difference between fiat currency and this solution is basically down to the following:

1. Custody (who owns it and takes care of it when it is not being spent).
2. Trust (The risks associated with using a 3^rd party presents an additional layer of vulnerability in a system designed to mostly transact between two parties.
3. Transparency (What you can see v what you cant and the traceability of transactions).
4. Cost (The fees for moving it).

Hashing

A small yet highly significant process known as hashing exists within the blockchain. This involves taking an input of numbers or letters and processing this into a smaller, fixed and encrypted output called a hash.

Like what an acronym does to a long sequence of words like KISS (Keep It Simple, Stupid), a hash provides an efficient way to recognise and organise large pieces of data on the blockchain.

The process is comparable to how TinyUrl.com condenses a long URL. This program takes a long URL address and makes it shorter and more manageable.

A hash is absolutely essential to upholding the security of the blockchain. Since each block contains a different hash, it is immediately clear if an individual attempted to change a transaction on a previous block. An attempted hash change would alert others on the network, which could indicate an attacker in the system.

 Thought/impact: The Hash rate is a good indicator of the health of Bitcoin. A good hash rate might indicate that miners are investing money into newer, more powerful mining equipment, which in turn might mean they have confidence in the network.

 Digital Signatures

Without a bank or third party, the blockchain must verify transactions internally. This is where digital signatures come in.

Each transaction in the blockchain has an encrypted code or ‘key’ attached to it, called a digital signature, that must be verified or signed for the chain of transactions to be validated. Each key is unique to each individual and is a way to link each transaction to the sender and receiver.

Think of a public key like your bank account number. You share these with others. On the other hand, a private key is your bank login details that only you know.

Thought/impact: This approach combined with other security measures such as using 2FA. (Two factor authorisation) are designed to make transacting Crypto as secure as possible. As with everything, there are risks and vulnerabilities, but these also exist in the world of fiat currency. (If you lose a pocket full of cash out of your wallet, then it is likely you will not get it back)

Proof of work (Mining)

As part of the timestamp, the white paper suggests using a proof-of-work system. This involves individuals, called miners, who compete to be the first to verify the transactions on the blockchain.

Imagine this as a reverse lottery, where a winning number is already known but the winning ticket must still be found. Miners are like players within this lottery, attempting to find the missing ticket. The miners must ‘pay’ for these tickets through computational power and electricity costs. If they find the winning ticket first, they are awarded bitcoin as an incentive.

The process of the “reverse lottery”.

As more miners become part of the blockchain, the more competitive and difficult it becomes to find the missing ticket first. This is very similar to what happened during the American gold rush on the Klondike. The longer time passes, the more it becomes increasingly difficult to find the gold because there are more mining companies looking for less and less available gold.

Thought/impact: Electricity consumption from using proof-of-work is quite a controversial subject. It is clear that the global energy crisis prompts the need for the blockchain community to seek sustainable alternatives for crypto mining electricity sources. While Bitcoin does have an energy consumption as high as some countries with millions of citizens, it consumes eight times less than all the hot drink machines installed in the world and twelve times less than all the standby devices in the USA. 

According to the Bitcoin Mining Council’s 2022 report, 59.5% of the total bitcoin mining global energy comes from renewable sources, which is a good sign of progress

Mining Rewards

So why would individuals invest so much time, money, resources and computational power into sustaining the system Satoshi proposed? The process of rewarding miners with bitcoin for every validated transaction is the answer to incentivization.

 

The incentive process in the blockchain.

The incentive allows for the support of the network and the distribution of digital currencies like bitcoin. With the first transaction in a block marking the beginning of a “new coin”, the circulation of currency can occur.

 Thought/impact: Block rewards give everyone in the network the incentive to participate in the process and to keep it running properly. Without some form of mining, blockchain technology the way we know it wouldn’t function. Mining more and more units of Bitcoin increases the difficulty of cryptographic puzzles. To learn more about how Bitcoin is mined and the impact it has on price, see our article on The Bitcoin Halving. These points are the most important ones contained in the Bitcoin whitepaper and will hopefully help you to build your knowledge and understanding of what it is all about.

If you would like to read the Bitcoin whitepaper in its full glory then you can access it on the following link Bitcoin whitepaper

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