How Bitcoin works (5 min Video)
How Bitcoin works (5 min Video)
In this video, we will look at How Bitcoin works (5 min Video). Bitcoin is a digital currency based on a computer code that enables the free flow of digital currency securely from one person to another without the need for a bank or other trusted third party. The network of participating computers, often called miners, validates and records transaction information on something called the Blockchain, which is basically a code that allows for digital and secure transactions of Bitcoin, a peer-to-peer currency.
Comparing transactions
If we compare this to a typical transaction process, such as a bank transfer that we are all familiar with, the bank holds your money and transfers it to someone else using the bank as a trusted third party that keeps track of the incoming and outgoing money to and from your account.
With Bitcoin and the Blockchain, the key difference between these two types of currency transactions is that you own your money, have control over it, and can send it anywhere, anytime without large fees being applied by the banks. This makes it a very efficient solution for moving money from one person to another.
Making transactions
The method to transfer Bitcoin from one person to another is based on a two key security principle. One Public Key and one Private Key. They are not actual keys but encrypted pieces of code.
Here’s how it works: if person A needs to send some Bitcoin to person B, they send it to person B’s Public key, also known as an address. This address is very similar in Banking terms to your account number on your bank card.
Person A uses their private key to encrypt the transaction and person B use their private key to decrypt the transaction and get their bitcoins. Using our Bank example, this would be like the Pin code of you bank card.
Instead of a bank verifying the transaction using their own systems, a huge network of computers scattered around the world, operated by miners, verifies and validates the Bitcoin transaction. The miners use their computers to replicate, on a Bitcoin public ledger, a record of every transaction ever made between the parties involved.
The Bitcoin leger
The huge computer network’s verification makes the ledger immutable, meaning it can never be changed or altered. Every transaction verified by this network is not only guaranteed to be accurate but will always be visible for anyone to see. So it is basically tamper proof.
The network rewards miners with Bitcoin payments for putting their computational power and electricity at the network’s disposal to validate the transactions. To earn their Bitcoin reward, they look at all the transaction requests pending and then bundle them together into a block. But before they can add it to the blockchain the mining computers must win something called the “proof of work lottery”.
Proof of work lottery
So how does this Proof of Work Lottery work, well, mining computers “buy proof of work lottery ticket” by solving blockchain computation based on the transaction they have gathered that consume energy. This is called hashing. Every 10 minutes or so a mining computer finds a hash number derived from those computations that meets the lottery winning criteria.
The mining computer announces to the network that it has won the lottery and every other participant validates the claim by checking the transactions hash in the proposed block.
If everything is ok, all other participants write the new block into their copy of the Bitcoin ledger and the miner who won the lottery receive some Bitcoin blockchain reward and Bitcoin transaction fee.
Should there be too many participants trying to win the proof of work lottery, the blockchain will increase the computational difficulty, meaning it will require more energy from miners to have a chance to win. This will force out the most ineffective miners. The blockchain can also reduce the difficulty if there are not enough miners to ensure a good level of security.
Self-regulated mechanisms protect the Bitcoin blockchain from fraud or abuse, such as the need to buy a lottery ticket by consuming energy and the adjustment of difficulty to win.
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