Cryptocurrency for Dummies: Understanding Bitcoin and the blockchain technology

Throughout history, humanity has grappled with the challenge of trust, from ancient tales of betrayal to modern-day economic crises. Middlemen emerged to bridge this trust gap, yet their services often proved costly, leaving many excluded from financial security.

The rise of the internet initially promised a democratized exchange of information, only to be overshadowed by corporate dominance and data exploitation. Then, in 2008, the world was rocked by a financial meltdown, exposing the fragility of traditional banking systems and leaving countless individuals devastated.

It was in the wake of this crisis that Satoshi Nakamoto unveiled the revolutionary Bitcoin whitepaper—a beacon of hope for a financial system impervious to corruption. Bitcoin, the pioneer of cryptocurrency, represents a new era of digital currency, transcending physical boundaries and challenging the status quo of traditional money.

But Bitcoin is just one facet of a larger innovation: blockchain technology. A blockchain is not merely a chain of digital blocks; it is a decentralized ledger, a digital backbone of trust and transparency. Unlike traditional ledgers, which are prone to manipulation and control, blockchain operates autonomously, distributed across a network of users.

Much like the human body has its fundamental components, so too does a blockchain possess six core principles encoded within its very fabric. These principles serve as the bedrock of its functionality, ensuring security, transparency, and decentralization.

In this comprehensive guide, we delve into the heart of Bitcoin and blockchain technology, demystifying complex concepts and empowering readers to grasp the transformative potential of this digital frontier.

By the end of this journey, you will not only comprehend the fundamentals of Bitcoin but also appreciate the intricate workings of its underlying infrastructure, paving the way for a deeper understanding of the decentralized revolution.

The 6 Principles of Blockchain: How Cryptocurrency Works

The six principles of blockchain are the underlying technology of any cryptocurrency, such as Bitcoin, Ethereum, Solana, etc. These principles make digital money possible.

Here are some of these principles, how they work and how they began the evolution of a new financial system that changed the world.

1. Network Integrity

The dictionary definition of integrity is honesty. Unfortunately, the world is imperfect, and not everyone can be trusted. Malicious actors exist everywhere, seeking to exploit others.

To establish trust among individuals, banks emerged as intermediaries, promising security. However, the downside of a central authority controlling finances and identities is that there could be a lack of transparency—the looming cause of the 2008 financial crisis.

So the question is, what happens when a few of these corporations decide to let their greed take the better of them and unleash the same mayhem as witnessed earlier? These were the questions raised by Satoshi Nakamoto, and he solved the problem with the introduction of Blockchain and Bitcoin.

Blockchain will act as the intermediary (replacing the need for banks), while Bitcoin runs as a digital currency distributed on this new ledger. The introduction of Blockchain meant that no one was in control of your finances, and everything was in your hands.

As this new system system functions, there is a more efficient method. This improved approach to transactions, known as networked integrity, eliminates the need for intermediaries. Protocols built into the network ensure honesty, regardless of the participants' morals.

2. Distributed Power

Blockchain technology is a type of ledger. Unlike traditional ledgers that store data centrally, blockchain data is broadcast and distributed across a network of participants.

Imagine a household as a blockchain protocol and family members as the users. Traditionally, a designated person manages the grocery list and is responsible for purchasing groceries, storing them, tracking the budget and expenses, and maintaining a private record book. This centralized system resembles traditional banking structures.

Now, consider an alternative system where the grocery list is photocopied and distributed to everyone in the household. Every time a new item is bought, the list is updated, ensuring everyone has a current and accurate record. This distributed approach represents the core concept of blockchain.

The Bitcoin blockchain functions similarly to the shared grocery list. It displays all transactions occurring within the Bitcoin network. Unlike traditional systems with central control, the network operates collaboratively.

Every transaction on the Bitcoin network is visible to all participants. This transparency prevents cheating, as everyone possesses a complete record of transactions. It also enables verification of balances and transaction history, similar to how banks track account activity.

3. Provision of Value

Blockchain technology utilizes tokens of value (cryptocurrencies) to incentivize participation. Users receive rewards for conducting transactions on the platform, encouraging continued engagement. These rewards are distributed through mechanisms like proof-of-work and proof-of-stake.

Consider the grocery shopping scenario announced earlier: a family member arrives home with groceries as a surprise. They announce a reward for whoever unpacks and stores the groceries (organizing pantry items, washing and storing refrigerated items).

Everyone shows interest, but one individual begins the task first. Upon completion, they take a picture as verification and present it to everyone else. Everyone acknowledges the completion, and the reward is provided.

Similarly, on a blockchain network, the first participant to solve cryptographic puzzles and add a transaction to a block receives a reward. This process, analogous to earning a reward for unpacking groceries, is known as Crypto mining.

4. Security

Security is crucial to blockchain technology. Traditionally, a centralized body (the owner of the database and platform) is responsible for security. Malicious actors can access vast amounts of private data if this central security is breached.

Blockchain technology eliminates this central entity, enhancing security. Information is stored across multiple devices called nodes. These nodes verify transactions and ensure the smooth operation of the network.

While not completely unhackable, the resources required to attack a blockchain network are typically much greater than any potential gains. Imagine spending much money to steal a much smaller amount - it wouldn't be profitable.

One potential vulnerability exists in a cryptocurrency term described as a 51% attack, where a miner controls more than half of the network's processing power. However, this requires immense computing resources, making it very expensive for an attacker.

The system itself discourages malicious behaviour. Miners are rewarded for adding valid blocks to the blockchain. If a miner attempted to manipulate the system with a fraudulent block, the network would reject it, wasting their resources and denying them a reward. Malicious miners find it more profitable to follow the rules and earn legitimate rewards than to risk destroying the entire system and their holdings.

5. Privacy and Preservation of Rights

The concepts of privacy and rights preservation are intertwined within blockchain technology.

Every Earth inhabitant possesses a set of fundamental rights known as human rights. These rights ensure respectful treatment regardless of race, sex, nationality, ethnicity, language, religion, or any other status. They are the foundation of civilization.

The Internet has both benefits and drawbacks. One drawback is government surveillance, which violates human rights. Every online interaction leaves a digital trail, and anyone with sufficient resources can collect this data, violating human rights.

Traditional Internet lacks privacy. Companies that provide access to the internet store user data and sell it for profit, disregarding user safety or compensation.

Blockchain addresses this security concern. Users can interact on the blockchain without providing government identification or sensitive information. Upon registration, users receive a pseudonymous identity, concealing their real identity.

This pseudonymous identity allows users to interact freely on the blockchain using public addresses. A single user can own multiple public addresses for anonymous interaction.

Transactions occur pseudonymously. Smart contracts, self-executing programs triggered by predefined conditions, enforce these transactions without human intervention or intermediaries.

6. Everyone is Welcome to the Party

The final principle of blockchain technology is that it is non-discriminatory. It does not exclude users based on race, ethnicity, or financial history. Unlike traditional financial systems with eligibility requirements, blockchain offers open access.

Statistics show that over 2 billion people globally lack access to traditional banking services due to various limitations. Blockchain removes these barriers, welcoming all users.

Furthermore, blockchain operates without borders. Users from any country can conduct transactions, bypassing the complexities of traditional international finance.

Conclusion

Blockchain technology is not a recent invention. It existed for some time before gaining widespread recognition due to Satoshi Nakamoto's use of it in creating Bitcoin. Blockchain empowers users by returning control. Users deserve compensation for their data and the freedom to use it as they see fit.

However, a question remains: has Satoshi's vision of a fully decentralized financial system materialized?

The answer is complex. While Bitcoin and other cryptocurrencies offer a level of decentralization absent in traditional finance, some argue it is insufficient due to persistent issues like the blockchain trilemma.

A few mining pools control a significant portion of Bitcoin's hashing power, raising concerns about potential manipulation. Additionally, cryptocurrency exchanges, acting as gateways for buying and selling digital assets, can become centralized points of vulnerability.

The future of blockchain is uncertain. Regulations and innovations could lead to a more distributed cryptocurrency landscape, aligning closer with Satoshi's original vision. Alternatively, powerful entities could emerge within the blockchain space, mirroring the very problems Bitcoin was designed to address.

The outcome will likely depend on a combination of factors: technological advancements, regulatory decisions, solutions to the blockchain trilemma, and the choices made by users and developers.

One thing is certain: the fight for decentralization in the digital age is far from over; this is just the beginning.