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Friday, May 16, 2014

How Bitcoin works?


No need to read, just watch this video :-)



Bitcoin is virtual money, but without any central bank or authority to maintain or vouch for your account. Instead it’s all done in a decentralized manner using cryptography.



It’s traditional to explain anything involving cryptography using Bob and Alice, so I’ll do the same. To send or receive bitcoins, both Bob and Alice will run a bitcoin client software on their computer and they will create bitcoin wallets -- each wallet is a collection of bitcoin addresses and each bitcoin address can hold some bitcoins.


Each bitcoin address is a unique public key that’s paired with its private key and you can create a bitcoin address for each transaction or use an existing address.


For Alice to pay Bob some bitcoin, Bob will send Alice a bitcoin address and Alice will use her bitcoin client to initiate a transfer from one of her bitcoin addresses to Bob’s. The client uses the private key associated with Alice’s bitcoin address to sign the transaction and sends it out to all the bitcoin miners on the network.


The bitcoin miners uses Alice’s public key to verify that the transaction is coming from a legitimate owner. They bundle this transaction with many others occurring within a 10-minute timeframe and try to add this new block of transactions to a public ledger, called “block chain”


.This step requires the software running on the miner’s computers to compute what is called a “hash” of the transaction block along with a number (called a “nonce”) so that the hash starts with a certain number of zeros. The more the number of zeros, the tougher the problem because the miners have to keep trying many, many “nonces” until they get a hash with the required number of zeros up front, that then has to be accepted by majority of the miners. As a reward for successfully adding a block of transactions to the blockchain, the block includes a transaction giving the winning miner a number of bitcoins (currently 25, but this will reduce over time).

Once a block of transactions is added to the block chain it’s computationally too time-consuming to alter it, which ensures that no one can double-spend bitcoins.

So, that in a nutshell, is how bitcoin works.

Here's some more information to help you...

The original paper by Satoshi Nakamoto: Bitcoin: A Peer-to-Peer Electronic Cash System

Dec 2013 Chicago Fed letter on Bitcoin: Bitcoin: A primer

To get started with using Bitcoin:Getting started with Bitcoin

To get started with Bitcoin mining: Getting Started from bitcoinmining.com